Litigation Finance Basics
Making sense of a complex industry
Litigation financing is capital provided by a third party investor to defray the costs of filing and maintaining a legal claim in exchange for a portion of the proceeds if the case is successful. Usually the raised capital goes to pay lawyer’s fees and related case costs though sometimes a funder will buy part of a judgement ahead of appeal or fund a law firm. Investment is non-recourse, meaning if your claim fails, there is no obligation to repay the capital.
Litigation finance is an extremely active market - there are more than thirty dedicated litigation funders operating in the US and as many non-traditional investors - but financiers are extremely selective, funding only 3-5% of cases presented to them. Investments range from $100K - $100M, though $3-7 is most typical and funders tend to specialize in a tighter range. Not all financiers will back patent cases - fewer still do it regularly. Money comes from dedicated funds, private equity, hedge funds, crowd sourced or home offices of wealthy individuals. But litigation finance is not new; law firms are investors when they exchange fees for contingent proceeds from a successful representation. Investors are looking for substantial returns - they are after all, taking on material financial risk and lose money if the case fails. A standard case might require 50% of proceeds to cover fees and costs, though if you can demonstrate lower case risk those returns can adjust accordingly.
Typically litigation financing is passive and does not require relinquishing control of your claim, settlement, strategy or relationship with counsel. Funders commit capital to the case against a budget prepared by counsel, which is drawn down as you are invoiced. When that amount is spent, funders are under no obligation to provide additional capital though sometimes they will (on distressed terms) to protect their investments. A financier will reserves the ability to terminate funding if adverse developments arise, so it is important to choose a patient funder who will ride out setbacks with you. If the case is successful. settlement or judgement proceeds will be held by counsel and distributed according to an economic schedule that always starts with repaying the investor their invested capital before splitting remaining returns.
The Process
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The first step in attracting litigation financing is critically analyzing your matter and preparing valuation materials. This is an often-overlooked step that causes financiers to pass or offer poor terms. Materials include analysis of technology, charts, defenses, damages, venue, strategy, defendant resources, budget and counsel and are are circulated to specific investors with good track records.
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If a financier remains interested after an initial conversations, a non-disclosure agreement ("NDA") is executed to protect litigation work product from discovery.
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Under NDA, details about the case are shared with the financier's underwriters, including the 1) merits of the case and likely defenses, 2) budget, 3) theory and quantum of damages, 4) legal team and 5) any collection risk. This diligence is preliminary, confirmation occurs if terms are reached.
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If a financier is interest, they will present a term sheet with the operative terms and proposed financial arrangement. Parties will negotiate until they reach mutually agreeable terms. Some funders' terms are static, others anticipate continued negotiation.
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If terms are reached, funders require 30-45 days exclusivity. Deals typically take longer to complete however, due to a variety of factors that need to be managed.
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In exclusivity, the financier will first complete confirmatory diligence - a deeper dive into the evidence supporting the case evaluation.
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When confirmatory diligence is completed, financiers will send documentation. Litigation funding agreements are anything but standard and structures vary greatly between funders. This needs to be reviewed, negotiated and completed.
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After transactional documents are closed, the financier will prepare a memo to present to the investment committee. This can be a formality or a gamble, depending on the funder's relationship with it's capital. Closing generally occurs within 48 hours, though some financiers take longer.
