The chimes at midnight

The recent decision of Lord Dyson published on 28th July 2014 not to set new guideline hourly rates was baldly stated on the Judiciary website in these terms:

The Master of the Rolls having considered the Report has not been able to accept that the new rates recommended by the Committee should be accepted. He has however accepted the following two recommendations, which will take effect on 1st October 2014:

• to amend the criterion for Grade A fee earners so that it includes Fellows of CILEX with 8 years’ post-qualification experience; and
• that, suitably qualified and regulated, costs lawyers be eligible for payment at GHR Grades C or B, depending on the complexity of the work.

The Guideline Hourly Rates 2010 will, subject to the 1st October 2014 amendment, continue to be applied. The Master of the Rolls will give urgent consideration, in consultation with the Law Society and the Ministry of Justice, to what further steps need to be taken to obtain the necessary evidence on which to base any revision of the GHR.

So occurred the biggest non-event in the world of costs this year. However the report of a committee of the Civil Justice Council which Dyson MR considered repays careful reading: it clearly sets out the case for substantial reductions in the guideline hourly rates which may well prove to be well founded as and when further evidence is obtained from the solicitors profession which had wisely decided to keep its management accounts and profit margins to itself.

Assuming that the report’s recommendations or similar recommendations are adopted in the future not only will the profitability of litigation take a knock the effect on the current pyramidal structure of law firms in personal injury litigation is potentially profound.

The report begins by noting the origins of the guideline hourly rates:

1.3 The historic method for calculating an hourly rate was based on an ‘A + B’ formula, whereby ‘A’ comprised the actual costs to a practice of a solicitor doing the work and ‘B’ represented an additional sum designed to cover a profit element and some other overheads and expenses, often referred to as a sum paid for “care and conduct”.

1.4 Prior to the Woolf reforms and the implementation of the CPR in 1999, GHR were set by local judges and solicitors after negotiation of what reasonable ‘going rates’ would be for a particular area and level of fee earner.

1.5 The CPR placed responsibility on judges at all levels to assess costs summarily at the end of a trial on the fast track or on the conclusion of any other hearing that had not lasted more than a day. This development led to the need for guidance on how judges unfamiliar with detailed costs issues should conduct a summary assessment of costs. The then Lord Chancellor, Lord Irvine of Lairg, stipulated that there should be a composite rate of GHR (not one based on A + B rates). This in turn resulted in the Supreme Courts Costs Office (SCCO) publishing in 2002 a comprehensive guide, Appendix 2 of which set out guideline figures for various areas.

1.6 Until 2005, the figures for each locality were arrived at through a framework of local co-ordinators, judicial and from the professions. Rates were uplifted linked to inflation in 2003, 2005 and 2007. From 2008-12 responsibility for collating evidence and recommending GHR was undertaken by the Advisory Committee on Civil Costs (ACCC). In 2013 the ACCC was abolished with responsibility passing to the Civil Justice Council (CJC) and this Committee. The history of the formation of the Costs Committee, its terms of reference and membership are detailed in Appendix 1.

The exercise the committee set itself was to revise guideline hourly rates by an appropriate and evidence based methodology:

3.3 Following discussions the Committee agreed that the approach used should be the one recommended by the economic advisers – the ‘expense of time’ (‘EOT’) approach. This is a well-established formula and requires in the first instance estimating the cost to law firms of an hour of fee-earner time, taking into account the full salary cost paid to fee-earners for those hours and the expenses of the firm that need to be recovered from hours billed for the firm to break even (including a wide range of costs and overheads). Once this figure is arrived at, a percentage mark-up is added to it to represent a reasonable profit element.

3.4 Having reviewed all available data sources for the provision of material – salaries, billable hours, realisation rates, expenses, overheads and so on – on which an expense of time estimate could be made for each of the GHR grades and regional bands, the Committee’s advisers reported a shortfall of relevant data in some areas. As a result, the Committee conducted its own survey a) to produce new data to make good this shortfall of relevant data and b) to provide a more comprehensive set of data material to allow cross-checks and validation of the information from the other sources.

