Omni Bridgeway is pleased to announce expansion and key promotions within its U.S. team, which has grown by over 100% in the past 12 months.  In New York, Sarah Tsou has been appointed Senior Investment Manager and assumes the role of Portfolio Manager - Global Intellectual Property overseeing Omni Bridgeway’s widely recognized IP business and team of dedicated IP professionals. This portfolio role underscores Omni Bridgeway’s unique global IP capabilities and worldwide footprint spanning key IP markets. Fiona Chaney, who heads the company’s Los Angeles office, was also recently appointed to Senior Investment Manager and Legal Counsel. Fiona also serves as co-lead of the company’s insurance initiatives. We also congratulate Chris Citro (New York), who has been promoted to Investment Manager and Legal Counsel, with a focus on patents and other intellectual property matters. Further building out the company’s dynamic IP team is Phillip Goter who recently joined as Investment Manager and Legal Counsel. Phil’s arrival marks Omni Bridgeway’s continued expansion on-the-ground including new operations in the Midwest. Based in Minneapolis, Phil joins from Fish & Richardson with over a decade of experience representing plaintiffs and defendants in high-stakes disputes involving patents, trademarks, copyrights, trade secrets, antitrust and competition law, and FDA clearance. Phil is an Adjunct Professor at the University of Minnesota Law School and a member of the Expert Network for Lunar Startups, an incubator specializing in growth and innovation for diverse, high-potential entrepreneurs. In Washington D.C. we welcome Matt Leland as Investment Manager and Legal Counsel. Matt joins us from King & Spalding LLP where he was a commercial litigation partner and successfully litigated diverse legal issues for corporate plaintiffs and defendants in the energy, manufacturing, healthcare, pharmaceutical, and construction industries. Matt helped clients recover substantial damages in many of his cases, which often involved contract and commercial disputes, government reimbursement claims, unfair business practices, civil RICO, protection of trade secrets, and trademark infringement. Prior to this, Matt was a partner at McDermott Will & Emery LLP. On the business side, we welcome Joseph Cho as Corporate Counsel based in New York. Joe joins us from Weil, Gotshal & Manges LLP where he represented public and private companies in complex mergers and acquisitions. His previous experience includes private practice at Cahill Gordon & Reindel LLP and Wilson Sonsini Goodrich & Rosati PC. The U.S. team has also grown its slate of associate investment managers, legal counsel, and business support, doubling Omni Bridgeway’s U.S. headcount to over 45 in the past year.  Andrew Saker, Omni Bridgeway’s Managing Director & CEO and Chief Strategy Officer – US notes, “We are delighted to welcome Phil, Matt and Joe, and congratulate our investment team colleagues in their promotions. We are committed to attracting and retaining the top talent in the U.S. market who bring a unique combination of legal expertise and financial innovation, to result in the best outcomes for clients. Our model is more than financial – we are skills, plus capital. Companies and law firms in the U.S. are responding to our offering, and this is reflected in our continued growth.”

In the final panel of the conference, Michael Kelley, Partner at Parker Poe, moderated a discussion on lessons that can be learned from past deal issues. Panelists included Chip Hodgkins, Managing Director of Statera Capital, Tracey Thomas, CEO of IP Zone, and Erika Levin, Partner at Fox Rothschild. This panel highlighted several stressors and break points that occur in funding relationships and transactions. One issue that often comes up is that communication problems arise. For example, there can be reporting requirements that firms forget to bring up at the start of a relationship. It's often difficult to communicate all of the various burdensome filing requirements. Another issue that can arise is economic inefficiency. Sometimes an inversion occurs, where a lack of attention to the budget arises, or a secondary counsel comes in and there's an issue there. These things can cause obvious problems, given that lawyers just aren't that great at budgeting, according to the panel's perspective. The panel recommends transparency, and addressing issues instead of burying them, which is often the temptation. For example, on budgetary issues, often counter-parties might not even be aware of where they are in the budget, so a lot of times avoiding problems just comes down to sharing information before a dislocation occurs. Another interesting point: sometimes the relationship between law firm and funder becomes too cozy, and it's no longer aligned with the client's best interests. Tracey Thomas of IP Zone pointed out that in such situations, they've had to terminate the relationship, and they've found that termination is in their best interests in such circumstances. On case management, sometimes funders can try to take control of the budgetary decisions of the case. One example that was brought up was when a funder told a client to 'shut up and dribble,' and follow their lawyer's advice on where to spend money. While that may have been in the best short-term interests of the case, it fractured the relationship. Not to mention the fact that it was borderline unethical. At the end of the day, the relationship between a lawyer and client should be sacrosanct. Once funding enters the relationship, things can get murky, and this can present ethical considerations that are very problematic. So this will be an ongoing source of contention as the litigation funding industry continues to mature.

