Basic strategic considerations in the funding of disputes
October 2014 | SPECIAL REPORT: INTERNATIONAL DISPUTE RESOLUTION
Financier Worldwide Magazine
In the post-crisis environment, where at one and the same time budgets are tighter and the consequences of disputes are often more business-critical, corporate clients including financial and investment firms have rightly sought greater budgetary and billing discipline from their counsel, and law firms have (sometimes grudgingly) begun to offer alternative fee structures and other measures designed to meet those demands. At the same time, third-party dispute funding firms have taken a prominent place on the scene, and have also begun to offer their services to clients in the financial and investment industry. The available dispute funding options, however, are not always deployed to their best effect. Decisions regarding dispute billing, provisioning and funding are often made on the eve of a dispute, or after it has already begun, and in an ‘intuitive’ and imprecise way. This brief article sets forth certain considerations that are foundational and not terribly complicated, but that should be addressed as early as possible, to guide dispute billing and funding discussions and tailor arrangements to different disputes’ particular needs.
Every retention of counsel for a dispute should begin with the recognition that different substantive disputes entail different needs. Certain basic considerations will define these needs, in any dispute for any corporate client. These basic factors include, first, the client’s status as a claimant or a respondent: if the client is bringing a claim, that will usually entail ‘playing offence’ procedurally (including seeking broader disclosures), and if the client is defending against a claim, that will entail an active defence (often including aggressive dismissal or summary judgment motion practice). Second, the client should discern whether the dispute implicates its non-pecuniary interests, such as its relationships with regulators or with the adversary (who might be a valued business partner), reputational concerns, and possibly the defence of key personnel who face individual costs or liabilities. And third, of course, the amount in controversy, and its relation to the needs of the case, will be a key driver of strategic decisions; fundamentally, if funding the dispute will cost more than settling (and if non-pecuniary interests do not require the fight), then of course counsel should assist in seeking an early and optimal agreed resolution. As the prominent early 20th-century American attorney Elihu Root is reputed to have said, “About half the practice of a decent lawyer consists in telling would-be clients that they are being damned fools and should stop.”
Corporate clients, including international banking and investment concerns, now enjoy a lengthier ‘menu’ of dispute billing and funding options than ever before. The fee arrangements now offered by law firms – including those of the highest calibre – range from traditional ‘straight hourly’ billing to fixed fees, and also include innovative intermediate structures such as fee collars (both ‘tight’ and ‘loose’) and staged budgets that can help to ensure both that a matter is adequately provisioned, and that the lawyer’s budgetary incentives are aligned with those of the client. Corporate clients are now also making greater use of contingency fee arrangements in appropriate cases, and particularly as part of third-party funding structures. Such structures involve a third-party firm that specialises in funding disputes, and that funds the payment of counsel’s fees and costs in exchange for a share of any recovery. In such arrangements, counsel also usually agree to bill their fees at a discount, in exchange for a small contingency share of any recovery – thus, again, ensuring that the interests of the lawyers, the client and the funder are all aligned. And in any arrangement, project-style dispute budgeting is now virtually de rigeur.
Financial and investment firms, in particular, generally face a broad but reasonably well-defined universe of potential disputes. The sorts of disputes that such firms most often encounter include: (i) relatively simple financial or commercial disputes, such as enforcement of limited partnership agreements, credit agreements, or security agreements; (ii) civil disputes that might otherwise be simple, but for the presence of issues involving potential fraud or other wrongdoing and thus the potential for related regulatory or criminal issues; and (iii) regulatory and white-collar criminal defence matters.
These different sorts of matters, in turn, present different needs in terms of work and resources. A simple financial or commercial dispute is especially amenable to predictive budgeting and provisioning, and to fee arrangements such as ‘tight’ collars that offer considerable cost predictability from the outset. This is especially so if the dispute is to be heard in arbitration rather than litigation, minimising the opportunities for adversaries to interpose unpredictable and cost-multiplying procedural gambits. And indeed, international financial and investment firms are now turning more and more to arbitration for just such budgetary reasons (along with reasons of confidentiality, cross-cultural sensibility and adjudicators’ expertise). Especially routine disputes can also properly be the subject of fixed fee agreements. Because these relatively simple disputes usually make up the bulk of a financial firm’s docket (at least in terms of numbers of matters), predictive budgeting and rigorous fee arrangements can do much to make the firm’s overall dispute provisioning more accurate and less burdensome. Indeed (and particularly with the use of third-party dispute funding, which by its terms requires such discipline), these measures can help to transform a firm’s legal function into something of a profit centre for previously-distressed assets.
