Hong Kong's funding code published

As noted in our earlier post, Hong Kong published its long-awaited Code of Practice for Third Party Funding of Arbitration on 7 December 2018.

Publication of the Code has removed the final hurdle to third party funding of Hong Kong arbitrations. The law that allows such funding will come into effect on 1 February 2019, via sections 98K – 98O of the Arbitration Ordinance (Cap. 609). These sections abolish the criminal and tortious offences of champerty and maintenance in relation to third party funding of arbitration, as well as arbitration-related court and mediation proceedings. For more detail on the law, click here.

The Code was published by Hong Kong's Secretary for Justice, Teresa Cheng SC, in her capacity as the "authorized body" under Part 10A Arbitration Ordinance. Compliance with the Code will be overseen by an "advisory body", consisting of three senior Hong Kong lawyers, whose powers derive from s.98X Arbitration Ordinance.

Who must comply with the Code?

The Code applies to "third party funders", as defined in s.98J Arbitration Ordinance. Broadly, a funder is any person who is party to an agreement in writing to fund a party to arbitration proceedings[1] in Hong Kong (or in any other seat, if the work is done in Hong Kong), and who does not have a legitimate interest in the dispute other than via the funding agreement. The definition of funder is wide, and covers both corporate entities and individuals.

Under the Code, a funder is responsible for compliance by its subsidiaries and associated entities, as well as any investment advisors acting as the funder's agent.

The Code applies to any funding agreement made on or after 7 December 2018.

What are a funder's obligations?

The Code's primary object is to protect funded parties. As such, it imposes a number of obligations on funders. In particular, a funder must:

• ensure its promotional literature is clear and not misleading;
• ensure the funded party knows it is entitled to take independent legal advice;
• provide a Hong Kong address for service (unless it has agreed another method of service with the funded party);
• set out and explain in the funding agreement the key features and terms of the proposed funding agreement;
• provide contact details for the advisory body;
• maintain capacity to pay all its debts and cover its aggregate funding liabilities for a minimum of 36 months;
• maintain access to at least HK$ 20m capital;
• furnish audit opinions on its annual financial statements, or reasonable evidence from a "qualified third party" (preferably an auditor) that the funder satisfies the HK$ 20m requirement;
• inform the funded party if its capital adequacy position changes, or if the audit opinion is qualified or questions its ability to continue as a going concern;
• maintain effective procedures for managing conflicts of interest and complaints, and notify the advisory body annually of complaints or findings that it has failed to comply with the Code;
• include dispute resolution provisions; and
• observe the confidentiality and privilege of information relating to the arbitration (to the extent permitted by law).

There are also requirements as to the contents of the funding agreement. The agreement must state that the funder:

• will not seek to influence the funded party or its lawyers to cede control of the arbitration to the funder, except to the extent allowed by law;
• will not take steps that cause, or are likely to cause, the funded party's lawyers to breach their professional duties;
• will not seek to influence the tribunal or arbitral institution.

The agreement must also state whether, and to what extent, the funder will be liable for the funded party's costs. This includes adverse costs, costs insurance premiums, security for costs and "any other financial liability".

Finally, the Code requires that the funding agreement state whether, and if so how, the funder may terminate the agreement, in the event that the funder reasonably (i) ceases to be satisfied about the merits of the claim; (ii) believes the funded party's prospects of success, or chances of recovery on success, have materially changed for the worse; or (iii) believes the funded party is in material breach of the agreement. The agreement must not give the funder a discretionary right to terminate in any other circumstances.

The funder is liable for all funding obligations accrued to the date of termination, unless termination is based on material breach by the funded party.

The funded party is less restricted. It may terminate the funding agreement if it reasonably believes that the funder has committed a material breach of the funding agreement which may lead to "irreparable damage".

What happens if a funder fails to comply?

Failure to comply with the Code will not result in judicial or other proceedings. However, the Code is admissible in evidence before a Hong Kong court or arbitral tribunal, which can take into account any failure to comply, if it is relevant to a question the court or tribunal is deciding (s.98S Arbitration Ordinance).

How does the Code compare?

The Code is materially similar to the English Association of Litigation Funders' Code of Conduct, although the ALF is a self-regulating code, with no equivalent to the Hong Kong advisory body overseeing compliance.

Singapore has no single body charged with overseeing arbitration funding. However, a number of guidelines apply. Among these, Singapore's Civil Law (Third-Party Funding) Regulations 2017 define "third party funder" as limited  to professional funders only, and impose capital adequacy requirements of S$ 5m. The Singapore Institute of Arbitrators (SIArb) Guidelines for Third Party Funders contain substantially similar requirements to the Hong Kong and ALF Codes, although they are less prescriptive with respect to funders' termination rights.

Conclusions

The Code's contents, and the delay in permitting funding until the Code was published, both reveal a strong desire for effective regulation of Hong Kong's funding industry. Given that Hong Kong does not restrict funding to professional funders, this seems a prudent approach.

Hong Kong's already thriving arbitration community stands to benefit significantly from funding. That community, including arbitral institutions, funders, funded parties and their advisers, can now embrace the new laws and regulations, and work together to make them a success.

[1] For the time being, the Code does not apply to mediation proceedings.