Will we see fewer class actions now?

Every time an apartment building is evacuated or a corporate scandal breaks, the next thing we hear is “class action”. It has become a mainstream feature of Australian justice, but it continually throws up questions for which the courts have no easy answers.

A class action is a court case taken on by a representative sample of plaintiffs on behalf of a much wider “class” of people or businesses who have suffered harm from the same cause. For example, everyone financially affected by a man-made flood. This enables plaintiffs who could not economically run their individual cases (because the claim size doesn’t justify the cost and risk) to access the massive savings available from aggregation. In theory, it also reduces the load on the courts.

The big economic question with class actions is their funding, mostly now done by third parties. Seventy eight per cent of class actions commenced in 2018 had litigation funders, who typically pay all the upfront costs in return for a guaranteed piece of the pie, 25-30% of the total damages award being about ballpark.

The courts are crammed with class actions. When the Opal apartment building in Sydney had to be emptied out because of structural cracking, a beauty parade of class action firms and litigation funders turned up trying to get the owners signed up for the inevitable class action against the builder and whoever else could be blamed. That’s standard now when anything big goes wrong.

Two such actions came to the High Court recently asking the same question, which the court answered in a way the industry was not expecting and about which it is very unhappy.

One case was an 80,000-member class action against Westpac over the sale of lousy insurance policies. The other was against BMW on behalf of more than 200,000 car owners, seeking damages in respect of the dangerous Takata airbags in their cars.

In each case, the lower court had made a set of orders governing the split-up of damages on the assumption that the case will succeed. These so-called “common fund orders” bind everyone in the class to an agreement with the funder that ensures the funder gets its money first from the pool of damages, before the individuals get their shares, and fixes the funder’s commission rate. It necessarily includes the court giving approval to the commercial bargain the funder has struck with the representative plaintiffs. Everyone else just has to go along with it.

The High Court was asked whether the Federal Court and NSW Supreme Court, under their governing legislation, actually have the power to make these common fund orders at all. By a 5-2 majority, the court said no.

At the root of the legal arguments was the fundamental public policy question of how justice is accessed by those without deep pockets.

Until relatively recent times, third-party litigation funding didn’t exist at all. It offended the legal rule that prohibited “champerty” — basically, the practice of someone funding another person’s litigation costs. That’s all history now; the courts and parliaments have opened the door wide to the funding industry.

However, funding is a business, not an altruistic pursuit. The interests of plaintiffs may align with those of their funders, in that they both want to win the case, but they are operating on entirely different drives. Simply put, if the odds don’t stack up, the funders won’t fund.

The common fund order is designed to give the funder sufficient certainty that, assuming they win, the payday they get will be sufficient reward to make their investment worthwhile. They need that in place before going ahead with the case, in massive class actions like the Westpac and BMW claims where it is uneconomic to individually sign up a big enough number of class members (called “book building” in the industry). It’s far more convenient to get the court to approve their deal and bind all the class members to it from the outset.

However, the High Court said no, the courts can’t give that approval. They can determine who gets what once the case is finished and judgment given. What the High Court says goes too far is the courts making orders that are only needed to ensure the funder feels secure enough to proceed with the case in the first place.

The court said that there’s a critical distinction here: the court system exists to facilitate justice, and to that end the courts can make whatever orders are necessary. However, that does not extend to governing the preliminary question of whether a case can proceed at all, by involving themselves in the economics of funding. That’s for financiers, not courts.

The decision has carved a sinkhole in the litigation funding model, and the industry has reacted predictably by calling for legislative change to plug the gap — arguably, fair enough; there is an obvious social good that class actions can provide, but they won’t run if there’s no funding.

On the other hand, there is reason to query whether there is much social utility in the pursuit of, for example, a class action seeking nominal damages for 200,000 consumers whose defective airbags have already been replaced at no cost to them. However, 200,000 x $100 = $20 million. Class actions are here to stay.