3.5 The Committee took a conscious majority decision – after some discussion – not to try to reflect the impact of the Jackson reforms for the 2014 GHR exercise. It felt that there was insufficient evidence in terms of throughput of cases under the new costs regime for the effects of the reforms to be taken into account. Since that decision was taken, the evidence has confirmed that this was an entirely justified position to take. Nonetheless, the Committee made provision for submissions to be made on that topic in its survey and call for written evidence, and sought views at the oral evidence sessions. The Committee has recognised that these matters will fall for more direct consideration in any future GHR exercise.

The limitations of the evidence upon which the report was based are apparent from the foreword written by Foskett J where he noted:

Inevitably, our recommendations can only be as good or as valid as the quality of the evidence at our disposal and the collective expertise of the Committee in assessing it. We have not had the resources to conduct a nationwide randomised survey of a large number of solicitors’ practices (to which the respondents were obliged to respond) in order to obtain, for example, a statistically robust assessment of the average cost of running a litigation practice and to identify regional variations. The wherewithal to engage professionals to conduct such a survey has not been available in the current exercise. Even if it had been, the litigation market-place is currently undergoing such significant changes that determining generally applicable guideline hourly charging rates appropriate for recovery from the losing party in civil litigation would not have been easy in any event.

Those limitations were further expanded upon in the body of the report:

5.2 It should be noted at the outset that the overall evidence base upon which the Committee focused in terms of collecting and evaluating the “hard” data was an evidence-base derived from what had been occurring in the competitive legal market place in the broad period from 2010 – 2013. The various surveys considered (see Section 4) provided evidence from this broad period. It is recognised that, to some extent, the costs sought by receiving parties during this period may have been influenced by the existing GHR. However, making a claim based upon these rates does not mean that what was paid by the paying party, whether by agreement or order of the court, was necessarily dictated by those rates and the period in question (marked by a difficult national economic situation generally) was one in which close attention will have been paid by the paying party to any such claims. At all events, the Committee did not have the resources to undertake a fundamental, root and branch analysis of litigation costs without having regard to evidence of what was being claimed and paid in the existing market place. Indeed this would appear to be what Lord Justice Jackson had in mind in his report (see paragraphs 1.2 and 3.1 above). Overall, the Committee was of the view that, given the resources at its disposal, the recent market place would yield valuable evidence of what current reasonable charging rates per hour were subject, of course, to considering it in the context of evidence about the actual costs of running a litigation practice. Because two respondents to the call for evidence raised issues concerning possible anti-competitive practices, the Committee took legal advice and was assured that nothing in its approach to evidence-gathering or to its recommendations would breach any aspects of competition law.

An interesting conclusion drawn from such evidence as the Committee had, was that the mark up in terms of profit for all sorts of litigation is 20%:

5.29 Some concerns arose as to whether a mark up for profit of 20% was adequate given some features of the written and oral evidence received.

5.30 However, whilst some concerns remain, the objective evidence available to the Committee is that a mark up for profit of 20% is what the market-place it has been able to investigate and analyse suggests is the norm for all areas of practice. For the purposes of assessing the GHR, the Committee cannot go further than that on the evidence.

It was noted that personal injury litigation carries a larger element of “work in progress” WIP at the year’s end however: which might prompt an argument for an upward revision to take account of this factor:

5.34 The expert advice to the Committee was that these analyses of the evidence generated by the LMS Survey demonstrate that there is a significant relationship between the reported year-end WIP as a percentage of fee income and the proportion of personal injury litigation carried out by the firms in question. Such firms do appear to carry more WIP than the average firm that does not engage in any, or any significant, personal injury work.

