In light of a recent study by Allen & Overy, James Delaney, Director at specialist arbitration finance and insurance broker TheJudge, considers the discrepancy between average claims and awards in investor-state arbitration and how it affects the negotiation of third-party funding arrangements.

In 2012, Allen & Overy conducted a study of investment treaty claims, revealing various data such as average case duration; claimant and state win rates; average costs; and average pleaded claim value versus actual award value.

In December 2017, the firm updated the study with an increased pool of 324 cases.

Their latest findings are directly relevant to the arbitration finance and insurance market and will have a bearing on the market’s development this year.

Allen & Overy’s findings reveal that the average amount claimed in investment treaty arbitrations is approximately US$719 million (excluding the Yukos v Russia case, which skews the average), whereas the average award is roughly US$111m.

Therefore, claimants are typically being awarded 15.4% of their pleaded claim value. This figure has barely moved since the original 2012 study.

This statistic is of significance for claimants who have chosen to have their case funded by a third party, since the funder’s success fee will have a direct impact on the net recovery. Professional investors will increasingly strive to structure their terms to provide a good return on investment in a low-recovery scenario, whereas claimants will often be optimistic as to the amount they are likely to be awarded and negotiate a reduction of the amount paid where the award matches their higher expectations.

This optimism on the part of the claimants about how much they may be awarded needs dampening – with the focus moved in negotiations from the division of the spoils in high outcome scenarios to the more likely low recovery outcomes.

For funders, the approach is often simple: they charge the “greater of” a multiple of their investment or a percentage of the proceeds. Claimants tell us this is akin to having your cake and eating it, as it would appear the funder wins both ways.

But in our experience, funders are often willing to concede a few percentage points in high-outcome scenarios for greater safeguarding of their return on investment in lower recovery outcomes. As outcomes are statistically significantly smaller than expected, this ensures that they receive a greater share of the net recovery. There are ways to better safeguard a claimant’s position – but that is a separate discussion.

The Allen & Overy study highlights a clear disconnect between the amount pleaded and the amount awarded, which ought to be at the forefront of every claimant’s and lawyer’s mind during negotiations with prospective third-party stakeholders. While funders will also be aware of these statistics, the claimants have increasing bargaining power due to the speed at which the market’s capacity is growing. Of course, that bargaining power only manifests itself where the claimant or the lawyer utilises the competitiveness of the market through a thorough search for the best terms.


Recovering costs – avoiding the double blow

The Allen & Overy study shows another interesting trend: that states that prevail in investor-state arbitration have had increased success in more recent times in recovering their costs from the claimant – being awarded them in 63% of cases since the end of 2012.

It’s clear that adverse costs (cost shifting) is now a significant risk for claimants, which ought to be considered in parallel to their own side’s budgets.

Historically, an impecunious claimant might have been tempted to roll the dice, since if the arbitration has a negative outcome they have few or no assets for the state to pursue. However, the increased use of security for costs orders (or the threat of such orders) could prove a stumbling block.

At the other end of the spectrum, adverse costs could be a double blow for a corporate claimant. It’s one thing to lose a case and write off the investment made in fees and expenses to bring the claim (and the statistics show success rates favour states). It is quite another to then also be hit with a substantial bill for the state’s costs.

The increased risk of adverse cost orders has started to resonate with many treaty arbitration lawyers, who are now routinely highlighting such risks to their clients, resulting in an increased appetite for adverse cost insurance in 2017. Unless a client elects to self-insure the risk, insurance is likely to be the most economical way to remove the risk.

Insurers provide an indemnity in exchange for a premium. The premium payable can in some instances be fully contingent upon success. This means that if the case is unsuccessful, resulting in adverse cost liability for the claimant, then the insurer pays the claim and receives no premium.

In 2017 in the ICSID case of Eskosol SpA in liquidazione v Italian Republic, the state sought security for costs from the claimant-liquidator. The claimant team had secured an adverse cost insurance policy that the arbitration panel determined was sufficient to remove the need to order security for costs.

Another case study that aptly demonstrates several of the above points, involved a corporate claimant. Aside from winning the case, our client’s main concern was the risk of either a lower than expected award being received or alternatively, a prolonged enforcement battle which could diminish their net recovery.

At the client’s request, we secured three offers of financing and two insurance quotes from the market. It became patently obvious that the most economic and prudent solution was for the client to self-finance the expenses while insuring their outlay. Cash wasn’t the client’s concern so much as risk management, budgetary certainty and maximising their net recovery. The sums requested by the funders were simply considered too great when compared to the volatile risk of what the arbitrators would ultimately award. The insurance premium was less than a quarter of the cost of that charged by the lowest finance offer, and with the majority of the premium only payable if the case were to succeed.

Therefore we expect to see a sharp rise during the course of this year in the number of insurance applications for treaty cases, both for our own side’s legal fees from clients with strong balance sheets, as well as funded claimants who face security for costs obstacles.


This article was first published in the Global Arbitration Review online news on 20 April 2018.