Third Party Funding Changing the Landscape of Indian Insolvency Ecosystem – By Siddharth Pardeshi and Aprajita Pandey

Third Party Funding Changing the Landscape of Indian Insolvency Ecosystem

Siddharth Pardeshi and Aprajita Pandey
(3rd Year Law Students of 3 years LLB Course at Government Law College, Mumbai)

Introduction

Third-party funding is an “arrangement in which a party involved in the litigation” which could include an arbitration proceeding “seeks funding from an outside entity for its legal representation instead of financing its own legal representation.” The outside entity is called “third-party funder” and finances the part’s legal representation in return for a profit. The third-party funder could be a bank, hedge fund, insurance company, or some other entity or individual. Third-party funding is also known as “Litigation Funding.” This type of financing “adjudges the value of legal claims even before they can be adjudicated upon and recovered before a court or tribunal.” This helps the parties understand the merits and demerits of their claims in order to enable them to take a judicious decision whether to pursue a litigation. At a macro level, third-party funding helps to facilitate access to justice and encourages out of court settlement of disputes based on the merits of a claim.

The third-party funding may be structured in a variety of different ways depending on the specific litigation. It would include standard clauses that take care of the interests of both the financer and the party being financed and it would also include clauses covering confidentiality and non-disclosure. Third-party funding can cover legal counsel’s fee, the court or tribunal fee, cost of expert, witnesses, pre deposit, adverse cost order and other dispute related expenses including venue costs. The disputes such as commercial suits, international or domestic commercial arbitration, “class action suits, tortious claims like medical malpractice and personal injury claims, anti-trust proceedings, insolvency proceedings and other like claims that have a calculated chance of resulting in a substantial monetary award.

History of Third-Party Funding

Litigation Funding as a concept has been in India for few centuries. In fact, if we look at one of the earliest cases it dates back to 1825, wherein a third person agreed to finance an appeal for half of the share of the state but the court thereon did not consider such agreement favorably and said that the transaction favored strongly of gambling and also that the contract to give half of the estate for a small advance was not fair and there are cases in between also and the condition remains pretty much the same till 1852. In 1852, and we can say the law which prevalent till now. Also while the court was dealing with the contracts of third party funding , the court clearly in that case held that there is no law in India which prohibited as illegal for one party to receive and the other party to give funds to carry on with the suits merely on the promise of certain consideration in the form of a share of the property before , now this position was fortified by privy council’s decision in Ram Coomar Coondoo and Ors. V. Chunder Canto Mookerjee (1876) L.R.4I.A. 23  1876 which is quoted as law on the particular subject till today wherein privy council held that an agreement to supply funds to carrying on a litigation in lieu of having share in the property if recovered is not personally opposed to the public policy of India. In fact, it went a little step further and said that the arrangement will be furtherance to the right to justice and these kinds of arrangement are necessary to resist operation as a person who has just rights to a property itself and that such a person should be assisted in this kind of matters. Law has been more advance in this context of third-party funding and common law concept like champerty and maintenance were held to be inapplicable to Indian law. And in fact, in an old caselaw, so as late as 2018 Supreme Court of India in the case of A.K. Balaji v. Bar Council of India AIR 2018 SC 1382 while held that a lawyer as per professional rules of Indian cannot fund litigation did find and give an observation that there is no prohibition for the third parties to fund the litigation. As a concept it has been tested and been around for more than a century and held not to be prohibited by Indian law. Also, it can be added over here that the courts in India have also held that they will always have the power to scrutinize the independence of third-party arrangement see if such arrangement are fair and reasonable and would have an ability to strike down such arrangement in case the court concluded that such arrangements are unconscionable, oppressive, or extortionate, so it appears to be the law. One more point to support why third-party funding is acceptable, there is a provision in the code of Civil Procedure which recognizes and find such financing arrangements. So it is Order 25 in CPC which deals with the civil litigation in the country and hat order 25 deals with the security on the cost for the plaintiff in the litigation and some states have and not all but some state amendments to such  provisions deal with the situation where a plaintiff for the purpose of being financed in a suit transfers or agrees to transfer a share or interest in the property , the law does not say that this agreements would be unenforceable but the contrary provides for a mechanism in which a security for the cost of litigation can be ordered in favour of defendant as well . So, this clearly is an acceptance of that concept of third-party funding in a statutory enactment.