5.35 The issues for the Committee to address were whether, when formulating a GHR for use henceforth, some additional mark up should be incorporated to compensate for the “lock up” of the unpaid WIP and, if so, what the level of that mark up should be.

5.36 On the first of those issues, the consensus was that some additional mark up should be incorporated. It was acknowledged that, since a single GHR was proposed across all types of litigation (not exclusively personal injury litigation), the relevance of WIP would be less in some types of litigation than others and consequently a mark up for it might not, therefore, be appropriate. However, a large proportion of litigation is personal injury litigation and it was felt that a modest mark up should be included. It will be apparent from this report what that mark up will be. Whilst lengthy debates (and the submission of detailed evidence) about its relevance in an individual case is not to be encouraged (certainly in the case of summary assessments), this is an area where the court may wish to vary the rates adopted in any case to the individual circumstances.

The committee went onto note:

5.39 Because the Committee felt in principle that there should be a modest mark up to reflect this matter, it has done its best, with the help of its experts, to arrive at an appropriate mark up. The percentage opportunity cost of lock up has been assessed at roughly 6% with a consequent 3½% uplift. The way in which this has been calculated is set out in Appendix 6. It follows that a 3½% uplift will be added to the results of the process derived from the addition of the 20% mark up on the expense of time figures (see paragraph 5.25 above).

As well as devising a methodology and evaluating available evidence for revised guideline hourly rates, the committee also looked at a number of other issues than the headline figures. The report also suggested an enhancement in the status of Legal Executives:

6.1.5 The Committee’s view is that the crucial test for qualification for any of the Grades must be on the experience and expertise of the fee earner concerned and the level of work undertaken. In the Committee’s view Chartered Legal Executive Fellows of 8 plus years’ PQE should have parity with solicitors of equivalent experience and, accordingly, it recommends that the Master of the Rolls should amend the criteria for Grade A fee earners for the new GHR.

The Report also suggested that the evolution of costs lawyers should also receive recognition by permitting the recovery of enhanced hourly rates over and above those commonly awarded for the work they have traditionally done as costs draftsmen: a recognition of the complexity of much of the work they now do:

6.2.2 The ACL provided evidence giving details on the qualification route, continuing professional development and regulatory framework for Costs Lawyers. The Committee agreed, and determined that the following approach should be adopted for those Costs Lawyers who are suitably qualified and subject to regulation under the Legal Services Act 2007 to undertake reserved legal activities:

(i) For budgeting and bill drafting, save in exceptional circumstances, Costs Lawyers should sit within the grades for Grade C and D fee earners;

(ii) For practising litigation and advocacy, save in exceptional circumstances, costs lawyers should sit within the grades for Grades C or B.

6.2.3 The Committee received some further written and oral evidence on grading for Costs Lawyers, including from the ACL. The point was emphasised that enhancement of Costs Lawyer rates to Grades C or B should apply only to those who are professionally qualified and subject to regulation. Following a discussion, the Committee supports this proposal and the proviso.

Amusingly (and the Secretary of State for Education may wish to reflect on this) the Committee decided against advocating a new band of A* fee earner but did advocate a new grade E fee earner. In relation to grade A* the report states:

6.3.3 As already indicated, the Committee (by a majority) were of the view that a new Grade A* was not justified by the evidence at this stage. The overall decision was that this issue should be addressed in guidance accompanying the GHR, rather than being a discrete recommendation.

In relation to grade E the report states:

6.4.5 Having reviewed the evidence, the Committee’s overall conclusion was that there is undoubtedly force in separating out the existing Grade D, so that a new Grade E is established. Not to do so would have resulted in a dramatic reduction in the GHR for the existing, combined Grade D fee earners. However, the Committee

– having regard to the experience and value (and qualifications) built up by longer serving paralegals – agreed that they should be eligible for Grade D rates if they had at least 4 years’ civil litigation experience, and Grade C if at least 8 years (reference was made to old-style Managing Clerks in the latter respect).

