Litigation Finance

3 Thoughts On The Future Of Litigation Finance (Part I)

Will more courts be receptive to discovery requests regarding funding relationships?

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As anyone who has read ATL knows, litigation finance is a big deal. In addition to the pure-play litigation funders (including at least one with the good sense to advertise on this site), there are an increasing number of off-the-grid funders (including hedge funds and family offices) that have become drawn to the litigation-funding space in recent years. The appeal is obvious. For investors, litigation finance presents a chance to deploy capital in a manner uncorrelated to the equity or debt markets, with the possibility of a healthy return if the funder maintains a favorable diligence batting average in terms of picking cases to fund.

Plus, the customers are eager. Law firms desperate to offload risk in return for immediate capital have been willing to pay a dear price for any capital deployed — even capital that was not drawn down on by the firm. Likewise, sophisticated litigation funders with robust diligence processes can also serve as a free second opinion on the merits of a case for firms. So the demand from law firms for litigation funding will not abate any time soon, absent some unforeseen circumstances.

Furthermore, for funders (especially relative to other investments), litigation finance is relatively easy to diligence. Just build an in-house team to handicap prospective cases. Or hire outside lawyers to perform diligence on your behalf. Either way, there has been no shortage of investors willing to invest in litigation finance, or hungry customers (whether law firms or litigants) ready to claim those funds.

While the going has apparently been good for litigation funders over the past few years, we are also starting to see more firms willing to invest more in their own contingency efforts. Which is just another variation on litigation finance, with the firm’s partnership ostensibly acting as litigation funders for cases the firm considers likely to generate contingency revenue on. While that may be an option for uber-profitable firms (or firms at the other end of the spectrum that don’t have access to paying clients and are forced to handle matters on contingency), for many firms, taking on contingency cases is a risk that they would like to avoid. Which is where litigation finance comes in, even as most litigation funders demand that firm agree to reduced hourly rates or giving up a huge piece of their contingency percentage in exchange for funding. As I said before, there is no lack of demand for funding from firms interested in offloading risk and bringing in revenue as they pursue a case or set of cases on behalf of an otherwise non-paying or partially paying client. Since most firms operate on a cash basis, short-term thinking about maintaining cash-flow often reigns paramount in our industry.

As the reach and impact of litigation funding increases, however, it behooves us to consider the consequences of the interjection of outside capital into litigation efforts. I will leave the ethical considerations to those best equipped to deal with them, such as local and state bar associations. (That said, any lawyer taking or considering taking litigation finance should stay abreast of any ethical opinions on the topic.) Instead, I would like to focus on three developments I think we can anticipate in the future around litigation finance, keeping in mind that there is really no argument that litigation finance distorts the attorney-client relationship, if only by changing the settlement calculus for firms and their clients (which is no small distortion in my view, considering that the overwhelming number of cases filed in the U.S. result in settlement of some kind).

So what is on my list of admittedly idiosyncratic predictions regarding litigation finance? I submit the following, offered in no particular order. First, I think that more and more courts will find themselves receptive to discovery requests regarding funding relationships. If only because more and more litigants will demand that information from their adversaries, as the number of cases involving litigation finance in some form or fashion increases. 

What types of discovery do I think courts will increasingly allow? Inquiries into the existence of funding relationships for sure. I also think courts will become more comfortable allowing discovery into the terms of funding relationships, whether the funder has an active or passive role in terms of managing the litigation or retaining settlement authority, as well as discovery into the litigation funder’s due diligence process. I have already seen the latter discovery allowed in at least one patent case recently. More decisions of that type are likely to follow.

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The impact of increased discovery into funding relationships will be measurable if it materializes. For one, funders that have enjoyed an element of opacity regarding their funding terms will likely start to lose their grip on that information, which could lead to more transparency in the market — and more price competition. At the same time, firms may become more selective about what diligence material they allow the funder to generate, including by limiting the number of funders they approach for a particular case. With the shift towards firm-level “portfolio” financing, however, we are likely to continue to hear of exclusive firm-funder relationships. Those relationships could allow both sides to exercise more control over the discovery process. Either way, adversaries will continue to aggressively seek whatever information they can get about funding relationships — both actual and aborted.

Next week, we will look at a few other future developments of potential interest in the litigation finance space.

Please feel free to send comments or questions to me at gkroub@kskiplaw.com or via Twitter: @gkroub. Any topic suggestions or thoughts are most welcome.

Gaston Kroub lives in Brooklyn and is a founding partner of Kroub, Silbersher & Kolmykov PLLC, an intellectual property litigation boutique, and Markman Advisors LLC, a leading consultancy on patent issues for the investment community. Gaston’s practice focuses on intellectual property litigation and related counseling, with a strong focus on patent matters. You can reach him at gkroub@kskiplaw.com or follow him on Twitter: @gkroub.

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