Stuart Carson writes in Competition Law Insight about the criticism facing the new DBA Regulations, and outlines why the issues they bring up will need to be addressed and why until that happens, law firms are unlikely to be offering DBAs widely to clients.

In the UK, the Damages-Based Agreement (DBA) Regulations have faced heavy criticism, with the government acknowledging that “DBAs are rarely used and that the current DBA regulations are not effective” (Ministry of Justice, Post-Implementation Review of Pt 2 of the LASPO, February 2019).

The Ministry of Justice subsequently commissioned  an independent review of the regime, from which the proposed new regulations were born, as drawn up by Professor Rachael Mulheron of Queen Mary University and costs counsel Nicholas Bacon QC. The results of that review, and the proposed reforms, have the support of the former Court of Appeal judge, Sir Rupert Jackson.

The suggested reforms will be met with particular interest in the  field  of  competition  law;  with  proposals  to prohibit DBAs for all collective proceedings in the Competition Appeal Tribunal (CAT) and not just in respect of opt-out proceedings, as is currently the case.

What are DBAs?

DBAs are currently regulated by the Damages-Based Agreements Regulations 2013 (the Regulations), which came into force on 1 April 2013.

A DBA is an arrangement under which, rather than charging hourly rates, a law firm agrees to undertake all the legal work on a claim (including the work by counsel) in exchange for a percentage of the damages recovered if the claim is successful.

The law firm takes the risk of non-payment if the claim is unsuccessful, or that it could receive lower fees than it would have done had hourly rates been charged. It also carries the responsibility to pay counsel, win or lose. On the upside, the law firm may recover a higher fee than would have flowed from a standard retainer if a higher level of damages is recovered and/or the case settles early.

Accordingly, DBAs have the ability to provide access to justice for prospective claimants who would otherwise be unable to pay their legal fees. Even where a client can pay hourly rates, DBAs can be an attractive option to minimise the risk that flows from  an  unsuccessful  outcome  or  for those that simply want to reduce their cash outlay while the case is ongoing.

Despite the advantages of DBAs, relatively few law firms have been prepared to offer DBAs to their clients due to the limitations imposed by, or concerns relating to, the Regulations. These include uncertainty regarding the impact of early termination and the lack of clear provisions for payment on termination, (Ministry of Justice, Post-Implementation Review of Pt 2 of the LASPO) casting doubt as to the  law  firm’s ability or  otherwise to  terminate a DBA if required (for example, if the client has acted unreasonably). Another key uncertainty relates to the availability of hybrid DBAs, which would otherwise allow the law firm to mitigate the risk of a loss and thereby perhaps encourage wider use of DBAs.

The consequences of non-compliance with the Regulations are severe and could render a DBA unenforceable. That is a substantial risk in circumstances where the law firm may have incurred significant expense to take a case to trial without payment.

The proposed reforms therefore represent a welcome change to usher in a more viable form of funding that is open to a greater number of litigants.

Key changes proposed

While the DBA reforms include a number of important revisions to the Regulations, the below focuses on some of the key changes in terms of the impact on the regime.

1. Third-party funding is not a DBA

Under the existing Regulations some commentators had suggested that third-party funding might be covered. That construction was rejected in a recent decision by the CAT, in which the defendants had unsuccessfully tried to argue that third-party funding amounted to a DBA in an attempt to derail an opt-out collective action (for which DBAs are not permitted) (1282/7/7/18 UK Trucks Claim Ltd v Fiat Chrysler Automobiles NV and Others [2019] CAT 26; Judgment (Preliminary Issue), 28 October 2019). The DBA reforms would remove any residual scope for argument, by expressly excluding litigation funding from their scope.

2. Recoverable costs fall outside of the DBA payment

The Regulations currently follow the Ontario model, which  is based on the system that operates in Ontario, Canada. This is now replaced by a success fee model, which is closer in concept to a conditional fee agreement. Under the success fee model any recoverable costs (potentially payable by the losing party) are due to the law firm in addition to the DBA payment. However, irrecoverable costs remain included within the DBA payment and so  cannot be charged to the client.

This amendment would address a quirk of the current Regulations, whereby the indemnity principle could be triggered by the operation of the DBA if, for example, the DBA payment was less than the adverse costs awarded.

3. Reduction to the maximum percentage recovery

While inter-partes costs would fall outside of the DBA payment, thereby possibly increasing the law firm’s potential recovery, it is suggested that the percentage cap on the DBA payment might be reduced for commercial and other (non- PI) matters (from 50 to 40 per cent of the financial benefit). However, the authors of the DBA Reforms have emphasised this is a point that ought to be put to consultation. There is a danger that if the caps are set too low they will not achieve the objective of enhancing access to justice.

4. Hybrid DBAs permitted

If, and only if, the client and law firm agree in the DBA, then law firms can potentially still recover up to 30 per cent of their costs from the client in the event that the claim is lost. Such costs would be calculated as a percentage of the law firm’s hourly rates, which would have otherwise been chargeable absent the DBA. It is also suggested by the authors, but unclear in the draft, that it may be possible for such an amount to be paid on account as the claim proceeds, with credit for it given against the DBA payment on a win.

It is understood that there is no underlying principle governing the level of these hybrid payments, which ought to be subject to further consideration.

5. DBAs unenforceable for representative group actions

It is proposed that DBAs will be unenforceable for all representative group actions under r19.6 of the CPR, limiting the funding options currently available to group litigants.  This  would,  however,  align  the  Regulations  with the rules for opt-out proceedings in the CAT, whereby DBAs are already prohibited under separate legislation, the Competition Act 1998 s47C(8), purportedly as a safeguard  to spurious claims.

Accordingly, DBAs would no longer be permitted for opt-in collective proceedings in the CAT, which could impact on funding options currently being considered for opt-in proceedings in contemplation.

6. DBAs can be used by both claimants and defendants

The definition of a financial benefit, to which the DBA payment must relate, extends not just to the recovery of, for example, damages or the like, but also to an amount that a defendant may have been spared from paying in the event that a claim is successfully defended.

While the proposed reforms provide welcome clarification to the Regulations, a key impact to the field of Competition law is arguably in respect of collective proceedings, where it is proposed that DBAs will be prohibited in all circumstances and not just in respect of opt-in proceedings. Third-party funding will, however, be available for collective proceedings, helpfully affirming the Competition Appeal Tribunal’s ruling that such arrangements don’t constitute a DBA.

The future of DBAs

What form the final reformed regulations will take is unknown, and at this stage the proposals are simply that: proposals. For that reason, feedback on the reforms has been welcomed and will form a supplementary report for the Ministry of Justice. A key issue for competition lawyers to consider is whether the prohibition of DBAs in respect of opt-in collective actions is necessary.

What is clear is that, without change, the uncertainties facing DBAs will likely have to be addressed over time through the courts, as has recently been seen in the CAT. However, with such doubt as to the operation of the regime, it is likely to continue to be the position that very few laws firms will offer DBAs to their clients unless the reforms are implemented.