The English court has refused a challenge under s68(2)(b) of the Arbitration Act 1996 (the Act) and held that a sole arbitrator did not exceed his powers in including the costs of third party funding within a costs award (Essar Oilfields Services Limited v Norscot Rig Management PVT Limited [2016] EWHC 2361 (Comm)). The principle of recovering funding costs has caused significant controversy since it first came to light on 15 September 2016. The transcript of the judgment, and therefore the court's reasoning, was released on 30 September 2016.
The background
In an ICC Arbitration brought before a sole arbitrator in London, Essar Oilfields Services Limited (Essar) was found liable to pay damages to Norscot Rig Management Pvt Limited (Norscot) for repudiatory breach of an operations management agreement.
The Award before the court in these proceedings was the Fifth Partial Award. In that Award the arbitrator found that Essar was liable to Norscot for some US$4m in costs awarded on an indemnity basis. The costs award included the £1.94m costs of litigation (also known as third party) funding which Norscot had obtained in order to bring the arbitration. The Award was clarified by addendum on 3 March 2016 when the arbitrator confirmed the provisions of the Act upon which he had relied when making his ruling to be s59(1) and s63(3).
The arbitrator's findings on Essar's conduct in the arbitration were a key consideration in the arbitrator's decision on costs. The arbitrator considered that Essar had set out to cripple Norscot financially. The arbitrator found that, as a consequence of Essar's treatment, "Norscot had no alternative, but was forced to enter into litigation funding… The funding costs reflect standard market rates and terms for such facility." The arbitrator also found that "It was blindingly obvious to [Essar] that the claimant …would find it difficult if not impossible to pursue its claims by relying on its own resources. The respondent probably hoped that this financial imbalance would force the claimant to abandon its claims."
The arbitrator considered that under the provisions of the Act and the ICC Rules he had wide discretion to decide which "other costs" should be awarded in the arbitration. As a consequence, the arbitrator held that Norscot was entitled to recover the sum of £1.94m, being the sum owed to the litigation funder for advancing Norscot its legal costs to bring the claim.
Essar sought to challenge the Award under s68(2)(b) of the Act on the grounds that, under s59(1)(c), "other costs", do not include the costs of litigation funding and the arbitrator had no power to include them in his costs order. As a consequence, the arbitrator had exceeded his powers such that it constituted a serious irregularity and, given the amount ordered, it would cause substantial injustice to Essar if it had to be paid.
Norscot contended that there was no basis to set aside the award. There was no serious irregularity. The arbitrator's construction of "other costs" so as to include the cost of litigation funding was correct. Alternatively, it was an error of law when exercising his powers to award costs under s61(1) but was not the purported exercise of a power the arbitrator did not possess. In the event that the court did find the arbitrator's decision did constitute a serious irregularity, Norscot argued it did not cause substantial injustice.
Norscot also maintained that the claim was out of time and that Essar had lost its right to make it by reason of statutory waiver under s73 of the Act given its pre and post Award conduct.
The court's analysis
1) Serious irregularity based on the Tribunal exceeding its powers
The court considered the basis of the arbitrator's jurisdiction to award costs, citing the relevant provisions of the Act governing the question of costs, including s51, s63, and s59, and the provisions of the 1998 ICC Rules relating to costs, namely article 31(1).
The court then turned its attention to the elements required to substantiate a challenge under s68(2). Having stressed that s68 is designed as a "longstop", the court referred to the leading case of Lesotho v Impregilo in which it had been held that a challenge for serious irregularity under this section could only lie where the tribunal had purported to exercise a power which it did not have, not where it erroneously exercised a power that it did have. In order to consider such a challenge it was necessary to focus "intensely on the power concerned".
The court found that the power in question was the power to award costs, a power given to the Arbitrator under the Act and the ICC Rules. Even were the arbitrator wrong in his construction of "other costs" under s59(1)(c), it was an erroneous exercise of a power that the arbitrator did have, and could therefore not provide foundation for a challenge for serious irregularity under s68(2)(b).