Use of Third Party in Insolvency and Bankruptcy Code

In arbitration processes, where there is a high likelihood of a return on investment, litigation funding is typically utilised. In Corporate Insolvency Resolution Process (“CIRP”) or Liquidation Process, avoidance transactions including preferential transactions, undervalued transactions, extortionate credit, and fraudulent transactions are the claims that have the possibility for litigation funding not only this but the litigation funding also arise when there is a situation where the Corporate Debtor can claim the receivables from the debtors. 

The Code’s avoidance transaction rules make sure that transactions that were carried out solely for the benefit of some creditors or to hinder the insolvency or liquidation process and had no other purpose are annulled. The rule helps to correct situations when a property or asset is transferred only to prevent it from being included in the pool of assets that are accessible to a resolution applicant in CIRP or from being divided among creditors in a CD under liquidation. To prevent the reversal of legal transactions that have already been completed in the regular course of business, the avoidance principles should, nevertheless, be implemented cautiously.

Section 26 of the Code, the Insolvency Professional (IP) must determine whether any avoidance of the transaction has occurred. Examining whether the IP can transfer the claim to the litigation funder is necessary because the duty to file the application is performed by the IP. Due to the uncertainty of the claim’s assignment under the IBC’s current provisions, this presents a hurdle for the financiers.

However, the IP may have a plan where, after evaluating the legality of the claim, the litigation funder will process and finance the court case related to it in place of giving up a portion of the transaction’s earnings that can be paid in advance for the benefit of the creditors.

Further when we look into the code there are no such provisions related to transfer and assignment of the debts, but when we look into the provisions of the CIRP and Liquidation Regulation by IBBI which is produced below:

IBBI(CIRP) Regulation 2016

“29. Sale of assets outside the ordinary course of business.

(1) The resolution professional may sell unencumbered asset(s) of the corporate debtor, other than in the ordinary course of business, if he is of the opinion that such a sale is necessary for a better realisation of value under the facts and circumstances of the case:

Provided that the book value of all assets sold during corporate insolvency resolution process period in aggregate under this sub-regulation shall not exceed ten percent of the total claims admitted by the interim resolution professional.

(2) A sale of assets under this Regulation shall require the 66[approval of the committee by a vote of sixty-six per cent of voting share of the members].

(3) A bona fide purchaser of assets sold under this Regulation shall have a free and marketable title to such assets notwithstanding the terms of the constitutional documents of the corporate debtor, shareholders’ agreement, joint venture agreement or other document of a similar nature.”

“38. Mandatory contents of the resolution plan:

(d) provides for the manner in which proceedings in respect of avoidance transactions, if any, under Chapter III or fraudulent or wrongful trading under Chapter VI of Part II of the Code, will be pursued after the approval of the resolution plan and the manner in which the proceeds, if any, from such proceedings shall be distributed:

Provided that this clause shall not apply to any resolution plan that has been submitted to the Adjudicating Authority under sub-section (6) of section 30 on or before the date of commencement of the Insolvency and Bankruptcy Board of India (Insolvency Resolution Process for Corporate Persons) (Second Amendment) Regulations, 2022.

When we analysis the Code along with the IBBI Regulation when the resolution applicant submits a resolution plan, they are required to mentioned the treatment of the application filed by resolution professional for avoidance transaction. Further we can also see that the resolution professional can make the sale of the assets under IBC, where the CD having any receivables can be sold to the third party for the recovery or the same can be pursued with the third-party financing or the assignment of the debt.

