Insolvency litigation briefing - November 2014

27 November 2014

Wragge Lawrence Graham & Co's dedicated insolvency litigation team bring you their monthly update on the cases and issues affecting the insolvency and fraud investigation industry.

An after-the-event (ATE) insurance policy suffices as security for costs of appeal

This was the finding in GSM Export (UK) Ltd (in Administration) and another v Revenue & Customs Commissioners, in which GSM Export (UK) Ltd (GSM) appealed against a refusal of repayment of input tax. Two months before the appeal was due to be heard, the Revenue & Customs Commissioners (Commissioners) applied for security for costs under the Civil Procedure Rules (CPR) 25.12.

CPR 25.12 enables a defendant (or respondent to an appeal) to apply for security for its costs of the proceedings (or appeal) if there is reason to believe the claimant (or appellant) would be unable to pay the defendant's (or respondent's) costs if unsuccessful (CPR 25.13(c)).

Here the appellants, GSM, were in administration. Whether the threshold test in CPR 25.13(c) was met in this case turned on whether the terms of an ATE insurance policy GSM had obtained to cover the Commissioners' costs if the appeal was unsuccessful provided sufficient protection so that no additional security was required.

The Commissioners argued that it would not because the insurers, under the terms of the policy, had the unfettered right to determine whether the claim had been successful or not, and so whether a payment of the costs would be made. The policy was also voidable for a number of reasons over which the Commissioners had no control.

It was held that the policy provided a comprehensive definition of "successful" and "unsuccessful" - being whether a judgment was obtained entitling GSM to receive monies which were sufficient to cover its own disbursements, the premium and the defendants' costs - or not. The insurers did not therefore have an unfettered discretion to determine success. It was misconceived to think a bona fide insurer would determine GSM's claim had not been unsuccessful where its appeal had been dismissed.

As to the voidable events under the policy, they were theoretical risks but it would not be in GSM's commercial interests to bring them about.

Even if the policy was avoided or cancelled, the insurer would be liable to indemnify against the Commissioners' costs incurred before any termination. Such a payment may well be impressed with a Quistclose trust being a payment made to GSM for a specific purpose, i.e. the discharge of the Commissioners' costs. There was therefore no real risk that such a payment would fall into the assets available to all creditors to which the Commissioners would have no preferential or prior entitlement.

The threshold test had not, therefore, been met. There was no reason to believe the Commissioners' costs would not be met. Even if the threshold test had been met, it was held that the fact the Commissioners had left the application so late (permission to appeal having been granted in June 2013) would have left GSM little time to arrange any additional security. Bearing the delay in mind, it would not be in the interests of justice to make such an order.

Things to consider

An ATE insurance policy is unlikely to provide better security than cash or its equivalent. However, the policy can, depending upon its terms, be sufficient to convince a court that there is no reason to believe the defendant's cost won't be paid and so defeat a security for costs application, or at least go some way to satisfying it.

For an ATE policy to be acceptable, the termination provisions would need to stand up to scrutiny, as would the provisions for indemnifying costs incurred before termination of the policy. It must be demonstrable that the policy does actually provide some security.

The courts can and will order professional funders of hopeless litigation to pay costs on an indemnity basis

In Excalibur Ventures LLC (Claimant) v Texas Keystone INC and others (Defendants/Costs Claimants) & Psari Holdings Ltd & 8 others (Costs Defendants), Excalibur's claim for US$1.6 billion in relation to an alleged interest in a profitable oil field in Kurdistan was dismissed, with indemnity costs ordered against it.

The court found Excalibur's claim to be speculative, opportunistic and advanced at great length with no foundation in fact or law. It had been met with a resounding, and indeed catastrophic, defeat. Excalibur's claim had been funded by a number of professional funders that had provided tranches of funding at different times and for different purposes, including security for the defendants' costs. The defendants joined the funders to the proceedings and sought costs orders against them.

The High Court found that the pursuit of an objectively hopeless claim was a ground for indemnity costs to be ordered, against both the party and its funders. There was no reason to distinguish between the funders who had all hoped to derive large sums from the claim which could not have been brought or continued without their assistance.

Each tranche of funding was an effective cause of the litigation continuing and justice required that the funders should bear the costs they had caused the defendants to incur, assessed on the same basis applicable to the party they funded. No impropriety or reprehensible behaviour on behalf of the funders themselves was required - to hold otherwise would limit the courts' discretion which was intended to be wide. The court's view was that the funders should follow the fortunes of those they funded, even though they may not know of the faults and failings of those they fund.

The court also considered the application of the "Arkin" cap. The Arkin case (Arkin v Borchard Lines Ltd and others) confirmed that a professional funder should be liable for the other side's costs only to the same extent as it has funded the costs of the losing party.