 One particular recommendation which would effectively sweep away many of the Wraith arguments that are still encountered on detailed assessment, would be a single National Band for rates outside London:

6.5.13 Although this was an issue on which the Committee received considerable oral or written evidence, the statistical data was much less comprehensive. The Committee has lacked the means to commission a chartered surveyor to provide an analysis of property costs across the country. The various surveys analysed have some regional data, but not to the extent that has enabled the Committee to form any clear view on whether there is scope for regional variations. On the basis of the evidence at its disposal in the present exercise, the Committee feels left with no alternative but to recommend a single National rate outside London across each of the Bands. That will not, of course, prevent different rates being considered at the assessment stage in a case if good grounds are shown for a local variation (including the award of City Centre rates or rates appropriate for other locations with a higher cost base).

An old chestnut is the extent to which guideline hourly rates are applicable or relevant (at all) to detailed assessments. It is interesting that the committee effectively took a line which represents the approach that many District Judges and Masters take in practice:

6.7.5 The Committee was generally of the view that, while summary and detailed assessments are distinct processes, it is unrealistic for them to be completely disaggregated and was mindful of the fact that the evidence considered by the Committee was not focused on seeking to distinguish between the expense of time and various mark ups associated with hourly rates for the kind of case which would result in a summary assessment compared with one that would be the subject of a detailed assessment. The GHR are themselves guidelines and a benchmark for summary assessments. As such, they may provide a helpful starting point in the detailed assessment process, but no more than that. The court’s discretion and exercise of judgment in the application of the eight pillars of wisdom will be will be of significance in both forms of assessment, more obviously so in detailed assessments.

The interrelationship of guideline hourly rates and costs budgeting was briefly considered, but shelved. This is surprising as logically any consideration of the proportionality of budgets should take hourly rates and hours as two sides of the same coin: a point that the current Practice Direction on costs budgeting singularly fails to recognise.

6.7.6 There was also discussion on whether the GHR had any place in the costs budgeting process. The Committee’s general view was that while GHR had no formal role in costs budgeting, it would not be unreasonable for parties and clients to have some regard to them as a reference point for estimating expected costs to be incurred in a case. Costs budgeting, of course, encompasses much wider costs issues than hourly rates for legal fee earners (e.g., experts’ costs, counsel’s fees and so on) and the costs budgeting process is not well placed for detailed consideration of hourly rates.

6.7.7 As a result, the Committee felt that this was an issue that would be better addressed in guidance notes accompanying the GHR, rather than an attempt being made to draw up suggested rates for detailed assessments or for offering prescriptive guidance on what the relationship between the GHR and detailed assessment ought to be. The Committee was concerned not to make recommendations that could be seen to fetter judicial discretion in the proper exercise of a detailed assessment or the costs budgeting process.

The meat of the Report however relates to the overall conclusion that the committee reached in terms of the figures for new guideline hourly rates. These conclusions (and recommendations) were set out in tabular form:

  Grade A Grade B Grade C Grade D Grade E
National 237 157 127 102 75
Inner London 375 265 194 147 109
Outer London 261 173 140 112 83

Two further tables expand upon the changes and also put them in percentage terms, but the message is clear: a collapse in the hourly rate of those who currently enjoy the soubriquet of grade D fee earning status, with many of them being relegated to grade E status.

Given that many firms of solicitors including those acting for claimants in bulk personal injury litigation and for insurance companies defending such claims employ an intensely pyramidal structure dependent on the earnings of grade D fee earners the recommendation is potentially catastrophic.

For panel insurance firms the consequence is even worse as their insurance clients ordinarily these days expect their rates to be lower than guideline hourly rates and so an added discount might be applied when insurers rejig their panels.