Further, in the Liquidation Regulation 2016 it is clearly stated that the liquidator during the liquidation process can transfer the assets which are not readily realisable for a person who is eligible to submit the resolution plan, the liquidation regulation is produced below:

“37A. Assignment of not readily realisable assets.

(1) A liquidator may assign or transfer a not readily realisable asset through a transparent process, in consultation with the stakeholders’ consultation committee in accordance with regulation 31A, for a consideration to any person, who is eligible to submit a resolution plan for insolvency resolution of the corporate debtor.

Explanation. — For the purposes of this sub-regulation, “not readily realisable asset” means any asset included in the liquidation estate which could not be sold through available options and includes contingent or disputed assets and assets underlying proceedings for preferential, undervalued, extortionate credit and fraudulent transactions referred to in sections 43 to 51 and section 66 of the Code.”

How and why Third-Party Funding rising in CIRP and Liquidation Process?

When a company goes into insolvency resolution process or formal process of liquidation, company might have no readily available asset to sell or money in bank to pay off the creditors. It would have claim of assets to put forth. First resort is for the stakeholders to put some more money or stakeholders to approach advisors, management, equity holders and other money creditors to compensate creditors in the situation of insolvency. Stakeholders and other funders would probably provide finance to the company with asset than debts, if that doesn’t work, TPF comes to rescue. 

The Resolution and Liquidation is a time bound process which is prescribed under the IBC, 2016 where either the resolution plan is approved or the corporate debtor goes under the liquidation. Most of the time the insolvency professional face problems for the realisation of not readily assets which can also become a problem for the resolution applicant, secured creditors as well as the insolvency professional to file the dissolution application. In this situation the concept of the third-party funding arise which help the process to complete in time bound for the assignment of debts as well as to fund the litigation process which can help in efficient realisation of the cost as well as the reduction in the cost.

Case Law

The Anuj Jain v. Axis Bank Limited [2020] ibclaw.in 06 SC case involved the corporate insolvency resolution procedure (CIRP) of Jaypee Infratech Limited. Two key issues were raised, one that due to related-party and other avoidable transactions that are listed in the Code, a corporate debtor may have tunnelled out significant wealth. Second, avoidance proceedings may entail excessive delays and interfere with the CIRP’s predetermined schedule. As a result of this verdict, the litigation funders are now free to pursue their avoidance transaction claims because an avoidance transaction to recover the CD’s assets during the CIRP period was decided.

Insolvency and Bankruptcy Code (IBC), which was recently passed into law, has thrust TPLF into the spotlight, especially in light of the monetization of arbitration awards in Hindustan Construction Company and Patel Engineering. Hindustan Construction Co. Ltd. (HCC), an investment management company, and a group of investors signed a third-party finance agreement in March 2019 under which HCC ceded its rights to arbitration claims and awards totaling INR 1750 crores. Similarly, to this, Patel Engineering Ltd. informed Eight Capital Group of its interest in litigation claims totaling INR 2,168.5 crores.

According to the Insolvency Law Committee (ILC) report, there are problems with how to pay for litigation costs associated with avoidance transactions under the IBC in India. To analyses some funding options that are common worldwide, they looked at the debtor’s estate, state funding, the appointment of contingency counsel, and funding by creditors and third parties. The committee looked at every angle and concluded in its report that India’s current legislative framework does not forbid third-party litigation funding, hence the market may provide funding for such lawsuits. Therefore, it concluded that no law amendments were needed in this area.