This Day 2 panel featured Alex Chucri, CEO and Founder of Pravati Capital, Vincent Montalto, Partner at DLA Piper, and Ronald Schutz, Partner at Robins Kaplan. The panel was moderated by Kathryn Boyd, Partner at Hecht Partners. Discussion topics ranged from operationalizing firm decisions involving funding, to the best ways to structure a funding partnership or alliance. Not everyone knows about the various structures of relationships between law firms and funders, so the panel addressed the various models in play, including those that involve some form of recourse funding. Pravati has a debt structure in play, which founder Alex Chucri thinks makes the most sense for his firm's structure. He believes in recourse to the firm, to the management team, and personal guarantees. This makes investors more comfortable, knowing that Pravati has skin in the game. Panelists also discussed having to monitor the capital structures, and being cautious about capital allocation. A lot of funders raise $100MM and need to put that capital to work, and so they finance claims the wouldn't otherwise take on. This is concerning. "When you put capital into a deal, it changes the whole landscape of a deal," according to Vincent Montalto. His firm has implemented internal structures to monitor capital expenditure and management. The panel also delved into some of the risks of partnering with funders, including whether funders will withdraw their funding - how and why would they do this? Where is funder money coming from - there are all types of investment structures out there, law firms have to be aware of those, so they can better understand the risk to the funder, which presents a downstream risk to them. These are things that the average lawyer in a law firm doesn't appreciate, but it's very important to know if the funder  has the capital on hand, is it subject to capital calls, etc. One final point on the tax implications of recourse funding: recourse funding can be clawed back, and so its treated as a loan and so it's not taxed. Recently there was a legal standing that if the funding structure is non-recourse, that is treated as income, which means it is taxes. Often, there are a lot of emotions about getting a deal done, so they overlook the tax implications, and there is a real danger there.

Day 2 of the LF Dealmakers conference kicked off with Roy Strom, a reporter at Bloomberg Law, interviewing Adam Gerchen, CEO of Gerchen Keller Partners and Keller Postman LLP. Adam Gerchen spoke on a variety of issues.  A few takeaways below: On the growth of claims sizes: Prominent case examples like the 3M class action, which several years ago would have been 50,000 claimants, and today is above 250,000 illustrate the sector's evolution. That is due to advancements in digital marketing, and technology enabling the intake and management of all of those claimants. So the industry is ballooning in ways that are rather unique. On fundraising: Within a portfolio, the lack of co-variance is actually similar to reinsurance. So there are all sorts of powerful things you can do from a portfolio construction perspective. LPs already have so much exposure to litigation funding and they don't even know it. It's much less of a unique thing than they previously believed. On the interesting macro-environment right now:  If I were on the allocation side right now, this is a space I would definitively find attractive. The thing LPs may not know is, where you are in the lifecycle of these claims is very interesting. Look at mass torts - you have torts that have been around for several years, that are not being priced correctly. On what he is most excited about: Insurance wrappers that can wrap an entire fund - "I can't believe it." In the spectrum of things Gerchen would do, an IP appellate risk doesn't seem the most attractive, but that is where folks seem to be most engaged. He thinks in the short-term this is extremely interesting, but then again, insurers have a much lower cost of capital than funders, so that could compress pricing downstream, which could cause issues. But overall, these are very exciting times.