Although that consequence is not expressed in terms in the report there is a sense of unease in the caveat which follows from the recommendations in relation to figures:

7.12 Whilst thus presented and thus analysed, the overall net effect of the changes could be seen as relatively small, the Committee’s reservations need to be expressed. As with any exercise of the nature undertaken by the Committee (particularly for a Committee comprised substantially of those with direct and regular experience of the day-to-day operation of the impact and assessment of litigation costs) it was felt appropriate that its members should stand back from the precise results achieved by the methodology described above to enable a broader view to be taken of where those results lead. That has led to the following concerns being expressed: first, as the experts have advised from the outset, the LMS Survey and the Committee’s own survey each suffers from the “self selection” nature of the respondents who replied. That can never be as reliable statistically as a randomised selection approach. However, the resources for such a survey have not been available. All members of the Committee have recognised this from the outset and it underpins concerns that will be expressed about how future reviews are conducted. Second, it has to be recognised that whichever existing survey is considered, the responses reflect a very small part of the community of civil litigation solicitors throughout England and Wales. On 31 October 2013 (incidentally, the day before the Committee’s survey went online) the Law Society Gazette published an article showing that, according to the Solicitors Regulation Authority, “there were 10,726 practising firms in England and Wales in September”. Plainly not all such firms are engaged in civil litigation, but that number serves to highlight how difficult it is under prevailing arrangements to obtain a large number of responses to a request for financial information concerning practice costs. Third, some (but not all) members of the Committee have expressed concerns that the firms that responded to the LMS Survey will not have been engaged in a significant amount of multi-track litigation (in the context of which the GHRs may play a part) and, to that extent, the information relied upon for the purposes of the Committee’s recommendations is not as well-targeted as it might be. The contrary argument is that the Committee’s own survey will have received responses from those engaged significantly in multi-track litigation and, whilst its database is limited, the analysis of those responses does afford broad support for the conclusions to be drawn from the LMS Survey. Fourth, leaving aside issues concerning the depth and breadth of the available evidence-base, a number of members of the Committee were concerned at what was revealed during the oral evidence sessions about the closures of many practices conducting personal injury work and the impact of that on access to justice generally. It was felt that the universally predicted increases in professional indemnity insurance premiums following the Mitchell case could accelerate this process. Whilst it was recognised that these factors could not operate to prevent the Committee making evidence-based recommendations for the new GHR, it was felt by the majority that since there were reservations about the strength of the database and some of the underlying assumptions, consideration ought to be given to measures designed to lessen the immediate impact of any changes in the GHR proposed. Other members of the Committee expressed the view that individual practices and the profession in general would adjust to the new GHR and that concerns leading to the suggestion of such measures were misplaced. The majority, however, felt that, whilst adjustment would be likely, (a) the way it might take place is not yet evidence-based and (b) because of some fairly significant reductions in the GHRs in some areas, it would make commercial sense to moderate the immediate impact whilst adjustments are made to ensure that no immediately dramatic change in working practices was required.

The Committee’s own assessment of the impact of its recommendations is set out tabular form as well:

Current GHR bands:

Qualified (A-C)

Total (A-E)

London 1

-5.17%

-4.64%

London 2

+5.45%

+4.86%

London 3

-2.10%

-3.52%

National 1

-1.50%

-3.75%

National 2

+2.68%

-0.01%

Total

-1.11%

-2.57%

However these conclusions it should be noted are based on the very slender evidential base which it considered.

Perhaps one of the most startling revelations in the report is the fact that the whole exercise was undertaken effectively without a budget and reliant on the good will of those who freely contributed their time to the committee’s deliberations.

Given the billions of pounds legal services are worth to the wider economy, and the potential ramifications of this exercise (which if properly undertaken should have been at the centrepiece of the Jackson reforms) one is left with a sense of wonder that any report at all was produced.

