IF YOU WANT A NON-PARTY COSTS ORDER YOU NEED TO “SHOUT” OUT IN ADVANCE: “YOU NEVER GIVE ME YOUR MONEY…”

In Sony/ATV Music Publishing LLC & Anor v WPMC Ltd & Anor [2018] EWCA Civ 2005 the Court of Appeal overturned a ruling that a director of a company should pay pay a company’s costs.  The absence of warning was a major factor in deciding that a director and shareholder should not be personally liable for the costs.  This highlights the fact that if a party is considering a non-party costs order then it is prudent to state this at the beginning.

“…the absence of any form of warning is, in my judgment, fatal to the application for the NPCO.”

 

THE CASE

An action was brought against a company –  WPMC alleging breach of copyright in relation to a documentary – “The Beatles, the Last Concert”. WPMC failed in its defence and was ordered to pay costs. WPMC was subsequently wound up and the claimants had to claim their costs in the insolvency.   A year after the judgment the claimants wrote to the director and majority shareholder of WPMC stating that were seeking a Non Party Costs Order against him personally.   Upon the claimants’ application the judge at first instance ordered that the director personally pay some of the costs, said to be in the region of £600,000. The director appealed.

THE COURT OF APPEAL

The Court of Appeal rejected many of the grounds of appeal. However they did find that the failure to warn that a NCPO application would be made was a fact of considerable significance. The director’s appeal was allowed, primarily on those grounds.