For the keynote address of the LF Dealmakers conference, Validity Finance Founder and CEO Ralph Sutton, introduced NY Times Best-Selling Author and Civil Rights Litigator, Qian Julie Wang. Her memoir, Beautiful Country, was ranked a best book of 2021 by the New York Times, and has been well-reviewed by many distinguished outlets. Ms. Wang began by sharing her 'most humiliating story' from Big Law. She began her carer at a top-5 firm as a hungry summer associate eager to prove herself at this white-shoe law firm. She noticed that partners and associates kept coming to her asking her to take on various assignments, and didn't realize that she should select which ones to work on, so she said yes to each offer, so quickly found herself working on 10 major litigation cases. For the next month, Ms. Wang skipped all of the orientation, lunches, outings, and buried her head in WestLaw doing research. It turns out, one of the training sessions she missed was quite important--because a senior partner at the firm called her into his office and asked her what the hell she had been doing for five weeks? Ms. Wang hadn't been billing any of her research time, because she had missed the training session that explained that part of the process. So the vast majority of her work went un-billed. Through some self reflection, Ms. Wang realized that her problem stemmed from her belief that she didn't belong. Her very first job was age 7 at a sweatshop in Chinatown, as an undocumented immigrant, and here she was in a fancy white-shoe law firm. She had spent her life afraid of anyone in a uniform, afraid they might be out to deport her. And so when she got her summer associate job at the law firm, she brought that insecurity in the door with her. Ms Wang described her family's suffering under the Communist takeover of China, how they were imprisoned and tortured for reading banned books. She came to admire two Americans she read about--Ruth Bader Ginsburg, and Thurgood Marshall. That was when she decided to become a lawyer, when she eventually came to America. However, like many lawyers, she fell into the trap of focusing just on the compensation. She billed and billed so many hours that she lost her sense of purpose. It wasn't until she started writing her memoir, Beautiful Country, that she re-discovered the reason she became a lawyer in the first place. She realized that the little girl who had grown up working in a sweatshop dreamed of being a lawyer so she could help people, and here years later she had achieved that dream, but the allure of those billable hours had caused her to lose the plot. Ms. Wang took a sharp turn and decided to focus her efforts on helping marginalized communities. Her work now helps her find her way back to the child she was, and provides a sense of fulfillment about her career that she never previously experienced.

A panel consisting of Sarah Johnson, Senior VP and Co-Head of Litigation Finance at D.E. Shaw, Aaron Katz, Co-Founder and CIO of Parabellum Capital, David Kerstein, Managing Director and Senior Investment Officer at Validity Finance, and Joe Siprut, CEO and CIO of Kerberos Capital Management, discussed the various investment aspects of litigation funding as an asset class. The panel was moderated by Steven Molo, Founding Partner of MoloLamken. The conversation began with new trends in the industry. Price compression came up early. Joe Siprut of Kerberos Capital Management noted he has witnessed price comparison over the past couple of years, including having seen multiple term sheets that were mis-priced. Litigation finance has always been about attractive risk-adjusted opportunities, yet if the risk remains the same and price compression remains, that reduces the attraction of the asset class. Moderator Steven Molo was surprised there hasn't been more fallout in this regard. Aaron Katz of Parabellum pointed out how things are opening up after COVID, and that helps a lot, given that a pipeline of cases awaiting trial quickly burns through ROI. Katz countered the price compression argument, stating that he hasn't witnessed real price compression and hasn't found his firm to be competing on raw price. Of course this depends on which segment of the market you are looking at. The conversation then steered toward ESG, and David Kerstein of Validity noted how there are green shoots of funders getting involved in impact litigation. Yet for most commercial funders, ESG would maintain the same type of analysis as any other case--that said, funders like to have a 'good story' for the case, and ESG can bring that to the table. Aaron Katz mentioned Parabellum is very cautious about ESG in particular. "We think people need to be careful about labelling things incorrectly," said Katz. There are real impact players out there, and litigation funders should be careful about loosely claiming the mantle. The next question was pretty blunt: Is there a secondary market right now? Aaron Katz thinks not "I pray for it daily." There is a network of well-resourced institutional players who like to look at claims, but the transactions are laborious (DD challenges, information asymmetry). The secondary participant is not going to be in a direct conversation with the counter-party, and that could cause complications. One final point: Joe Siprut noted that the evolution of a secondary market is one of the main things that can really unlock a lot of investment for the industry. One of the main barriers to investment is the long lockup period investors are staring at, and if a secondary market were to materialize, that would make fundraising a much easier sell.