Where otherwise-simple civil disputes involve issues of fraud or other wrongdoing, and possible risk of regulatory or criminal implications, other sorts of work will often be advisable. In such disputes, clients are often well-served by a more searching pre-dispute internal investigation of the matter (where the allegations of wrongdoing are directed toward its own personnel), or by independent professional investigation of its adversary’s conduct (where the opponent is the wrongdoer). These additional investigative needs entail additional costs, and the injection of issues of fraud or wrongdoing into the dispute will also often entail additional procedural and substantive complications (such as broader disclosures, joinder of additional parties including individuals, and alter ego issues). Such ‘grey’ matters also often implicate non-pecuniary interests of the company such as reputational risks. Finally, by their nature, issues of fraud, wrongdoing and inevitably concealment make these disputes less substantively predictable. For these reasons, the budgetary needs of civil matters involving issues of potential serious wrongdoing are often difficult to predict – for both clients and their counsel. The prospects of success in such matters are best served by billing arrangements that recognise this difficulty, whether straight hourly arrangements with well-monitored budgets, or alternative structures such as ‘loose’ collars and staged budgets that provide for greater discipline in more predictable phases of the dispute and more flexibility in less predictable stages. On the other hand, because such disputes sometimes hold out the prospect of returns over and above the quantum of direct damages, due to the possibility of consequential damages or punitive damages, third-party funders are sometimes willing to take on much of this risk, and the outcome of the case can potentially justify the substantial difficulties.
Finally, regulatory defence matters and white-collar criminal matters present an entirely different profile. Because of the potentially severe consequences of an unfavourable result, firms facing these matters must necessarily presume from the outset that the company will need attorneys who are prepared to defend the company and its personnel at a hearing or trial. However, the reality is that very few such matters do proceed to trial, because of the powerful leverage that regulators and prosecutors can bring to bear. Thus, the fees of counsel for detailed procedural work – which make up the bulk of the costs in most civil disputes – are often relatively light in regulatory and white-collar matters. In itself this is a blessing, but it also leaves clients and counsel to try to predict the budgetary needs of searching internal investigations and responses to the unpredictable information demands of regulators and law enforcement authorities. Furthermore, such matters often require key personnel to retain their own counsel, who normally will cooperate with the company’s counsel but will also usually need to be paid by the company itself (albeit often with the assistance of a directors’ and officers’ insurance policy). Finally, by definition such matters always place the client in a defensive posture, and often involve business-critical non-monetary concerns as well as very substantial pecuniary risks. Accordingly, clients in these cases are usually ill-served by a dispute funding strategy that inhibits their chosen counsel’s ability to muster a vigorous and complete defence and to independently assess and advise the client regarding the depth and scope of its liability. This does not obviate the need for work planning and budgeting, at least for stages of the process as they arise. But inevitably, such cases are among the least amenable to predictive budgeting for the full duration of the matter, and the least suited to arrangements that condition counsel’s remuneration on some pre-determined definition of success.
Such matters, most of all, point up the necessity for both clients and counsel to be candid with each other about their needs throughout the life of a case – and commercially reasonable in their relations. Counsel in particular must be careful to police costs and to avoid relying upon the unpredictability of disputes as an excuse for always-upward adjustments to budget. No funding strategy can dispense with this necessity. But attention to the particular budgetary needs of particular sorts of matters can help to tailor costs to requirements from the outset – and thus to more easily maintain such candour and reasonableness, and improve the prospects of victory.
Timothy McCarthy is a partner at Mishcon de Reya New York LLP. He can be contacted on +1 (212) 612 3266 or by email: firstname.lastname@example.org.
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Mishcon de Reya New York LLP