LITIGATION FUNDS: THE MYTH OF INCREASING LITIGATION

FONDOS DE LITIGIOS

Litigation funds. The myth of increasing litigation.

One of the main arguments made by detractors of litigation funds is that they would exponentially increase litigation. In recent months, I have attended several forums where this issue has been discussed.

The arguments for this statement are simple and, out of context, might have certain logic: (i) since litigation funds will bear the cost of the lawsuits, lawsuits that would not be filed before due to lack of resources could now be filed; (ii) funders would finance lawsuits that would not be filed before in order to try their luck; and (iii) funders would finance frivolous lawsuits, with the objective of trying to economically drown the opposing party and force them to reach a settlement.

In this blog I will try to give some ideas to dismantle this myth and convince the readers that, from an analysis of all the circumstances as a whole, these arguments are not realistic. Even less so, if we are talking about a specialist funder focused on complex litigation and on the Spanish market as Procurator Litigation Advisors (PLA).

(i) Lack of resources and access to justice

In Spain, as in many other countries with a continental legal system, competition in the provision of legal services is fierce.

This, together with cultural and others factors specific to our own legal system (legal aid, high number of lawyers, costs regime, etc.), means that in most cases it is possible to obtain very competitive fee proposals in terms of price and that it is even common to provide professional services based on quota litis or conditional fee agreements (“no win, no fee”).

With a few exceptions, access to justice does not seem to be a problem in our country. The potential impact of litigation funders in terms of an eventual increase in litigation would be minimal, if any.

However, litigation funders can help individuals and companies to finance certain disputes which, due to their exceptionality and very high costs, would really prevent access to justice, either in absolute terms (because of the impossibility of litigating due to lacking of the necessary financial resources) or in adequate quality terms (because of the lack of resources to cover the costs of the most appropriate and suitable professionals to defend their interests in the specific case).

Due to their high complexity and quantum, these litigations are certainly scarce, so in no way could it be simplistically stated that litigation funds lead to an increase in litigation. The impact would be almost imperceptible.

In short, far from causing an increase in litigation, in exceptional cases and provided there is a good cause of action, litigation funders can serve a social purpose helping individuals and businesses to have access to justice under appropriate conditions. Access to justice, which, incidentally, is a fundamental right recognized in Article 24 of the Spanish Constitution.

(ii) Trying one’s luck is not a business

With all due respect, I believe that those who claim that litigation funders decide to fund claims to try their luck are unaware of the true functioning of litigation funds.

Litigation funds are serious investment vehicles. They are not financial “chiringuitos”. The funds’ moneybelongs to their institutional investors, to whom the funds’ managers have a duty of diligence, loyalty and to make the appropriate investments in accordance with the established investment policies, always in the best interest of those investors.

In addition, the processes of due diligence and approval of investments by the corresponding bodies of the funds are carried out in a professional and thorough manner, with investment decisions being made on the basis of an objective analysis of the benefits and risks of the investment. There is a lot of effort and workbehind every investment decision. This is not speculation, but investments based on objective parameters and justified in each specific case.

I always like to ask fellow professionals if they would risk their own money to fund a lawsuit with little chanceof success, just to see if it “goes well”. The answer to this question is easily intuited.

Let’s not forget that behind the money there are investors who have trusted the fund and who expect to get their return. Investors who have risked a certainly relevant amount of money and who do not expect their money to be used to “try their luck”. And let’s not forget the responsibility that the managers or advisors of such funds might incur if they act in that way.

(iii) Frivolous lawsuits: a merely theoretical risk

For the same reasons as those outlined in (ii) above, to which I refer, the risk of frivolous lawsuits is more theoretical than practical.

Serious investment funders do not make their investment decisions based on subjective parameters or with the intention of “drowning” the opponent, in a performance far from the canons of good faith. Not only the reputational risk does not allow this, but such actions would almost certainly result in the “punishment” of going out of business.

Additionally, there are at least two particularities of the Spanish procedural system that mitigate the risk of possible frivolous lawsuits almost completely.

First, our special regime of procedural costs regarding lawyers’ fees. Regardless of the fees that the clientagrees to pay or actually pays to its lawyer, our system simply tries to determine the burden of costs that the loser party must bear. In practice, it comes down to apply a given percentage to the quantum of the claim (even though it is avoided to allude to the guiding scales of the Bar Associations, after some of them were declared contrary to Competition Law).

This contrasts with the regimes in other countries where the main litigation funders operate, such as England and Wales, where legal costs are usually assessed at a quite similar amount to that actually paid to the client’s lawyer, taking into consideration the hours of work devoted to the matter. Due to the high cost of legal fees and the high risk of adverse costs orders -among other factors specific to their legal system-, many lawsuits are not defended and settlements are very frequent (more than 80% of the civil claims filed are settled).

Another example is the United States, where instead of the principle of “costs follow the event” as a generalcriterion for awarding costs, the so-called American Rule applies and the general rule is that each party bears its own costs. The rationale behind this rule is that plaintiffs should not be discouraged from litigating for fear of being ordered to pay to prohibitive adverse costs; however, the reality is that paying the party’s own legal fees already entails a cost that is within the reach of a few only. This could encourage parties with greater resources to file lawsuits with the aim to force defendants with fewer resources to reach settlements just to avoid paying fees to their own lawyers. On the other hand, defendants may also benefit from litigation funding to cover their defence costs.

Unlike what could happen in the aforementioned countries, it is clear that the limitation of the recoverable legal costs in Spain minimizes the risk (i) of insubstantial claims being filed, since the cost of litigating couldfar exceed the amounts that would be recovered by way of an adverse costs order; and (ii) of the defendantbeing forced to reach a settlement only for fear of an adverse costs order.

Secondly, I consider that in Spain these risks are further minimized due to the great limitations in terms of thepersons legally entitled to file representative actions for the protection of the collective interests and consumers, as well as in terms of the procedural regulation of these representative actions in general. The impossibility of filing American-style class actions is another factor that substantially mitigates the risk of frivolous lawsuits.

That said, I am aware that, as in any other trade or profession, there can always be persons or entities -in this case funders- that act in a non- professional or morally reprehensible manner. But I insist, as in any other trade or profession. This is something inherent to human nature that occurs

-and unfortunately, will continue to occur- in all areas and sectors.

In short, funding frivolous lawsuits is not the business of litigation funders, even less so of those whose purpose is to invest in complex litigation – the vast majority – and whose main area of operation is Spain. The alleged risk is theoretical and hardly occurs in practice.

Fernando Gragera Vice President

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