Day 1 of the LF Dealmakers conference has begun. The opening panel saw Ted Farrell, founder of Litigation Funding Advisors, moderate a wide-ranging discussion on the state of legal finance. Panelists included James Bedell, Associate Director of Legal Finance at Yieldstreet, Cindy Chen Delano, Partner at Invictus Global Management, Stephen Kyriacou, Managing Director of Aon, and Michael Nicolas, Co-Founder and Managing Director of Longford Capital. The discussion began with the evolution of the sector as a maturing asset class, away from discussions between ‘smart lawyers’ and into the mainstream. The panel underscored the range of players in the space now—3M, J&J, and others—which illustrates how far the industry has come. Additionally, the size and scope of claims—large-scale, nine-figure claims—which highlights the impact the asset class has had on the broader Legal Services sector. Additionally, the embrace of litigation funding by Big Insurance is a signal of the industry’s ongoing growth prospects. Michael Nicolas of Longford noted how his firm can now protect principal investment, and even some of the profit they’d like to return to investors, which is ‘a game changer,’ as now credit investors can consider becoming LPs because they can grow more comfortable with the risk profile of the sector. Cindy Chen Delano echoed the ‘game-changer’ remark, noting the different types of debt structures that can be originated now that insurance is on board, all the way up to high-yield bonds, which she sees coming down the pike. Stephen Kyriacou of Aon also pointed out how he was one of two insurance providers at last year’s conference, and there was no discussion of the subject. This year, there are more insurers in attendance, and the subject has already come up in the first discussion, and will continue to as the event progresses. Perhaps something unique about this conference is the encouragement of questions from the audience. The first panel took a question from an inventor who stressed the importance of funding in the inventor space, and lamented that in his experience it’s been so difficult to obtain the financing needed. The panel acknowledged his concern, and noted the industry’s emphasis on IP investment, while also pointing out that selectivity is paramount if a funder is going to survive long-term.

Wednesday, September 28^th 2022 is Day 1 of the 5^th Annual LF Dealmakers event in New York City. LFJ will be covering the event live, via both on-site content and live-tweeting from our Twitter account. Below, we’ll offer a brief preview of what to expect on Day 1. Day 1 is packed with content, including six panel discussions and a keynote address. The initial panel, “The State of Legal Finance: Key Developments in a Maturing Industry” will feature Ted Farrell, founder of Litigation Funding Advisors as moderator of a panel including LF professionals from Yieldstreet, Invictus, Aon and Longford Capital. As the name suggests, the discussion will revolve around key trends and developments in the sector, including new players, product innovations, the evolution of a secondaries market, and more. Other notable Day 1 panels include “The Disclosure Debate: Transparency vs. Confidentiality,” “Insurance and Litigation Finance in Action: A Case Study Exploration,” and “CIO Roundtable: Art of the Deal from Terms to Returns.” The final panel of the day is a sector spotlight on the rise of funding in Mass Torts litigation, which promises to offer a deep dive discussion on the benefits, drawbacks, ethical considerations and future prospects for this area of litigation funding. Day 1 rounds out with a keynote address, which will take the form of an interview between Validity Finance founder and CEO Ralph Sutton, and NY Times best-selling author and civil rights lawyer Qian Julie Wang. Ms. Wang’s mission is to confront and dismantle systemic barriers for underprivileged communities, which she believes can be supported through the type of legal representation typically reserved for wealthier clients. Her memoir, Beautiful Country, will be gifted to all attendees of the conference. For more on the Day 1 agenda for LF Dealmakers, including information on how you can attend virtually, click this link.