The court held that the cap should be measured not only by the amount that the funder had contributed to the funded party's costs but also any sum contributed to provide security for the opponent's costs. Both amounts were a form of funding of the claim (which enabled it to proceed) in exchange for a commercial return.

The funders were ordered to pay costs from the date they had begun funding as each tranche of funding caused the defendants to continue to incur costs.

Things to consider

Clearly no commercial funder wants to finance a hopeless case. It is therefore unlikely that this decision will cause unacceptable hardship for funders generally but it is nonetheless interesting.

Cases have to be outside the norm for indemnity costs to be awarded. The rigorous steps that most funders take to analyse the law, facts and evidence at the start of a case, and at relevant key stages throughout, should mean that such cases are rarely commercially funded at all, let alone through to trial. The decision may however mean some borderline cases will in future fall on the wrong side of the line for commercial funders.

What also needs to be avoided is the funder stepping over the champerty and maintenance line. Being overly involved could make a funding arrangement unenforceable and potentially open funders up to an unlimited costs' liability for the opposing party's costs, should the claim fail.

The remit of disclosure orders under section 236 and the distinction between information and documentation

In Re: Comet Group Ltd (in liquidation); Khan and others v Whirlpool (UK) Ltd and another, the Chancery Division granted the liquidators' application for disclosure of documents under s236 Insolvency Act 1986 (s236) in order to help them investigate possible claims against the respondents.

The facts

The respondents, Whirlpool (UK) Ltd (Whirlpool) and Embraco Europe srl (Embraco) were both part of the Whirlpool corporate group which manufactures and supplies white goods, including fridges and freezers. Embraco manufactured and supplied refrigeration compressors to Whirlpool group companies including, indirectly, Whirlpool. Whirlpool then sold finished white goods to Comet, the electrical retailer, among others.

In December 2011, the European Commission found that Embraco and its Italian parent company had infringed EU competition law by participating in a cartel. The cartel activity was believed to have inflated prices paid by Whirlpool group companies for the refrigeration compressors manufactured by Embraco. The Whirlpool participants were fined more than €54 million for their participation in the cartel.

The liquidators of Comet applied to court for an order under s236 that the respondents disclose papers which, they asserted, they required in order to assess whether or not Comet had suffered loss as a result of the cartel activity and to decide whether or not to bring proceedings in relation to the same.

Whirlpool contested the application on a number of grounds, arguing that the court did not have the jurisdiction to grant the order sought; alternatively that it should not exercise its discretion to do so.

Jurisdiction

First, Whirlpool submitted that the court did not have the jurisdiction to order production of anything other than material relating to the insolvent company, and that information on the respondents' sales and pricing (which the liquidators had also requested) did not fall into that category.

Secondly, it argued that there was no jurisdiction to order the provision of information (as opposed to documents) except by granting an order for summons - which the liquidators had not sought.

The court was satisfied that, in the circumstances of Embraco's admitted participation in a cartel, documents relating to the price at which compressors were sold could have a direct bearing on Comet's affairs, and that therefore giving such disclosure would support the proper carrying out of the liquidators' functions.

As to the second submission, the court agreed that there was no jurisdiction to order supply of information other than pursuant to a summons. By agreement with the liquidators, it concluded that the order would be restricted to "documents containing" information in the categories the liquidators had sought.

Discretion

Turning to the exercise of the court's discretion, the respondents argued that disclosure was not required as it was evident from the liquidators' pre-action correspondence that they had already decided to issue proceedings and had formed a view on quantum. In the circumstances, the documents sought could not reasonably be required for the purpose of assessing losses or deciding whether or not to bring proceedings.

They also argued that it would be oppressive to the respondents to order disclosure, as it would provide the liquidators with information which ordinarily would only become available at a later stage in proceedings and would also give the liquidators an unfair advantage and allow them to obtain information without giving security for costs.

Having weighed up the submissions, the judge was satisfied that the liquidators did reasonably require the documents sought in order to carry out their statutory functions. He also found that, in light of the admitted infringement by Embraco, the only advantage to be gained by the liquidators was early sight of documentation, which might even lead to a saving of costs. In light of Embraco's admitted participation in the cartel, Embraco must already have collated the information being sought. As such, it would not be oppressive for the respondents to produce the documents requested and the court granted an order accordingly.

Things to consider

Recently, there have been several cases going through the courts relating to s236, seeking to clarify its reach and ambit. It is clear that s236 requests are not limited to reconstituting the insolvent company's knowledge but, conversely, the request cannot be so widely drafted (with the aim of capturing all and everything) as to be oppressive on the respondent. The key is to request specific documentation, as far as possible and, when seeking information (rather than documentation), doing so by means of court examination.


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