Funding Injustice

Australian class action lawsuits are attracting profit-gougers from overseas at the expense of the people who can afford it least, the plaintiffs. By Nick Cater.

Civil law serves to quench the thirst for justice, not the thirst for profit.  Its primary purpose is to compensate citizens whose rights have been infringed. Any remittances that lawyers and funders may make along the way should be merely incidental.

In the field of class actions, however, the lure of fat profits is driving a spiralling number of cases in which compensation for plaintiffs is little more than a by-product. Lawyers and third-party litigation funders are shaping proceedings. It is they who are deciding whether justice should be dispensed in the court or settled outside. The decisions frequently appear to be made in their own best interests, favouring the return on their own investment rather than what is best for the client. 

The Menzies Research Centre’s forthcoming report, Litigation Nation, presents evidence of manifest injustice in class actions funded by disinterested investors.

The introduction of provisions allowing plaintiffs to litigate collectively in 1992 was well intentioned. It was designed to make justice more affordable by sharing risk and costs. That noble aim has been corrupted by predatory practices by legal companies backed by investors looking for a return on capital.

Forget the heroic narrative of the passionate lawyer acting pro-bono for the marginalised and vulnerable. Three quarters of these are so-called funded cases, investment vehicles for financiers, frequently from the US, who bet their money on a successful court finding or settlement and pocket the proceeds.

Awards for damages that are intended to redress the conditions a plaintiff enjoyed before the wrong was committed are being eaten up by the professionals commissioned to help. 

Last year the average amount paid to plaintiffs in such cases was a mere 39 per cent of the settlement proceeds. The average commissions paid to litigation funders increased to 24 per cent and legal fees to 37 per cent.  Nearly two thirds of the compensation intended for their clients is being taken by the promoters of class actions.

The damage suffered by injured parties is tangible. They cannot begin to replace a home or business lost in a fire or flood if they receive half or less than half of the replacement cost.

Our justice system has hurtled along the American path and then some. The checks and balances that apply to other forms of consumer finance no longer apply. Indeed, since litigation funding was expressly exempted from investment regulation in 2013 by then Labor Minister Chris Bowen, the industry has flourished. The misuse of common fund orders allow litigation funders to charge commission on all members of the class whether or not they have consented to the action being undertaken on their behalf. It allows class actions to commence on behalf of hundreds of thousands of class members without their knowledge. All that is required is for one member of the class to consent to their involvement.

The advent of super profits by litigation funders has encouraged class action law firms to seek the ability to charge US-style contingency fees through a bill introduced into the Victorian parliament. This report notes that Maurice Blackburn has already commenced class actions in Victoria in anticipation of being able to charge its percentage of the settlement.

The development challenges their fiduciary duty to their clients giving them a direct financial stake in any settlement. No less challenging is the influence funders are able to exercise in shaping proceedings.

Unlike lawyers, litigations funders have no duty to act in the best interests of the plaintiff. Rather, their duty is to maximise returns for investors, which may mean a premature out-of-court settlement that may not be in the best interests of the injured party.

The report also makes recommendations to address conflict of interest, the lack of appropriate disclosure and control of proceedings. It calls for the regulation of foreign funders, the proper application of character and qualification requirements and the same level of prudential supervision that applies to other investment vehicles.

Justice apart, there is a strong economic imperative to prioritise the reform of this area of civil law. The escalating cost of proceedings is significantly adding to the cost of doing business at a time when the economy is entering recession. Much of the burden of these costs is ultimately carried by ordinary Australians through the loss of jobs, wages or reduced dividends towards their retirement savings.

COVID-19 has demonstrated the need to expand domestic manufacturing. Yet legal liabilities are becoming another disincentive for companies to operate here.

The impact on business, the broader economy and jobs will be more closely examined in a further report. It will examine how sensible adjustments to corporate laws will close some of the most egregious loopholes currently being exploited in class actions while strengthening corporate governance.

The series of external shocks we have experienced this year has highlighted the measures we must take to ensure we emerge stronger on the other side. Legal reform of the nature we describe must be high on the list.

There is nothing fair about the system as it currently stands. Its impact is steeply regressive, rewarding some of the richest professionals in the country at the expense of those who can least afford it.

Litigation that delivers private profits for a few at the expense of the many is an injustice that cannot be allowed.