    1. Mr Williams contends on this ground of appeal that, before a NPCO can be made, it must be shown that the interests of Mr Bailey and the company diverge. That principle does not find a clear expression in any of the authorities. The effect of the test put forward in Dymocks at paragraph 29 is that “generally speaking” if the non-party promotes and funds the defence of proceedings by an insolvent company solely or substantially for his own benefit, then he should be liable for the costs of the proceedings if his defence fails. That will not always be the case however, as Lord Brown went on to explain in the same paragraph. Where the non-party is a director who can realistically be regarded as acting “rather in the interests of the company (and more especially its shareholders and creditors) than in his own interests”, the position may be different.
    2. The rationale for the general rule can be seen in Lord Brown’s citation with approval of a passage from the decision of Fisher J in the High Court of New Zealand in Arklow Investments v MacLean (unreported , 19 May 2000) at [26]:
“…the overall rationale [is] that it is wrong to allow someone to fund litigation in the hope of gaining a benefit without a corresponding risk that that person will share in the costs of the proceedings if they ultimately fail.”
    1. The rationale for the exception is to be found in the judgment of Millett LJ in Metalloy Supplies Ltd v MA (UK) Ltd [1997] 1 WLR 1613 at page 1620, cited by Lord Brown at [28]:
“It is not, however, sufficient to render a director liable for costs that he was a director of the company and caused it to bring or defend proceedings which he funded and which ultimately failed. Where such proceedings are brought bona fide and for the benefit of the company, the company is the real plaintiff.”
    1. In many cases it will be clear whether the case falls within the general rule or the exception, but in others the task of deciding on which side of the not very precise dividing line will be more challenging.
    2. Mr Williams submitted that in the present case Mr Bailey acted in WPMC’s interests. There was nothing done by Mr Bailey which was not in the interests of the company, its creditors and shareholders. WPMC had been accused, wrongly in the company’s view, of infringement of copyright. The defence of the proceedings was in the interests of all those interested in the company, as it would enable the company to exploit the Documentary. The fact that in WPMC’s case the interests of the shareholders were concentrated in one person rather than dispersed should make no difference.
    3. Mr Williams went on to submit that if NPCOs were available in cases where the interests of the company and its shareholders were aligned, a number of unprincipled consequences would follow. Firstly it would collapse the principle of separate corporate personality. Secondly, it would collapse the principle that NPCOs were to be treated as exceptional. Thirdly it would collapse the principle that there must be a causative link between the actions of the non-party and the costs which the applicant is unable to recover. Fourthly, outcomes would be different depending on how diffuse or concentrated the shareholding was.
    4. The judge rejected this argument and so do I. It is not necessary to identify a divergence of interest. The imposition of such a jurisdictional threshold would distort rather than apply the guidance in Dymocks. I do not think any of the unprincipled consequences which are said to follow from the failure to adopt the divergence test stand up to analysis.
    5. Firstly, as regards corporate personality, it is wrong to regard the imposition of a non-party costs order as piercing the corporate veil. IThrelfall v ECD Insight and another [2013] EWCA Civ 1444[2014] 2 Costs LO 129, Lewison LJ said at [13]:
“If a non-party costs order is made against a company director, it is quite wrong to characterise it as piercing the corporate veil; or to say that the company and the director are one and the same. As [counsel] has demonstrated, the separate personality of a corporation, even a single-member corporation, is deeply embedded in our law. But its purpose is to deal with legal rights and obligations. By contrast, the exercise of discretion to make a non-party costs order leaves rights and obligations where they are. The very fact that the making of such an order is discretionary demonstrates that the question is not one of rights and obligations of a non-party, for no obligations exist unless and until the court exercises its discretion. Moreover the fact that the discretion, if exercised, is exercised against a non-party underlines the proposition that the non-party has no substantive liability in respect of the cause of action in question.”
    1. Mr Williams seeks to side-step the effect of this passage by submitting that Lewison LJ was not seeking to disturb the effect of previous authorities such as Metalloy. That may be so, and I would accept that in evaluating whether a claim is solely or substantially for a non-party’s financial benefit, real benefit to the company is a material consideration. It remains the fact, however, that the imposition of a NPCO does not collapse the principle of corporate personality. That is perhaps best illustrated in the present case by the fact that the judge did not make Mr Bailey liable for all WPMC’s costs, or order interest on the same basis.
    2. Secondly, failure to adopt a requirement for divergence of interests would not cut across the principle that NPCO’s are to be regarded as exceptional. Such orders are exceptional only in the sense that they are outside the ordinary run of cases where parties pursue or defend claims for their own benefit and at their own expense: Dymocks at [25]. It may be, therefore, that in a case where the non-party has been funding a claim or defence of an insolvent company, reliance on the requirement that the case be exceptional is unlikely to avail the non-party.
    3. Thirdly, I do not accept that failure to adopt a divergence requirement would cut across the need for a causative link. Mr Williams submits that, if the director would be duty-bound to prosecute or defend the proceedings in the interests of the company in any event, then there would be no causative link from the funding. But if the facts are that the proceedings would not have been pursued or defended but for the intervention of the non-party, because the company would not have had the means to do so, the necessary causative link will be present. The question is whether the opposite party has to bear costs when otherwise he would not have done: see per Hamblen LJ in Turvill v Bird and others [2016] EWCA Civ 703 at [28].