9.1.2 As has been remarked (see section 4.16 above) the response to the Committee’s survey was disappointing. .The Committee understands and acknowledges that for busy practices the task of filling out difficult and confidential financial data was a complex and time-consuming task, despite efforts made to ask questions that would allow many answers to be sourced from published annual reports and accounts. Nonetheless, for an exercise of this kind the Committee had to seek access to a level of detail of financial data. While some meaningful data could be secured or cross-checked from the Committee’s survey, a higher response rate would have provided much greater confidence in the evidence base, particularly in areas such as regional costs.

9.1.3 There was no budget for the Committee’s survey – it was constructed and placed online using in-house (Judicial Office) resources. No publicity budget was provided, and so advertisements in the legal press were not commissioned. The Law Society’s research unit has suggested an ample five figure sum is required for conducting such a broad based survey. As things stand – with the entire CJC budget being £40,000 – there is no prospect of the Committee alone being able to undertake a survey on such a scale.

It is easy to dismiss this whole exercise given the lack of substance to the Master of the Rolls decision as pointless. To do so would to lose sight of the fact that the report despite its shortcomings has clearly identified arguments for decreasing guideline hourly rates at a time when many firms are reeling from the loss of recoverable success fees.

What the report will do is add to the pressure to reshape the legal profession which is already taking place through consolidation, liberalisation and the introduction of alternative business structures together with a relentless reduction in costs.

It will also add impetus to the need to find new ways of providing legal services at lower cost: the “more for less” phenomenon. This in turn is part of a wider issue facing our society: the challenge to provide access to justice. The challenge for lawyers of all stripes is to provide solutions which meet these outside pressures whilst still making a decent living.

 

Challenging ATE premiums

One of the areas of costs practice that has a little while to run yet despite the implementation of the Jackson reforms is the recovery of ATE premiums. A “long tail” of cases where this is an issue continues to bedevil claims for costs. Yet challenging such premiums is often seen as one of the most difficult areas of dispute.

The dangers of recoverable ATE premiums and the potential for them to be calculated at levels which represented what the courts were prepared to allow, rather than on a market basis were recognised right from the start of the implementation of the Access to Justice Act 1999.

In the case of Callery .v. Gray (Numbers 1 and 2) [2002] 1 WLR 2000 and in  paragraph 5 of Lord Bingham’s speech set matters out succinctly where he said this:

A third possible abuse was that claimants, although able to obtain after the event insurance, would be able to do so only at an unreasonably high price, the after the event insurers having no incentive to moderate a premium which would be paid by the defendant or his insurers and which might be grossly disproportionate to the risk which the insurer was underwriting.  Under the new regime, a claimant who makes appropriate arrangements can litigate without any risk of ever having personally to pay costs either to those acting for him or to the other side and without any risk of ever having to pay an after the event insurance premium whatever the outcome:

It was noted by Lord Hoffmann later in the same case at paragraph 43:

ATE insurers do not compete for claimants, still less do they compete on premiums charged. They compete for solicitors who will sell or recommend their product. And they compete by offering solicitors the most profitable arrangements to enable them to attract profitable work. There is only one restraining force on the premium charged and that is how much the costs judge will allow on an assessment against the liability insurer.

Despite these words of warning as the recoverability of ATE premiums was argued through the Courts, the ATE insurers usually won the point that they were making.  In this respect the high point of the ATE insurance industry’s position was probably reached  in the case of Rogers .v. Merthyr Tydfil CBC [2007] 1 WLR 808. At paragraph 117 the Court of Appeal noted:

If an issue arises about the size of a second or third stage premium, it will ordinarily be sufficient for a claimant’s solicitor to write a brief note for the purposes of the costs assessment explaining how he came to choose the particular ATE product for his client, and the basis on which the premium is rated – whether block rated or individually rated. District judges and costs judges do not, as Lord Hoffmann observed in Callery v Gray (Nos. 1 and 2) [2002] 1 WLR 2000 paragraph 44, have the expertise to judge the reasonableness of a premium except in very broad brush terms, and the viability of the ATE market will be imperilled if they regard themselves (without the assistance of expert evidence) as better qualified than the underwriter to rate the financial risk the insurer faces. Although the claimant very often does not have to pay the premium himself, this does not mean that there are no competitive or other pressures at all in the market. As the evidence before this court shows, it is not in an insurer’s interest to fix a premium at a level which will attract frequent challenges.

