Litigation Funding in Hong Kong – Out of the shadows at last?

Third-party funding of litigation has been a growth industry in several common law jurisdictions over the last few decades. However, Hong Kong has lagged behind in the development of this industry, most likely due to the fact that in Hong Kong the funding of litigation by a third party with a view to profit could potentially constitute both the tort and the crime of champerty, while many common law jurisdictions with more active litigation funding industries have long since abolished both criminal and tortious liability for champerty.

This update considers the impact of the recent Court of First Instance decision Re Cyberworks Audio Video Technology Ltd [2010] 2 HKLRD 1137 (“Cyberworks“), which has for the first time in Hong Kong provided an explicit publicly available written endorsement of the lawfulness of third-party litigation funding in the context of claims by insolvent companies. Cyberworks is expected to lead to further development of the Hong Kong litigation funding industry. Nevertheless, prospective funders will have to tread carefully for the moment as several questions about the acceptable legal boundaries for the funding of claims by insolvent companies remain to be answered in Hong Kong.

Historical background

The traditional obstacles to third-party funding of litigation in common law jurisdictions were the doctrines prohibiting champerty and maintenance, which dated back to mediaeval England. Maintenance consisted of assisting and encouraging a party in litigation by a person who had neither an interest in the litigation nor lawful justification. Champerty was a form of maintenance where the maintaining party received consideration for the maintenance out of the proceeds of successful litigation. Commercial funding of litigation by third parties would therefore generally fall into the category of champerty. The original imposition of criminal liability for maintenance and champerty appears to have been driven by a fear that allowing third parties to assist financially in litigation would lead to wealthy parties attempting to influence the courts.

The English parliament, perhaps recognising that meddling by the evil Sheriff of Nottingham no longer posed a threat to the administration of justice in England, passed legislation in 1967 to abolish criminal and tortious liability for maintenance and champerty. Other jurisdictions, notably several Australian states, have also abolished champerty and maintenance as both a tort and a crime. However, in Hong Kong tortious and criminal liability for champerty and maintenance has not been formally abolished by statute and, somewhat anachronistically, the authorities appear to be prepared actually to prosecute champerty as a criminal offence. As a previous update discussed, in 2008 21 people, including a solicitor, were charged with offences including conspiracy to commit champerty in connection with a matter involving recovery agents and personal injury claims.

The 1967 abolition of tortious and criminal liability for maintenance and champerty in England did not immediately lead to an explosion of third-party litigation funding in that jurisdiction. Specific words used in the legislation meant that champertous contracts would continue to be unenforceable even if they no longer attracted criminal or tortious liability, which presumably must have been at least slightly off-putting to potential litigation funders. Rather, litigation funding in common law jurisdictions has developed within certain categories of exceptions to the rules against champerty and maintenance. Some of these exceptions predate the abolition of tortious and criminal liability and some have developed incrementally in the decades since.

A particularly popular category of exception has been that relating to claims by insolvent companies. Insolvent companies are by definition in need of funding, so perhaps unsurprisingly the English courts have held since the 19th century that an assignment of a cause of action by an insolvent company to a third party would not run afoul of the prohibitions against champerty and maintenance. The policy justification for this appears to have been that it would allow for pursuit of corporate misfeasors who might otherwise go unpunished, while the technical justification for avoiding the rules against champerty and maintenance was found in the statutory power of a liquidator to sell the property of the insolvent company, including choses in action (as a cause of action is a chose in action).

Assigning the cause or assigning the proceeds?

An important distinction was however drawn by the English courts between assigning the cause of action itself and assigning the mere proceeds of a successful litigation. While assignment of a bare cause of action by the insolvent company was allowed since the 19th century, for a long time there was uncertainty about whether the English courts would allow the assignment of the proceeds of a cause of action. For example, in the case of Grovewood Holding Plc v James Capel & Co Ltd [1995] Ch. 80 (“Grovewood“) it was held that the assignment of the proceeds of a cause of action would be subject to the rules on champerty and maintenance. In contrast, by the mid 1990s the Australian courts had taken a more robust view and held that the proceeds of litigation could also be assigned: Re Movitor Pty Ltd (1996) 19 ACSR 440 (“Re Movitor“). It was this approach by the Australian courts which was probably the driver for the emergence of a relatively large-scale litigation funding industry in Australia. Being able to take an assignment of the proceeds of an action would seem to be more commercially attractive for funders than the relatively bothersome process of having to take an assignment of the cause of action and possibly having to pursue the action in the funder’s own name. The essence of insolvency litigation funding arrangements in Australia therefore now typically revolves around the insolvent company entering into a loan or other facility agreement with the funder, with repayment of the principal and payment of interest to be made from the proceeds of successful litigation. The funder will often also take security over these future proceeds of litigation. (Note that in practice these arrangements will usually be augmented with further features such as insurance arrangements and measures to deal with the priority of any earlier creditors of the company.)

England moves to a more liberal approach

Following the initial divergence between English and Australian approaches (as shown in the respective decisions of Grovewood andRe Movitor), the English courts seem to have subsequently moved to also allowing the assignment of the proceeds of litigation. The recent decision of Rawnsley & Anor v Weatherall Green & Smith North Ltd [2009] EWHC 2482 (Ch) (“Rawnsley”) endorsed the following four principles of law previously set out in Re Oasis Merchandising Services Ltd [1998] Ch 170 (“Oasis“):

1. An outright legal assignment of a cause of action in return for monetary consideration is permitted.
2. An assignment of a cause of action in return for a share of the recovery is permitted.
3. An assignment of the fruits of the cause of action is permissible, provided that the liquidator does not also assign his discretionary power to prosecute the proceedings.1
4. An assignment of the rights and powers of the liquidator himself is not permissible (meaning that in England the assignment of claims in relation to fraudulent trading, transactions at under value and unfair preferences (among others) is not permitted).