    4. The fourth unprincipled conclusion said to follow without a requirement for divergence of interests was that different outcomes would follow depending on how diffuse or concentrated was the shareholding. I think this objection loses sight of the overall requirement that the imposition of a NPCO must be just in all the circumstances. Thus it may well not be just to impose an NPCO where a director is pursuing or defending proceedings in the interests of a group of shareholders all holding minority interests, but just to do so when it is in his interests alone.
    5. I am therefore not persuaded that a requirement for divergence of interests is justified by authority, or is a necessary principle to put in place to avoid unjust outcomes.
Ground 2
    1. Mr Williams submits that WPMC had a substantial creditor in the form of Firefly which also stood to benefit from the successful defence of the proceedings.
    2. Firefly was a company of which Mr Hunt was a director. Firefly’s role in the proceedings was described by the judge at [44] of his 1 July 2015 judgment:
“On 18 July 2010 CMC, Iambic and WPMC entered into a novation agreement which provided that WPMC stepped into the shoes of Iambic with respect to the agreement dated 6 July 2009 save that it was agreed that the costs of music copyright clearances should be paid out of gross receipts before division of net profits. On 21 July 2010 WPMC entered into an agreement with Firefly Film Sales Ltd (“Firefly”) under which WPMC appointed Firefly as its agent to exploit the rights in the Documentary in those territories which did not require the clearance of performers’ rights in return for a commission of £66,000 to be recouped from gross receipts together with an advance of £1.1 million. On the same date Firefly entered into a similar agreement with Iambic which provided for the payment of commission of 30% on gross receipts. Mr Hunt explained that these agreements were part of the mechanism by which the making of the Documentary was financed pursuant to the Enterprise Investment Scheme by a company Octopus Investments. The precise manner in which this mechanism operated (or at least was supposed to operate) is somewhat obscure, but this probably does not matter for present purposes.”
    1. At paragraph 27 of his witness statement Mr Bailey states that Firefly was to receive commission from sales achieved by Iambic, and at paragraph 84 that there were no other creditors of WPMC beyond counsel’s and McFaddens’ fees, his salary and the director’s loans to Mr Hunt. Nevertheless, WPMC’s balance sheets for each of the years from 2012 included the £1.1m as a debt, albeit offset in the balance sheet by a similar sum for “stocks” (presumably representing the value of the Documentary), leaving a very small deficit overall. The estimated statement of affairs at 5 August 2105 continued to show the liability to Firefly of £1.1m, but the report for the creditors’ meeting on that day said:
“In April 2012 … Firefly purported to terminate its agreement with [Iambic] as a result of which WPMC terminated its agreement with Firefly citing a repudiatory breach by Firefly and (in the alternative) giving notice pursuant to the Commercial Agents Regulations. Firefly did not accept the WPMC termination but no further action was taken by either side and WPMC regarded the agreement as determined.”
    1. Mr Bailey does not mention the dispute with Firefly in his evidence. On the other hand SATV relied on the balance sheets to show that WPMC was balance sheet insolvent from the commencement of proceedings in 2012, which would not have been so if the company was not indebted to Firefly.
    2. The judge dealt with Firefly at paragraph 48 of his judgment under appeal:
“Mr Bailey does not mention the dispute with Firefly in his evidence on this application. Taking the statement in the director’s report at face value, however, it appears that, although WPMC had received £1.1 million from Firefly by way of an advance, WPMC did not regard itself as liable to re-pay that sum and Firefly had made no attempt to recover it since April 2012.”
    1. For my part, I do not consider it surprising that Firefly made no attempt to recover its £1.1 million from a company which had no liquidity, and whose only asset was the subject of a disputed claim to copyright infringement. WPMC’s purported termination of the agreement was not accepted, and so it remained plausible that Firefly would claim repayment of its advance in the event that WPMC realised value from the Documentary. Consistently with that, WPMC had continued to show a liability to Firefly in its balance sheets. Likewise, it does not follow from the fact that Firefly were to receive a commission on sales that they would not seek repayment if WPMC were to achieve value from the Documentary by some other means following success in the litigation.
    2. I therefore disagree with the judge that the liability to Firefly can be disregarded for the purposes of assessing whether Mr Bailey was the sole stakeholder in the defence of the proceedings.
Ground 3
    1. In Arkin v Borchard Lines Ltd (supra) this court held that where a professional funder, in circumstances where the funding left the claimant as the party primarily interested in the result of the litigation and the party in control of it, finances part of a claimant’s costs of litigation, the funder should be potentially liable for the costs of the opposing party, but only to the extent of the funding provided: see per Lord Phillips at paragraphs 41-42.
    2. Mr Williams argued that the funding provided by Mr Bailey was de minimis, the company having achieved access to justice through the CFA. That funding could not justify a costs order which exceeds the amount of Mr Bailey’s funding provided by such a large multiplier.
    3. I think the policy considerations which lie behind professional funding of litigation in Arkin explain why it is necessary to have a proportionality rule of the kind devised there. Thus, as Lord Phillips explained at [40], the rule was directed at cases where the funder left the claimant as the party primarily interested in the result of the litigation and as the party in control of the its conduct. That is to be contrasted with the type of case where the funder is the “real party” to the litigation and “not so much facilitating access to justice by the party funded as himself gaining access to justice for his own purposes”: per Lord Brown in Dymocks at [23].
    4. It follows that, if the judge was correct to treat Mr Bailey as the, or a real party, I see no independent basis for the extension of the Arkin approach to the type of case with which we are concerned.”

