Litigation funding: unlocking value in insolvencies

When an insolvency practitioner (“IP”) is appointed over the estate of an insolvent company or individual, their primary duty is to realise as much money as possible for creditors. That involves identifying and recovering the assets of the estate, as well as investigating and pursuing any viable claims which may have arisen on insolvency. These could include unfair preference or gratuitous alienation claims, as well as, in the case of companies, claims against the former directors for breach of duty or wrongful trading.

If assets require to be recovered through litigation, or a viable claim is identified which should be pursued, ranking high among the myriad considerations for the IP will be the question of how the costs of any action are going to be funded.

Increased options

It is often the case that there will be few or no funds in the estate to fund litigation, and therefore in order to fulfil their duties to creditors and avoid criticism for failing to take forward otherwise viable claims, IPs will require to consider alternative funding options to cover their legal costs, as well as any adverse awards of expenses.

Such options can include speculative fee agreements, damages based agreements, creditor funding agreements, after the event insurance, and the funding and purchasing of claims by third party finance companies.

The increase in the availability of third party litigation finance has led to a much wider range of potential funding options for IPs. These have evolved to be cheaper and more flexible financing solutions than were historically available. In addition to receiving funding on an ongoing basis, options can include selling the claim in its entirety at the outset and taking a single one-off payment into the estate, or assigning the claim and retaining a financial interest in the outcome.

Litigation funding has therefore allowed IPs to pursue claims which might not otherwise have been brought. For access to justice, increased funding options can only be good news too.

Game changer

One of the key benefits for IPs is that litigation funding is usually provided on a non-recourse basis – meaning that the funder will not seek to recover any money from the IP, solicitors, or the insolvent estate if the case is unsuccessful. In return for taking on all of the risk, if the case is successful the funder will receive its return on the basis agreed with the IP at the outset. Funders may also be prepared to fund the initial investigations required to ascertain whether a viable claim
can be brought.

In practice, litigation funding will often provide the best options for an IP with a strong claim but a lack of funds to pursue it. The involvement of a litigation funder is also increasingly seen by IPs as the most effective model for encouraging early settlement by defenders.

Solicitor advocate Stuart Clubb regularly acts on behalf of IPs in pursuing claims which have arisen on insolvency. He notes: “The rise in the availability of third party litigation funding has been a game changer for insolvency litigation in Scotland. Claims which historically might not have been pursued due to a lack of funding or a concern over adverse expenses are now being taken forward with renewed confidence, as IPs work in partnership with experienced insolvency litigation funders. It is therefore not surprising to see a rise in the takeup of funding by IPs in Scotland. For funders, IPs, and ultimately creditors, it is a win-win.”

Frances Sim, general counsel for Restitution, adds: “Among the numerous challenges facing IPs as the world continues to deal with the consequences of the last few years is the potential spike in commercial disputes which they must raise to fulfil their duties to creditors. The litigation funding market in Scotland continues to innovate to provide wider choices to work with them and support their efforts.”

Insolvency trend

As the latest Scottish insolvency statistics (for the quarter January to March 2023) show a dramatic increase in the number of corporate insolvencies, as well as in personal bankruptcies, an increase in the volume of insolvency claims and litigation seems almost certain to follow.

IPs faced with a lack of funds in the insolvent estate to pursue viable claims therefore need to be cognisant of their duties to creditors and explore available funding options. Obtaining litigation funding and successfully pursuing or settling a claim can make the difference in terms of whether creditors receive a dividend in the insolvency.

The availability and support of third party litigation funding has perhaps therefore never been as important as it is now, as IPs increasingly look to use such funding to unlock the value in insolvent estates for the benefit of creditors.