Concluding Note

When it comes to litigation funding for insolvency matters as compared to other funding, it is always important to see can a defendant pay so, that is very crucial. Often when liquidators uncover frauds when they go in then the liability piece is easy to understand but it is the money still there, what is the minimum value of the claim, what is the realistic budget for the claim and then what are the merits of the claim, those tends to be same for every case that you are looking at. One of the additional things we will look at is how many creditors are there and by that it is mean is you could have a claim for say 200 million but the amount that is owed to the creditor is less 50 million that is likely to be in the driver for any settlement amount there is any sensible defendant will look at the creditors and say well if they can come out home they would be happy so funder could settle this claim at a lower amount and the headline value so we do pay attention to that. So that is sort of unique aspect of liquidation that you of course you do not find in non-insolvency situation.

Every potential claimant should be considering litigation finance. Litigation finance is almost essential in distressed situation right where a claimant simply doesn’t have funds to bring the claim so insolvency estate are great example where especially where you know that they need litigation financing to bring claims to recoup the estates assets and we see that again particularly in India because the existing creditors which are usually banks are not typically willing to lend or in position really to lend further to pursue these good claims so the litigation finance becomes essential.

The key reason of using a litigation funder is that, it cuts the cost and provides benefit to stakeholder. It also benefits the insolvency professional that he need not slow down and there is no doubt that once a target knows that he has got litigation funding then they are taken very seriously because indeed the opposition parties knows that the matter is not going to go away and they have serious concern that cannot be denied. Parties about the strength of their funder confidence in the case. Also, once a decision has been made to fund the litigation, the support has been unequivocal, it is the real asset to IP to be able to have a litigation funder behind him when they issue a claim against a target organisation or individual. And the reason behind that is the knowledge that a litigation funder is prepared to state behind a claim and fund it sometimes to trial is a very powerful message.

One of the misnomers about funding is that people think it’s only used by those who have no money, now the origins go back to insolvency practitioners who have been fabulous at saying “I have got this claim, how can I get it funded” and what have been seen over the years is that now every type of claimants uses funding  and that includes liquidators who have money in their estate so they don’t have to have money in order to come to funder for funding they might say well “I will need some money in the estate to do these activities but I have got some claims” and so the funder  need to go and think about whether they can fund the litigation claims and therefore support and make best use of funds that they have got at their disposal so that is what funder find is cases parties come to us for could be all of the funding they could say they might want to share the costs and increasingly one of the things that funder do for insolvency practitioner and all types of the claimant is funder can provide.

REFERENCE:

Acts & Regulations

• Insolvency and Bankruptcy Code, 2016.
• IBBI (Insolvency Resolution of Corporate Process) Regulation 2016
• IBBI (Liquidation Process) Regulation 2016

Websites

• https://ibclaw.in/litigation-financing-and-its-viability-under-insolvency-bankruptcy-code-2016-by-rachit-gupta/
• https://blog.ipleaders.in/need-know-bankruptcy-litigation-third-party-funding/

Articles Referred:

• Third party funding in India- Cyril Mangaldas Advocates and solicitors
• Third Party Litigation Funding and The Law in India by Doorman Jamshed Dalal
• Third Party Litigation Funding, LawWiser
• Singh A. (2021), “Funding lawsuits- For a piece of Justice” Indian Legal, 02 January.
• LITIGATION FUNDING FOR AVOIDANCE OF PROCEEDINGS UNDER IBC,

Case Laws:

• Ram Coomar Coondoo and Ors. V. Chunder Canto Mookerjee (1876) L.R.4I.A. 23
• K. Balaji v. Bar Council of India AIR 2018 SC 1382
• Anuj Jain Versus Axis Bank Limited & ors. (2020) 8 SCC 401 [2020] 8 SCR 291

Disclaimer: The Opinions expressed in this article are that of the author(s). The facts and opinions expressed here do not reflect the views of IBC Laws. The entire contents of this document have been prepared on the basis of the information existing at the time of the preparation. The author(s) and IBC Laws do not take responsibility of the same. Postings on this blog are for informational purposes only. Nothing herein shall be deemed or construed to constitute legal or investment advice. Discussions on, or arising out of this, blog between contributors and other persons shall not create any attorney-client relationship.