Litigation finance is a form of third-party funding to assist companies in pursuing litigation and arbitration claims at a time when companies may lack the financial liquidity to do so. Essentially, in this concept of funding, an unrelated third-party funds a litigation or arbitration proceeding in exchange for a potentially profitable return from the court decree or award. The expectation is that when the arbitral award is received, a percentage of it will be shared with the third-party funder. The funder can be either an individual or a company.
Global trends
According to a Custom Market Insights report, the global litigation funding investment market was estimated at $12.2 billion in 2022 and is projected to reach approximately $25.8 billion by 2030, with a compound annual growth rate of nearly 9 per cent between 2022 and 2030.
Unlike India, which does not have a rigid framework in place for litigation funding, global markets have established court procedures and policies for the same. The courts of England and Wales have officially acknowledged the concept of litigation funding, along with a cap on funders’ liability regarding costs (Arkin cap), in case of an adverse court decision. Similarly, Singapore amended its Civil Law Act in 2017, legalising third-party funding for arbitration and associated proceedings. In 2017, Hong Kong also approved third-party funding for arbitration. Meanwhile, in a landmark judgement passed in 2006, the High Court of Australia held that sufficient safeguards were already in place to dispel abuse by a litigation finance firm. Furthermore, the court ruled that a litigation finance firm was not contrary to public policy, but rather, supported it as it promoted access to justice. Leading the way is the US, where the jurisdiction allows third-party funders and attorneys to use a contingent fee (percentage basis) for certain cases, such as personal injuries. Under the current Bar Council Rules, the contingent fee is strictly prohibited in India.
Legal and regulatory landscape in India
According to the World Bank’s Ease of Doing Business Report, resolving a commercial dispute through a lower court (local first instance court) in India takes 1,445 days on an average (approximately four years). Moreover, it usually takes nearly 15 years for a case to come to a logical conclusion. The report shows that the cost of litigation in India is approximately 31 per cent of the claim value. This is around 10 per cent higher compared to Organisation for Economic Cooperation and Development countries. According to recently reported data in the Indian Parliament by the Union Minister for Law and Justice, nearly 69,511 cases are pending before the Supreme Court, 5.9 million cases are pending in various high courts and more than 43.2 million cases are pending in subordinate courts. This implies that there is a tremendous opportunity for third-party financers and ailing companies that are struggling to pursue litigations.
In India, third-party litigation funding is recognised under the Code of Civil Procedure, 1908, in some states such as Madhya Pradesh, Maharashtra, Gujarat and Uttar Pradesh, through respective state amendments to “Order XXV Rules 1 and 3” of the Code of Civil Procedure. The Indian litigation market is characterised by very high risks, where the expected outcome and rate of return from a legal dispute are difficult to predict. Further, the absence of formal laws, rules or guidelines in the country creates uncertainty and insecurities.
A relevant judicial precedent is the Bar Council of India versus AK Balaji 2018 case, wherein the Supreme Court of India acknowledged that there is no restriction on third parties funding litigation and getting repaid after the outcome of the litigation. Another notable precedent was the case between Tomorrow Sales Private Limited and SBS Holdings and Others, 2023, where the High Court of Delhi recognised that third-party financing is essential to ensure access to justice. The court underscored that in the absence of the said financing, individuals with valid claims would be unable to pursue the recovery of amounts that are legitimately due. Although Indian courts acknowledge the concept of third-party funding, the country still lacks formal rules or guidelines for litigation funding codified under its legal framework.
Dispute categorisation
Disputes can be broadly classified into three categories: prolonging or idling, change of scope and change of law claims. Among these, prolonging or idling claims are the most frequent and involve the largest average claim amount. These claims arise due to idling and other costs incurred by contractors because of delays in handing over possession of a construction site. Under change of scope claims, a contractor demands additional compensation due to changes in the project scope, including changes in rates, extra items, impact of by-laws, changes in legislations, price variation claims and underutilisation/disruption/suspension. Change in law claims are typically made by developers against authorities such as the National Highway Authority of India (NHAI), Solar Energy Corporation of India Limited, the Airports Authority of India and discoms.
Experience so far
Despite the opportunities in India, so far, only a handful of third-party financing transactions have occurred due to uncertainties in recovery time frames, geographical diversity, information asymmetry for diligence, etc. According to information in the public domain, the first third-party transaction transpired between Patel Engineering Limited and Eight Capital Management in 2017. Under this, the transfer/assignment of rights in claims and real estate rights of about Rs 20 billion was directed to a special purpose vehicle (SPV). Eight Capital acquired the controlling stake in the SPV in lieu of 0.01 per cent coupon non-convertible debentures issued to Patel Engineering lenders.
Hindustan Construction Company Limited (HCC) and BlackRock, Inc. reported the second third-party transaction in 2019. Under this, HCC’s claims (largely under litigation with NHAI, NHPC Limited and NTPC Limited) were transferred to an SPV headed by a consortium of investors who held control of the SPV. Additionally, there was a clawback in HCC’s favour for the over-recovered amount. For India, no clear positive or negative takeaways can be accessed from these experiences because the gestation period for recovery of these claims is higher than anticipated and extremely difficult to predict. Further, inflated claims make it difficult to ascertain the actual recovery. The claims are spread across different geographies and jurisdictions, and a uniform approach for these litigations is not feasible. The lack of uniformity in judicial precedents, especially at tribunals and high courts (contradictory judgements from high courts), only increases uncertainties in the litigation landscape and makes it difficult for funders to place a bet.
Pain points
The non-adoption of institutional arbitrations is a key challenge in litigation financing. Due to the lack of adoption of institutional rules, arbitrations do not benefit from even the best international arbitration practices. Meanwhile, most construction disputes involve prolonging claims, which are inflated in most of the cases. As a result, funders/investors are unable to determine the real value of the claims for funding. Apart from this, since the majority of employers in construction arbitration are government entities, challenge to awards in favour of the contractor is inevitable. Delays in the realisation of the award amount deter funders from investing in India-based arbitrations. In most cases, the losing party continues litigation until the matter is finally decided by the Supreme Court.
In sum
Litigation financing provides funding for developers or under-resourced parties in arbitration to present their claims. In addition to this, there is risk-sharing between the funder and the party in arbitration, and an additional scrutiny of claims by the funder to the arbitration. However, despite its huge potential, the country lacks proper litigation financing owing primarily to the time value associated with litigation. Further, a significant proportion of the recoveries goes to the funder, which disincentivises such a financing mechanism. It also leads to potential issues relating to conflict of interest between the funder and the party to arbitration. Going forward, margin funding can be explored for litigation financing. The mechanism for this approach is still being explored.
Based on a presentation by Anurag Dwivedi, Partner, Shardul Amarchand Mangaldas and Company, at a recent India Infrastructure conference