Since that high point there has been something of a retreat and in my experience Costs Judges are more prepared to roll up their sleeves and consider the reasonableness and proportionality of a premium but of course have to do so in a principled way.

Assuming that there was no alternative source of funding, or to couch it more accurately, it was reasonable for a receiving party to incept an ATE premium, when attacking the amount of that ATE premium there are really three routes which a paying party might pursue.

The first as was done in the Claims Direct and the Accident Group test cases is to deconstruct the premium because many elements of it in certain context may not be premium at all within the meaning of Section 29 of the Access to Justice Act 1999.  But it takes an exceptional case to persuade a Court to do that and in my experience absent a large scale scheme where the point could be said to be of wider or systemic importance that the Court will be reluctant to do so.

I certainly do not believe that a District Judge in the County Court would be interested in doing so.

Secondly there is the possibility of showing comparable and cheaper premiums were available to the paying party which he should have chosen.  What I mean by this is that if it is possible to show that at the date when the policy was incepted there were other alternatives on the market which were of a significantly lower cost than this premium but which was still available providing a comparable level of indemnity, then that evidence can be put before the District Judge to say that the claimed premium is unreasonable and disproportionate as there were cheaper alternatives available.

This brings me to the third approach which is applicable in individually calculated premiums. The figures for these, whether as a single premium or a staged premium will have been calculated by means of a formula. That formula and its application should be scrutinised carefully by the paying party. The paying party can then invite the Court to consider the basis upon which the premium is calculated and to suggest that the formula is either unreasonable and disproportionate in its effect or in any event has been calculated using variables which are unreasonable and disproportionate in their result.

The starting point is to consider the RSA Pursuit Test Cases (2005) EWHC 90003 (Costs) a decision of Master Hurst dating from May of 2005.  In that case premiums were calculated by RSA on the basis of estimated costs.  It is perhaps only material to note his conclusion on the methodology at paragraph 362.

In summary therefore in relation to the flaws put forward by Mr Bartlett I accept the Defendants’ submissions that the premium rating methodology is inherently and seriously fundamentally flawed in that it assumes a constant relationship between costs at risk and own costs; and, depends too heavily on the relative sizes of the estimate of own costs and defendant’s costs, which are very likely to be inaccurate; and the final premium is calculated by reference to the Claimant’s costs as claimed, however unreasonable or disproportionate. With regard to the fact that the estimates of success adopted by First Assist may be too low in that they do not accurately reflect the likelihood of the insurers having to pay out; the premium starts at a high level where the policy is taken out some time after the CFA was entered into, these are fact sensitive and do not in my judgment less serious amount to fundamental flaws. As to the argument that the premium in successful cases is calculated so as to make up for lack of premium in the unsuccessful cases, I do not regard it as a fundamental flaw.

The conclusion in the test cases led to RSA or First Assist refining its approach over the years and by the time the case of Motto .v. Trafigura Limited (2011) EWHC 90207 (Costs) came before Master Hurst in 2001 the way that the premium was calculated was quite different as Master Hurst noted in paragraph 14 of the Motto case:

This method of calculating the premium was challenged in 2004 by a number of defendant liability insurers, leading to the RSA Pursuit Test Cases in 2005, which was argued before me. I found (Order dated 27 May 2005) that the contract of insurance was not void for uncertainty, nor was the arrangement between the client and/or the solicitors and the insurer unlawful on the grounds of champerty. In my judgment I found certain flaws in the way in which the premium had been calculated in the Test Cases, largely because the estimated costs which formed the basis of the premium calculation were extremely inaccurate. As a result of this, the policy wording was amended by First Assist, thus allowing the premium rate to be applied directly to the actual exposure faced by the company, ie, the actual costs of the opponent at the time the case was settled in favour of the insured (plus the own disbursements to the extent that they were insured). It is this methodology which has been adopted in the present case.