Law Finance Group (LFG), a leader in the litigation finance industry since 1994, today announced that Stephanie Schrandt Boone has joined the firm as General Counsel. Having worked in executive leadership for Swiss Re for more than 17 years, Ms. Boone brings with her extensive legal governance and operational experience. “Stephanie’s experience working cross-functionally within a large, global financial services firm, is a tremendous asset to Law Finance Group,” said Kevin McCaffrey, LFG’s CEO. “We are thrilled to welcome Stephanie to our team as we scale our firm to take further advantage of the growing opportunities in the litigation finance market.” As General Counsel, Ms. Boone will provide legal advice and strategy to LFG’s executive team. Ms. Boone is excited to join Law Finance Group, explaining, “it is my personal belief that litigation risk transfer and access to justice should be available to everyone. Working with Law Finance Group will allow me to put these beliefs into action.” About Law Finance Group Founded in 1994, Law Finance Group is a leading litigation funding firm focused on investing in high-value civil litigation opportunities. Law Finance Group partners with law firms and their clients to mitigate risk, improve cash flows, and leverage existing assets in the face of litigation risk. The firm has offices in Mill Valley, New York, and Austin. For more information, visit www.lawfinance.com.

Though the U.S. litigation finance market continues to expand, less than 12% of federal and state cases filed in 2021 met the minimum threshold to be considered for investment, according to a new report issued today by tech-enabled litigation funder LexShares. This finding, detailed in the inaugural edition of LexShares' special report, "The Litigation Funding Barometer: A Data-Driven Analysis of What Litigation Funders Want," illustrates the high bar that law firms and plaintiffs must reach to attract valuable funding dollars for their cases.  The report analyzes more than 30,000 federal and state case filings from 2021, graded by LexShares' proprietary Diamond Mine origination software, to provide lawyers with a unique window into how attractive their matters might be to litigation funders. The Diamond Mine algorithm assesses each case based on numerous factors, such as damages alleged and the track record of plaintiff's counsel, before assigning a raw score ranging from 1-25.  In an industry first, "The Litigation Funding Barometer" breaks down cases across several claim types and dozens of jurisdictions, while also revealing which law firms filed the greatest number of cases with strong funding potential. Among the study's high-level findings, in 2021: Trade secrets, antitrust, and contract disputes filed in federal court represented some of the strongest funding opportunities across all jurisdictions.  Federal cases presented a higher percentage of strong funding opportunities than state cases.  Law firms appearing in the NLJ500, which we categorize as "Big Law," filed the cases with the strongest investment potential. In addition to this and other detailed insights, the report's findings are accompanied by insider commentary from members of the LexShares investments team, offering lawyers and law firms key context around the characteristics of claims that typically lend themselves to third-party funding arrangements, and why. "Critics of litigation funding have long pointed to the industry's lack of transparency," said Cayse Llorens, CEO of LexShares. "By publishing this groundbreaking report, we address a critical, unmet market need for closure of the knowledge gap that still exists between lawyers, clients, and third-party funders. Providing the market with more meaningful information not only equips users of litigation finance to make better business decisions, but also supports LexShares' mission of increasing access to justice for parties with meritorious claims."

The following article is part of an ongoing column titled ‘Investor Insights.’  Brought to you by Ed Truant, founder and content manager of Slingshot Capital, ‘Investor Insights’ will provide thoughtful and engaging perspectives on all aspects of investing in litigation finance.  Executive Summary

• Business under-performance in the commercial litigation finance market has typically stemmed from 3 main causes
• Business partner selection is critical to success & corporate culture
• Portfolio design is critical to success and longevity in commercial litigation finance
• The application of debt is generally not appropriate in the commercial litigation finance asset class, but may be appropriate in other areas of legal finance

Slingshot Insights:

• Spend the time to determine whether your partners are additive to what you are trying to achieve and understand their motivations
• Debt is a magnifying glass on both ends
• Portfolio concentration – even when you win, you lose

