BAHR Dispute Resolution Update – The Supreme Court develops the reach of third-party liability for awarded legal costs
In Norwegian litigation, the main rule is that the winning party is entitled to full compensation for its legal costs from the other party to the dispute. Further, in certain instances, third parties making decisions on behalf of the losing party, typically the management, board members and/or the parent company, may be held liable for such legal costs based on general principles of tort law and company law. The conditions for imposing such liability has been that the third party knew or should have known that the claim or defense was unlikely to be successful, and that the party to the dispute had insufficient funds to cover the potential liability to compensate the other party for any awarded legal costs.
In a recent decision dated 9 June 2022 (HR-2022-1148-A), the Norwegian Supreme Court held that the potential third party liability for legal costs in litigation also extends to situations where the unsuccessful party had a reasonable basis for trying the case. The condition for third party liability in such instances is that the decision-makers have been involved in arrangements/transactions prior to the dispute to isolate themselves or the group from the liability towards the opposite party that they would otherwise have had as a formal party to the dispute. As the present case illustrates, this can typically be the case where a parent company transfers the right or obligation under dispute to a thinly capitalized subsidiary shortly prior to the legal proceedings, using the subsidiary as a form of single purpose vehicle for carrying out the court proceeding, and thereby protecting the decision-makers and the group from a potentially substantial liability for the other party’s legal costs.
The facts of the case
A Norwegian limited liability company had been granted a patent to be used in the fish-farming industry. The company later formed three subsidiaries. The same individual acted as sole board-member and general manager of the parent company and the subsidiaries. Thereafter, the parent company transferred the patent to one of the subsidiaries. It was subsequently agreed between two of the subsidiaries that one of them would pursue potential infringement claims related to the patent whilst the other would defend any claims as to the validity of the patent.
The validity of the patent was later challenged and a competing fish-farming company denied paying licensing fees for applying the active substance which the patent was based on. One of the subsidiaries therefore filed an infringement claim against the competitor. The competitor responded by filing a validity claim against the other subsidiary. The District Court and the Court of Appeal both held the patent invalid and concluded that it therefore was not infringed. The subsidiaries’ appeal to the Supreme Court was denied. The subsidiaries were held liable for the legal costs of the prevailing party for the District Court, Court of Appeal and the Supreme Court.
Neither of the subsidiaries had sufficient funds to cover the awarded legal costs, and bankruptcy was later opened in the both the estates. The winning party to the dispute therefore filed a claim against the parent company and the general manager personally. The question before the Supreme Court was if the parent company and the general manager could be held liable for the legal costs that the winning party had been awarded by the courts from the (later bankrupt) subsidiaries.
The view of the Supreme Court
The Supreme Court noted that third parties’ liability for awarded legal costs to the winning party is generally conditioned upon the claim or defense being highly unlikely to succeed, that the party to the dispute had insufficient funds to meet the potential cost liability, as well as the third (decision-making) party also being aware, or ought to have been aware, of these facts. Third party liability for awarded legal costs is however not limited to these situations. It may also be applicable in cases where the unsuccessful party had a reasonable basis for trying the case in the courts, but where the decision-makers have been involved in arrangements/transactions directly prior to the dispute to avoid such liability (towards the other party) for themselves or the group that they would otherwise have risked had they been the formal party to the dispute.
In its assessment of the facts, the Supreme Court did not find that the claim filed in the infringement case, nor the defense in the validity case, was without merit or without reasonable chances of being successful. Hence, the traditional conditions for holding the third party liable were not met. The Supreme Court, however, found that the parent company and general manager exposed the competitor to a significant risk of not being able to pursue any award for the legal costs. The Supreme Court referred to the patent being transferred from the parent company to the subsidiary, thus forcing the competitor to file the validity claim against the financially fragile subsidiary rather than the well-funded parent company. It was also emphasized that the subsidiary had no resources to utilize the patent in any way, or engage in the litigation, without support from the parent company. On this basis, the Supreme Court held that the parent company and general manager were liable for the awarded legal costs against one of the subsidiaries. The Supreme Court did however not find that the parent company and general manager were liable for legal costs awarded against the other subsidiary, as that situation was different: The Supreme Court emphasized that this subsidiary in fact generated income, and that arranging the licensing of the patent through a subsidiary with limited liability must be regarded as an ordinary way of organizing the activities in such group.
The judgment from the Supreme Court is important as it confirms, clarifies and develops earlier case law on third party liability for awarded legal costs. This is the first time the Supreme Court has established that third parties may be held liable for awarded legal costs also in cases where the company had a reasonable basis for trying the case in court. The decision can therefore be interpreted as expanding the reach of potential third party liability for awarded legal costs.
We expect that the issue of liability for legal costs for third parties will remain relevant primarily in cases of unlikely success combined with limited financial resources to meet the expected liability to cover the other party’s legal costs (like before). BAHR’s Dispute Resolution Team has previously argued successfully for the imposition of liability for costs on third parties in such cases. However, the decision is a reminder that there are also limits to what extent the courts will respect creative intra-group reorganizations trying to separate the formal dispute from the resources necessary to cover the potential obligations toward the other party of the same dispute.
In our most recent BAHR Dispute Resolution Insight we have also explored the recovery of litigation costs beyond strict legal costs.