He went on to recite that method which was applied at paragraph 15 as follows:

Mr Smith sets out the formula used for calculating the premium:

  • an exposure multiplicand is calculated, being the sum of own disbursements and opponent’s costs (subject to any limit of indemnity on the former);
  • a risk multiplier is applied to the exposure multiplicand;
  • a basic risk multiplier is ascertained in the same way as a success fee is ascertained, namely by dividing the chance of losing by the chance of winning;
  • this basic figure therefore represents the pure burning cost of the insurance (that is the break even cost disregarding the need for the underwriter to fund its business overheads and make a profit);
  • the basic figure is then adjusted to include an allowance for overheads, marketing and brokerage costs and profit;
  • this provides the overall risk multiplier;
  • the overall risk multiplier is applied to the exposure multiplicand, to derive the net premium;
  • insurance premium tax is then applied to produce the overall figure.

In paragraph 93 of the Judgment the Master recorded that Mr. Smith had claimed a 15% element for administration and profit.  I turn to consider then what Master Hurst concluded on the element of administration and profit.  He said at paragraph 147:

In relation to Mr Bacon’s submissions in respect of deconstruction of the premium and the 15% addition for administration and profit, I accept Mr Butcher’s submissions, which are clearly correct. In both the Claims Direct and Accident Group cases I was persuaded, exceptionally, to deconstruct the premiums, because it was clear from the evidence in each of those cases that the so called premium, whilst containing an element for insurance, contained numerous other elements which were clearly not insurance. Thus, the only way to arrive at the figure for premium was to carry out a deconstruction, and make an allowance for that element which was truly premium. In this case, as Mr Butcher has pointed out, there is one premium, one insurer and one agent. There is no basis whatsoever upon which this court could or should deconstruct the premium. The question for the court is whether the premium sought is reasonable and proportionate. The two areas to be considered are the exposure and the risk multiplier.

This approach was then applied by Master Hurst in the later case of Kelly .v. Black Horse Limited (SCCO) 1st August 2013 where he looked at the case by calculating the burn premium and adding elements for brokerage and profit.

Thus the following propositions are an accurate statement of the law.

First of all I noted that it is entirely possible to construct a premium whereby the premium is to be calculated by a formula rather than being defined in a set figure at the start of the inception of the policy.

Secondly that the formula which was applied in the RSA Pursuit Cases based on estimates of cost was specifically disapproved by the Master who pointed out the dangers of far too high a premium being calculated on the basis of unreliable estimates.

Thirdly that the RSA Pursuit formula was modified by First Assist and the formula that they adopted in place of the discredited one was accepted as calculating a reasonable and proportionate amount in the Motto case.

Fourthly that is a matter for the Court to consider the exposure and the risk premiums which does not require the assistance of expert evidence but rather involves the Court considering the figures of costs incurred by the paying party the receiving party’s incurred disbursements and how risky a case was: all of matters which are well within judicial expertise.

It should be noted that the risk in this context, is not the same as that undertaken by a solicitor calculating a risk assessment for the purposes of a Conditional Fee Agreement: what one is really trying to measure is the risk that the insurer has to pay out which is not quite the same as the risk that the case will be lost.

This is because a case will be lost in circumstances sometimes when insurer does not have to pay out: for example where the receiving party is a fraudster and the insurer is entitled to void the policy.  But for the sake of simplicity I pass over that point at this stage: it requires detailed consideration of the terms and conditions of an individual policy.

Whilst no new recoverable policies (save for those limited exceptions in LASPO (eg mesothelioma claims) have been written since 1st April 2013 this point has a little while to run yet.