In part one of this two-part series, we explored the importance of partnerships and we started to discuss elements of portfolio construction.  In part two, we further delve into portfolio construction issues and then discuss the appropriateness of utilizing debt within the context of commercial litigation finance. Insight #2 – Concentration is a Killer - Diversify, Diversify, Diversify Continued… Portfolio Concentration The third challenge is specialization, or case type concentration.  Any given litigator will have a bias based on their personal experience.  Litigators often migrate to become specialists in a particular area of litigation, which is where they are knowledgeable and where they likely have achieved success, and hence created biases.  Those litigators are pre-disposed to be comfortable working with those case types, and they have relationships in the legal community that would bring those opportunities to their attention.  Hence, there is a statistical likelihood that the portfolios of their funds will similarly become concentrated with a particular case type.  The same issue holds true for fund managers who decide to specialize in an area of law (e.g., intellectual property, bi-lateral investment treaty, anti-trust, etc.), the difference being that they have made that conscious choice and their portfolios will reflect that by design. The problem with focusing on a particular case type is that the manager really limits itself to the idiosyncrasies of the particular area of law.  As an example, it is well known that within intellectual property, as a result of intellectual property reforms in prior years there was a ‘swing in the pendulum’ away from protecting innovation created by small technology companies and ‘patent trolls’ in favor of big technology companies.  Now, we are witnessing the pendulum swinging (albeit slowly) in the other direction.  So the problem is that as goes the regulation, legislation and legal precedent, so goes your fund returns.  Because you make commitments in advance of knowing changes in legislation or precedence, you will not have the ability to pull back on your commitment, and hence your fund becomes stuck with the investments you have made up until that point in time.  As a manager, you don’t want to be exposed to /dependent on a particular area of law, as your portfolio will be exposed to the specifics of that area of law or case type, which is completely beyond your control.  There are enough uncontrollable factors inherent in litigation finance already, so you’d prefer to be able to control as much as possible. Now, some may make the argument that by specializing, you are more in control, because you have the knowledge and ‘inside track’ on upcoming legislation and trials that could impact your area of specialty. In addition, specialists can make the argument, credibly, that the mere act of specialization lowers risk in the portfolio, because you are focused on a particular case type and know everything there is to know about that case type and hence you have a higher propensity to avoid the losers and focus on the winners, prior comments on the ability to pick winners, notwithstanding.  I can’t argue with the merits of specialization, as I am a bigger believer in the concept and the underlying value it can create, but there is no doubt that it adds a risk that is otherwise not inherent in a highly diversified portfolio, which is possibly more than offset by the incremental value it delivers.  Investors need to recognize that this case specific risk exists, and that they need to anticipate its impact on the portfolio of investments they may be making in the litigation finance space. At least one of the companies that suffered from an overly concentrated portfolio in a specific case type is no longer actively deploying capital, and so the question then becomes, ‘was this a consequence of the case type, the inexperience of the manager as regards to that case type, or merely the result of having an overly concentrated portfolio?’ My point of view is that it was a combination of the three factors, with an overly concentrated portfolio being the single biggest factor. The reality of concentration is that even if you are lucky and have a home run in a concentrated bet, you won’t benefit.  In other words, even if you win, you lose. Why? Because any sophisticated investor is not solely interested in your results but more importantly how you achieved them.  Accordingly, if you show a sophisticated investor that the main reason underlying your positive performance was a single large case, they will be savvy enough to figure out that had that case gone the other way, it would have likely wiped out their investment in the fund.  After all, investors are trying to mitigate against binary risk, not accentuate it.  In this asset class, the importance of portfolio construction cannot be underestimated whereas in other asset classes you will have more degrees of freedom. Investor Diversification Not only is diversification important to how the manager deploys capital, it is equally important as to how the manager funds his business.  More so than in other asset classes with which I have had experience, the propensity for managers to accept commitments from relatively few investors seems to be more pronounced in commercial litigation finance.  I believe the reason for this mainly stems from the nascent nature of the asset class and all of the inherent risks associated with financing litigation. Since it is generally a higher risk venture, in part due to a lack of transparency of the risk/return profile, many investors tend to shy away from the asset class (at least they did in the early days). In order to fill the void, more opportunistic investors (family offices, hedge funds) came in and assumed the risk, but often at the expense of controlling the investment. The idea was that they will give you all the money you need, but they will be involved in the decision-making process through their veto rights (the right not to make an investment that is being proposed by the manager).  