Litigation funding finally comes of age in Hong Kong?

Given the growth of the litigation funding industry in other jurisdictions, it was always to be expected that the industry would eventually develop in Hong Kong. However it is fair to say that the industry has not to date had the same profile in Hong Kong that it has enjoyed in other jurisdictions. This is no doubt due to both the continuing potential for criminal liability for champerty and the relative lack of judicial decisions confirming beyond doubt that the traditional common law exceptions for insolvent companies existed in Hong Kong. Several years ago the case of Siegfried Adalbert Unruh v Hans-Joerg Seeberger and AnotherS [2007] 10 HKCFAR contained a thorough discussion of common law principles in relation to champerty and maintenance (including possible exceptions for litigation funding), but this discussion was largely obiter as the case dealt with an agreement to share in the proceeds of an overseas arbitration and was ultimately decided on the point that the jurisdiction in which the arbitration took place did not prohibit champerty.

Subsequently, the litigation surrounding the Akai insolvency indicated that a litigation funding industry was emerging in Hong Kong, but the details of the type of funding structure provided to the liquidator in that case remain confidential. It appears that the liquidators did obtain court approval for the funding, but the approval was not made publicly available.2 Therefore the Akai litigation could not really be regarded as setting a general precedent for the insolvency community in Hong Kong.

Hence the excitement which has greeted the Cyberworks decision, which for the first time sets a clear precedent for the assignment of a cause of action by a Hong Kong company in liquidation. In Cyberworks, Harris J was asked to consider the lawfulness of a liquidator accepting funding for certain proceedings in return for an option to take an assignment of those proceedings and the cause of action on which they are founded. Harris J located the power of the liquidator to sell choses in action of the insolvent company in Section 199(2)(a) of the Companies Ordinance (Cap 32) and Section 3 of the Interpretation and General Clauses Ordinance (Cap 1). Referring to Rawnsley and Oasis, Harris J held that “it is clear that the assignment of a cause of action by a liquidator or a trustee in bankruptcy as part of the type of funding agreement provided by the Option Agreement in the present case is an exception to the prohibition on maintenance and champerty and is lawful”. He also appeared to endorse the Rawnsley and Oasis proposition that assignment of the successful proceeds of a cause of action is also lawful (providing the liquidator retains control), but this point is obiter.

Challenges for the future

Cyberworks is an important step in the development of a litigation funding industry in Hong Kong, but important questions remain to be answered before the industry will be able to stand on as sure a footing as the Australian litigation funding industry. Cyberworks is the decision of a single judge in the court of first instance, and previously other members of the Hong Kong judiciary have expressed disapproval of certain aspects of litigation funding.3 Therefore it would be helpful if practitioners could eventually refer to a Court of Final Appeal decision which would consider in detail the acceptable boundaries of litigation funding, including the question of what degree of control a liquidator must retain when there is an assignment of the proceeds of litigation. In Australia there is considerably more jurisprudence as to the validity of litigation funding agreements, which assists practitioners in drafting such agreements and attempting to ensure that the funder is not perceived as having too much control. Pending such a Court of Final Appeal decision, it would be helpful for the insolvency industry to develop a code of conduct for litigation funding and/or to lobby for a statutory regime covering litigation funding.

Furthermore champerty appears to remain a crime in Hong Kong, so it is likely that for now the industry will tend to confine itself to the relatively clear exemption of insolvency litigation funding, rather than attempt to fund other types of litigation and risk attracting criminal liability by falling outside relevant exemptions.4

The law in relation to litigation funding therefore remains underdeveloped in Hong Kong, and it is likely that there will be further cases on these issues in which the judiciary will have to balance complex considerations of law and public policy. Prospective litigation funders should therefore ensure that they take appropriate legal advice and carefully tailor their funding agreements to minimise the risk of such agreements being found invalid.

1. The Australian courts also require the retention of control by the liquidator where there is an assignment of the proceeds of a cause of action rather than assignment of the bare cause itself, although some commentators consider that in practice the Australian courts are more liberal than the English courts when it comes to the degree of retention of control required.
2. In Akai Holdings Ltd (in compulsory liquidation) & Ors v Ho Wing On Christopher & Ors [2009] HKCU 172 (“Akai Holdings Ltd“), Stone J was asked to decide certain questions regarding Mareva injunctions to which he thought the funding arrangements were relevant, but despite requests was not able to obtain a copy of the Order made by Madam Justice Kwan allowing the funding.
3. In Akai Holdings Ltd Stone J criticised aspects of the litigation funding industry and commented on how Australian litigation funders appeared in practice to exercise more control over proceedings than may be thought proper.
4. Hong Kong also lacks some of the legal structures which have made it viable for the Australian industry to move into funding litigation other than insolvency litigation: for example, while the Law Reform Commission has previously made proposals for “multi-party litigation” to be introduced in Hong Kong, Hong Kong does not yet have a mechanism for class actions.

If you would like to discuss any of the matters raised in this article, please contact:

Mark Side Partner | E-mail

Pamela Mak Partner | E-mail

Jeff Lane Partner | E-mail

Disclaimer: This publication is general in nature and is not intended to constitute legal advice. You should seek professional advice before taking any action in relation to the matters dealt with in this publication.