Funded Claimants in BIT claim against Venezuela ordered to pay Security for Costs – a sign of things to come in BITs going forward?
The application of cost-shifting and by extension, security for costs, is an increasingly important issue in international arbitrations.
In June 2018, Brazilian arbitrator José Emilio Nunes Pinto ordered the claimants in Manuel Garcia Armas et al. v Bolivarian Republic of Venezuela to provide security for costs for Venezuela, the respondent to the bilateral investment arbitration claim.
The claimants’ legal fees are being financed by a third-party funder. The tribunal advised that it had the power to order security for costs under both the UNCITRAL and ICSID additional facility rules as well as under Dutch arbitration law, a point that was uncontested by the parties. In reaching its decision, the tribunal also had regard to a previous ICSID decision in RSM v St. Lucia where the tribunal ordered the claimants to post security. While the involvement of a funder doesn’t automatically lead a tribunal to award security for costs, it can be a relevant factor as it was, controversially, in RSM.
We’ve previously commented on the increasing trend among arbitration panels to allow for cost-shifting, with statistics showing a continued rise in the number of concluded cases where cost-shifting occurs (see our article which looks at a study by Allen & Overy here).
Awarding security for costs could be another emerging trend, particularly given the ICCA-Queen Mary Task Force on Third Party Funding in International Arbitration Report which recommends greater transparency of third party funders’ involvement in arbitration claims.
In another ICSID claim, Eskosol SpA v Italian Republic, ICSID Case No ARB/15/50, the claimant, a company in liquidation, was challenged to provide security. The Defendant made an application under Article 39 of the ICSID Arbitration Rules for provisional measures aimed at ensuring that sufficient protection would be available to satisfy its costs should Italy’s defence succeed. The claimant in Eskosol was also funded by a third-party funder, but had, prudently as it transpired, taken out adverse cost insurance to cover the risk of having to pay the other side’s costs. While there had been a disclosure request regarding the funder’s involvement (which was agreed), it appears that the existence of the adverse cost insurance – a policy we brokered – was material in the tribunal’s decision not to delve into the asset position of the funder.
While adverse cost insurance does come at a cost, that cost, or rather that premium, can often be wholly or largely contingent upon success. This means the claimant only pays the premium (or the majority of the premium) if their case is ultimately successful. Rather than posting security with their own funds, it is often far more palatable for a claimant to use such a policy to deflect a security for cost application. Furthermore, if a funder cannot satisfy a tribunal of its credit-worthiness or is reluctant to even try, given it could mean having to reveal sensitive information about its investors (particularly for private funds as is generally the case), their only option might be to post the security on the client’s behalf. The latter ties up more of the funder’s capital, perhaps beyond the initial agreed budget before security for costs was contemplated; and the funder’s additional commitment is likely to lead to additional cost for the client. That cost is highly likely to exceed the premium charged by an adverse cost insurer. Indeed, a funder’s indemnity, guarantee or cash commitment could be several times more expensive than insurance. This is a reason why in traditional cost shifting environments such as litigation in England & Wales, the use of such insurance is commonplace and has been for well over a decade.
It might be that a claimant’s legal team takes the view that it is appropriate to defend such an application by an opponent, advising it’s neither necessary nor appropriate to provide such security, as opposed to putting forward a solution to address the respondent’s challenge head on. While each tribunal will reach its decision based on the specific facts and circumstances before them (as occurred in each of the cases cited above), this could prove to be a false economy, particularly where there is a question mark over the claimant’s asset position or where any funder involved is unlikely to be willing to provide the necessary financial disclosure of its own asset position to assist the claimant in opposing the application. Significant costs could be incurred in trying to avoid posting any security, costs which could otherwise have been used to purchase the financial instruments discussed. In addition to the financial saving, potential delays in the arbitration on this issue could also be avoided.
Ultimately, it’s for the claimant and their counsel to consider how they will address the legal budget to prosecute the arbitration, and counsel will of course advise on the potential adverse cost liabilities, including pre-empting whether security for costs could become an issue in the case. However, understanding the tools available and making early preparations in anticipation of such an argument can avoid significant wasted costs and potential financial shocks for the claimant later in the process.
It may be, despite being fully informed of these risks by their counsel at the outset of the arbitration, some claimants would choose to roll the dice and see how the arbitration develops. However, it’s prudent to add a word of caution, particularly regarding the availability of adverse costs insurance. While a claimant might wish to defer the decision to obtain such a policy from the outset, it can be materially harder to secure a policy once the client is in a distressed situation (such as already facing a security for cost application), as insurers could potentially see this as adverse selection.
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