The meaning of "other costs"
Having found that there was no possible challenge under s68(2)(b), the court could have dismissed the application. However, the court continued to consider each of the other arguments raised before it, including the proper construction of the expression "other costs" under the Act and the ICC Rules.
The court rejected any suggestion that the relevant sections of the Act should be construed by reference to what the English court could allow as costs under the English Civil Procedure Rules (CPR). There was no parallel provision to s59(1)(c) in the CPR and the CPR was of little direct relevance. The court accepted that the "other costs" specified in s59(1)(c) must be costs which related to the arbitration proceedings but the lack of a specific reference to third party funding or, indeed, to any specific category of "other costs" was immaterial. The court also considered the ICC's Report from 2015 entitled "Decisions on Costs in International Arbitration" which expressly referred to the possibility of recovering the costs of a funding arrangement (paras 87, 90, 92, and 93 of ICC Report "Decisions on Costs in International Arbitration" 2015)).
The court held that, "as a matter of language, context and logic… 'other costs' can include the costs of obtaining litigation funding" and that awarding the costs of litigation funding falls within the arbitrator's general cost discretion. The court also held that "whether and, if so, how the arbitrator exercises that discretion in any particular case is an entirely different matter". This case was a "telling example" of the good sense of reading "other costs" in this way, where Essar's conduct was found to have driven Norscot into expensive proceedings in which it had no other alternative but to seek funding to vindicate its rights. "As a matter of justice, it would seem very odd and certainly unfortunate if the arbitrator was not entitled under s59(1)(c) to include the costs of obtaining third party funding as part of "other costs" where they were so directly and immediately caused by the losing party." There was therefore no error of law in the arbitrator's interpretation of "other costs" under s59(1)(c) of the Act.
Other issues considered
While purely academic given its earlier findings, the court also mentioned that, had it found that the decision on costs had constituted a serious irregularity, a substantial injustice would have been made out since, absent the irregularity, Essar would not have had to pay the substantial sum awarded against it. The court also considered that, by not having contended that the inclusion of third party funding costs amounted to an irregularity or improper conduct in the proceedings or when seeking clarification of the Award, there was a statutory waiver under s73 of the Act by Essar so as to defeat the claim. The court, however, concluded that, all other findings aside, the claim had been made in time.
Comment
The court has stressed the high benchmark of a s68 challenge and, in particular, that an error of law in the exercise of a tribunal's power to award costs will not be sufficient to found a challenge for serious irregularity.
The decision has also confirmed that "other costs" under s59(1)(c) can include the costs of litigation funding. However, the court has not suggested that they must include such costs. The determination of what "other costs" include will remain within the broad discretion of the tribunal, provided that those costs relate to the arbitration proceedings.
This decision has caused considerable debate already within the arbitration community. Some have questioned whether the costs of third party funding are rightly characterised as a "cost" or whether they should more accurately be viewed as a damage that should be pleaded and proven in the arbitration itself. Others have raised concerns about the recovery of funding being based on necessity and the Tribunal's willingness to exercise its discretion. Should it be limited only to circumstances where funding is the claimant's only option due to the actions of the respondent alone? Should it cover any impecunious claimant, regardless of the respondent's conduct? And what about a claimant who has decided to utilise funding to hedge its risk?
In stressing the tribunal's discretion, there remain complex questions that the English court has not sought to answer at any level of generality. It is certainly likely that other funded claimants with English-seated arbitrations will now seek to recover their funding costs under s59(1)(c) of the Act. Whether they are successful will rest with the tribunal. However, if the paying party disagrees with the tribunal's decision on this question, this judgment suggests there may be a limited amount it can do about it. This will in turn raise further questions about the need for disclosure of funding arrangements at the start of proceedings to enable a respondent to be aware of the ultimate costs it is facing in seeking to fight a claim.
For further information, please contact Nick Peacock, Partner, Vanessa Naish, Professional Support Consultant, Hannah Ambrose, Professional Support Consultant, or your usual Herbert Smith Freehills contact.