      THE CRUCIAL GROUND: GROUND 4 – FAILURE TO WARN

“Ground 4
    1. Mr Williams, who placed this ground very much at the forefront of his appeal, submitted that the present case was clearly one where a warning would have had a significant effect on the way in which Mr Bailey would have caused the company to defend the proceedings. Mr Bailey had invested only some £1,800 in WPMC. His written evidence had been in the clearest possible terms. Having reviewed the history of the proceedings, he said:
“67. Had the Claimants put me on notice during the proceedings that they might seek a third party costs order making me personally liable for their costs, I would have viewed things very differently. I had not been prepared to commit any of my personal funds to these proceedings (as can be seen from the fact that I would not advance the funds for WPMC to be represented by lawyers, and so, until a very late stage handled the case myself). I would therefore have taken the threat of being made personally liable for the Claimants’ costs very seriously indeed. I would very likely put WPMC into liquidation or, notwithstanding my concerns set out above, have accepted one of the claimants’ offers of settlement.
68. Moreover, in the very unlikely event that I had continued to defend the litigation in the face of the threat of a personal costs order against me, I would also have seriously considered finding the money to pay the interim costs order following trial so the appeal could be pursued, as I have been advised that the appeal had a reasonable prospect of succeeding. However, it was not until a year after trial that the Claimants ever intimated any intention to seek a third party costs order against me. I thereby lost the opportunity of mitigating my exposure to costs by raising funds for an appeal.”
    1. At paragraph 91 he concluded:
“Despite knowing that WPMC has no assets, at no stage prior to July 2016, did the Claimants alert me to any potential liability to their costs which I believe are completely disproportionate to any benefit which might have been obtained from the litigation. If they had done so during the proceedings, it would have had a very significant impact on my views on settlement and whether to put WPMC into liquidation rather than to go to trial even once McFadden’s and Mr Wilson had agreed to act for the company on Conditional Fee Agreements.”
    1. Mr Williams attacks the judge’s conclusions at paragraphs 66 and 67 of the judgment with vigour. Given that the judge was considering a counterfactual scenario in which SATV had given notice, as they should have done, of the possibility that they would apply for a NPCO, it was unreasonable to expect Mr Bailey to provide evidence to “convince” the court that he would have acted in the way he said he would. The judge should instead have considered whether there was a realistic basis for suggesting that he would have acted in a different way. He relied on Systemcare (UK) Ltd v Services Design Technology Ltd and Sharif (cited above), and in particular on the way in which Lloyd LJ had expressed himself at [66].
    2. Mr Williams says that in the present case there is the clearest possible basis for suggesting that Mr Bailey would have acted differently if he had been warned. He had not been prepared to put up money to pay for lawyers for WPMC, and had only instructed lawyers when a full “no win, no fee” CFA was available which meant that WPMC did not require funding for its costs. Why, he asks forensically, would he have taken that approach if he was prepared to become liable for SATV’s costs?
    3. Mr Williams also relied on the loss of opportunity to take out ATE insurance. The company had been given advice on ATE insurance but had failed to take it out. The judge had inferred that this was because the premium would not be recoverable from SATV even if WPMC successfully defended the claim. Mr Williams submitted that this was the wrong inference to draw. If WPMC had won the claim, SATVwere good for the costs and so ATE insurance would not have been necessary. If WPMC had lost the claim, then, working on the assumption that WPMC was worthless, ATE insurance would also have been unnecessary. The only party to benefit from ATE insurance would be SATV. If, on the other hand, SATV had warned that it intended to seek an order for costs against Mr Bailey, the insurance would have served a useful purpose, namely to protect the shareholders of WPMC from exposure to a costs order.
    4. Accordingly, Mr Williams submitted that the judge had been wrong to conclude that the potential liability for costs would not have been an important factor in considering in 2014 and 2015 whether and how to continue with the defence of the proceedings. Mr Bailey was an experienced entrepreneur who had invested very little money in the project: the judge had no basis for concluding that he would not have regarded the possibility of an adverse costs order as a very significant downside.
    5. So far as the loss of the opportunity to appeal is concerned, Mr Williams submitted that the judge had apparently accepted at this point that Mr Bailey would have been reluctant to part with his own money. That supported his submission in relation to the period up to trial, that Mr Bailey would have been reluctant to invest his own money, and not have been prepared to countenance an adverse costs order against him personally. Moreover the judge had again required too much by way of proof in suggesting that it was necessary to show the appeal would have succeeded.
    6. Mr Mill submitted that the judge had arrived at the right conclusion and given adequate reasons for doing so. In his written submissions he submitted that the judge had found in the present case that there was no realistic basis for concluding that Mr Bailey would have acted differently. Neither the suggestion that WPMC would have been put into liquidation nor the decision not to acquire ATE insurance, nor the pursuit of the appeal were realistic possibilities. In his oral submissions he contended that the correct approach was to ask “would he have behaved differently”, and possibilities were not sufficient. As to whether Mr Bailey could have avoided that which has now befallen him by pursuing the appeal for which Arnold J gave permission, Mr Mill pointed out that permission had only been given in relation to one ground, proprietary estoppel, a ground which had only been raised late by permission of Newey J, and which had unpromising prospects of success.
