CFOs are no longer UFOs: Galactic class action is good to go with its common fund order

In 2019, the High Court of Australia determined in Brewster that the Federal Court could not make a common fund order (CFO) at an early stage of a group proceeding pursuant to section 33ZF of the Federal Court of Australia Act 1976 (Cth). Left unanswered was whether it could do so at a later stage of a class action under a separate power, for example under section 33V of that Act when approving settlement.

This is not purely an academic question. In practical terms, a CFO can assure litigation funders that they will get a return if their class action succeeds, and more assurance = more class actions.

Aligning with other recent decisions, the Full Federal Court allowed the appeal, confirming again that the Federal Court has the power to make a CFO when approving settlement in a class action (Galactic Seven Eleven Litigation Holdings LLC v Davaria [2024] FCAFC 54).

What is litigation funding?

Litigation funding involves a third-party, who is not otherwise involved in the litigation, funding the proceeding in return for a share of any judgment or settlement. If the claim is unsuccessful, the funder does not receive any return on its investment and may be exposed to adverse cost orders or other fees. While it may be used in any type of claim for damages, it is most frequently used in class actions.

Given practical difficulties identifying group members before a proceeding is commenced, funders usually only enter agreements with some group members. Group members who enter into funding agreements are contractually bound to pay the funder a commission if they recover compensation. However, the group members who have not entered into an agreement have no such obligation. It is generally accepted that this is unfair and that all group members should contribute towards the cost if a class action is successful.

Over the years, courts have taken different approaches to resolving this problem, including through mechanisms commonly described as funding equalisation orders (FEO) and common fund orders (or CFO).

What is a funding equalisation order?

An FEO requires unfunded group members to contribute to the total commission payable by the funded group members under their funding agreements. This means all group members (both funded and unfunded) contribute equally to the commission.

There are two important points about an FEO. First, no funded group member pays the full commission rate specified in the funding agreements. Rather, the burden of the commission payable by funded group members is shared equally across all group members by sourcing funds from unfunded group members. Second, the litigation funder receives a commission which reflects their contractual entitlement from funded group members.

What is a common fund order and why is it so important to litigation funders?

A CFO is an order which requires all group members who recover compensation to pay the litigation funder a commission regardless of whether they have entered into a funding agreement. Generally, the CFO contemplates a commission in the form of a percentage of the total settlement sum or judgment amount.

In the past, a funded class action lead plaintiff or representative party would typically apply for a CFO at an early stage in the proceeding. If the court granted the application, it would provisionally make a CFO that would then be implemented at settlement or judgment. However, the court would reserve the right to review the commission percentage at that later time.

In practice this meant that the court was giving the litigation funder an assurance that a CFO would be implemented at a later stage in the proceeding. This gave the litigation funder comfort that they would receive a return on their investment if the litigation was successful.

So how does that differ from a FEO? In short, the return to the funder is tied to the total amount of the settlement or judgment and rather than the portion of that amount recoverable by funded group members. Under a CFO, the litigation funder can, and would likely, receive more money and the group members as a whole are likely to receive less compensation than under an FEO.

CFOs in the Federal Court

In February 2023, in Davaria Pty Ltd v 7-Eleven Stores Pty Ltd (No 13), the Federal Court was asked to make a CFO that would see the litigation funder (Galactic) receive 25% of the approximately $100 million settlement. However, Justice O'Callaghan declined to make the CFO, saying the correct interpretation of Brewster meant that the Federal Court does not have the power to make a CFO under section 33V of the Act. Instead, Justice O'Callaghan made an FEO in the amount of $12 million.

On appeal, the Full Court found that it could do so, and that it was "just" for the Court to make a CFO pursuant to section 33V in the amount of $24.5 million, ie. 25% of the settlement sum. The comments in Brewster were only determinative of the Court's power to make a CFO under section 33ZF of the Act, and not under section 33V.