    7. The absence of warning is a factor whose relevance will vary from case to case. In the present case, however, because the judge has made a finding that Mr Bailey would not have acted any differently if a warning had been given, he has given it no weight at all. Thus, at [68] he says that none of the factors relied upon by Mr Bailey supported the conclusion that it would be unjust to make the order.
    8. I think the judge did fall into error in concluding that this was a case where no weight could be given to the fact that Mr Bailey was not warned in deciding whether it was just to make a NPCO. In doing so he left out of account a feature which he should have considered, namely the prospect that Mr Bailey would have conducted the defence of the case differently if a warning had been given.
    9. My reasons for coming to that conclusion are as follows. Firstly, as I have explained, this was a case where caution was necessary in making summary findings of fact relevant to the making of the NPCO. Mr Bailey had not been a witness in the action, and the judge had had no opportunity to assess his credibility. Secondly, there was no reason to doubt Mr Bailey’s honesty in giving the evidence as to how he would have behaved in the event of a warning. It was, after all, his behaviour which was in issue, and he could be said to be uniquely placed to assess how he would have behaved. The fact that evidence is given with hindsight, as it often is, does not necessarily mean that it is not reliable. Mr Bailey had given evidence in the clearest possible terms as to how he would have behaved if he had known that he was running the risk of a NPCO. No request had been made to challenge this evidence by applying to cross-examine him. Thirdly, the reasons given by the judge for coming to the conclusion that the warning would not have caused Mr Bailey to act differently were inferential ones, namely that Mr Bailey was motivated by recouping money for his fellow GLE investors, by the advice he had received from his lawyers and by the fact that they were prepared to act on a CFA. Those factors do not mandate a conclusion that Mr Bailey would have acted in the same way if he had known that he would face a costs bill for several hundreds of thousands of pounds. It is one thing to help out fellow investors if there is no appreciable downside, quite another if it is to going to result in a large costs liability if the defence is unsuccessful. No one suggests that the chances of success given to WPMC were such that the downside would not have been considered in the event of a warning. The motivation provided by the fact that Mr Wilson and McFaddens were prepared to act on a CFA might have insulated Mr Bailey from funding WPMC’s costs, but Mr Bailey would have been advised that it could have no impact on his liability for SATV’s costs.
    10. It is true, in a literal sense, that none of the factors which the judge relied on would have changed if a warning had been given. The motive to assist the fellow investors, the advice given by the lawyers and the CFA would have still been in place. However they would have required a radical review if the prospect of a NPCO had been brought to Mr Bailey’s attention. He was an experienced entrepreneur, used to assessing risk against reward. The judge was not entitled, in my judgment, to reject Mr Bailey’s evidence as to how he would have behaved in the event of a warning.
    11. I also consider that it is fair to take into account the fact that Mr Bailey could have protected his position by ATE insurance. The judge rejected this point because there was no evidence that Mr Bailey asked for or was given advice about the remedies which were open to SATV if no ATE cover was obtained and WPMC lost. However, it was obvious that Mr Bailey and SATV were operating on the assumption that any costs order made against WPMC would not be met. It is not clear to me therefore what should have prompted Mr Bailey to ask for such advice. However, if he had been warned that a NPCO was being sought against him, there was every reason for him to ask for and obtain appropriate advice as to how he might protect himself against such an order.
Discussion and conclusion
  1. I have concluded that the judge left out of account features of the case which were relevant to the question he had to decide. I must therefore exercise the discretion afresh. I would accept that Mr Bailey provided limited funding for the litigation, and was responsible for keeping it alive, hoping ultimately to derive personal benefit. I nevertheless take into account that defending the proceedings for copyright infringement enabled the company to protect the Documentary for future exploitation, and the proceedings were thus in a very real sense in the interests of the company. The proceedings were also in the interests of Firefly, who would expect to be repaid their debt, in one way or another, out of any proceeds of exploitation. Whilst a neutral factor, I would observe that no criticism whatever could be, or was, made of Mr Bailey’s conduct in defending the proceedings on the basis of the legal advice he had received.
  2. Thus far I would regard matters as fairly evenly balanced. It might be said that Mr Bailey, standing as he did to benefit from the outcome, was “a real party” if not the only one. However the absence of any form of warning is, in my judgment, fatal to the application for the NPCO. It is plain, as the judge indeed held, that SATV knew or should have appreciated that WPMC would not be able to pay their costs in the event that the claim succeeded, and they knew that WPMC, and Mr Bailey with whom they dealt directly, were operating on the same assumption. In those circumstances the failure to warn until a year after final judgment is given strikes me as manifestly unfair to Mr Bailey. It would be unjust because Mr Bailey was deprived of realistic opportunities to settle the litigation or to protect himself against the adverse effects of a NPCO, or to abandon the defence of the litigation at a much earlier stage.
  3. I would therefore allow the appeal and set aside the NPCO. In these circumstances the cross-appeal does not arise.”