The problem with accepting money from too few investors is that when it comes time to raise the next fund (i) you’re at a disadvantage if the original investor does not make a new commitment to your next fund, and then you are left to scramble for a plausible explanation, (ii) you will likely have to expand your investor base regardless, because your current investor base might be tapped out depending on their fund and the distributions you have been able to provide them, and (iii) you now have to explain a track record that was in part determined by the prior investor’s use of their veto rights (so, who is responsible for the track record – the manager or the investor?). In essence, diversification across all of these characteristics will not only serve to create a more sustainable business, but will increase your chances of being able to replicate your success over and over again.  This should all serve to increase your assets under management, attract top talent and ultimately improve manager cashflow and manager equity value while providing your investors with an appropriate return profile for the risk they are assuming. A key focus of any commercial litigation finance manager should be to reduce risk, whether that is at the fund level (for the benefit of investors) or at the manager level (for the benefit of shareholders/employees). Insight #3 – Apply Debt Very Cautiously, if at All – Debt is a Magnifying Glass on Both Ends Leverage (debt) is a tricky bedfellow.  On the one hand, it can enhance your returns and create significant performance fees for managers.  On the other hand, you can lose your business.  In essence, the decision to use leverage in commercial litigation finance is akin to making a fairly binary bet in an otherwise quasi-binary investment strategy. The more managers can do to mitigate risk, the greater the chance of developing a sustainable business and the greater the applicability of debt, which is one of the reasons it has been successfully applied in the consumer litigation finance market. Leverage is used liberally (too liberally in my opinion) in a variety of asset classes, from hedge funds to leverage buy-outs and everything in between.  Leverage has become ubiquitous in finance, for better or for worse.  However, the application of leverage is only appropriate in certain circumstances where there is a high degree of certainty regarding cashflows and it must be structured appropriately to fit with the asset’s cashflow patterns. Some of the large publicly listed managers like Litigation Capital Management and Omni Bridgeway have raised debt in the public markets either through private debt facilities or through public bond offerings.  These organizations have generally taken a cautious approach to leverage, and have added it only when their balance sheets were large enough to comfortably support not only the quantum of debt, but also the ability to service the debt in a manner that comfortably allows for the repayment of the debt by the end of the facility term.  This is much easier for a publicly listed entity to do, because they have more financing options available to them by virtue of being public and the inherent liquidity that provides to its investors.  In addition, because of the size of these entities they also are afforded more relaxed terms (PIK interest, covenant light deals) which is derivative of the diversification inherent in their portfolios, which are otherwise not available to smaller private fund managers.  However, I will say that in each and every case it appears they have put in place an appropriate amount of leverage and have structured it in a way that matches the cashflows with the inherent liabilities associated with the facility. Asset/Liability mismatch is probably the single biggest cause of default when it comes to leverage facilities and this is particularly the case with commercial litigation finance. So, how does the application of leverage apply to private commercial litigation finance funds? Unfortunately, it generally does not, with few exceptions.  For private fund managers, the application of leverage has not gone well.  In the three instances of manager failure related to leverage of which I am aware, the managers of those funds lost control, and ownership of their management companies or were transitioned into run-off.  The problem stems from the inability to accurately forecast the success rate and the quantum and timing of cashflows derived from the portfolio.  As leverage tends to be a fixed maturity obligation with financial covenants and often ongoing cashflow servicing requirements (i.e. interest payments), it inherently requires an element of predictability of cashflows, which is missing from most commercial litigation finance portfolios. Accordingly, it is impossible to put in place a leverage facility with any level of certainty about the ability to service the debt without having a high degree of certainty over the portfolio’s ability to generate cashflows.  This mismatch, along with higher than expected or poorly timed losses in the portfolio, is what has led to the loss of control of fund manager’s funds. The problem with losses is that you know they are going to happen, typically 30% of cases lose, you just don’t know when and in what sequence (will they all happen at the beginning, the end or sporadically over time?). Lenders will tend to move quickly to enforce their security opposition and salvage what they can from the existing portfolio, which results in significant reductions in headcount to the point of a skeleton staff to run off the portfolio to maximize their asset value.  In other words, this is typically the beginning of the end. So, why do private fund managers use leverage? Often, they don’t have a choice or they don’t think they have a choice.  Those managers that have used leverage have either been fundraising for a number of months/years and they are at the end of their rope when they consider using a leverage facility, or they have had some initial success with their first pool of capital and decide they want to use leverage to scale their operations. They know they shouldn’t, but they have no option if they want to get their business off the ground, or have decided to aggressively grow their business using leverage.  Unfortunately, using debt to finance what is typically financed by equity (sweat or otherwise) is not a good financial solution (i.e. hope is not a good strategy). In terms of where leverage may be appropriate, there could be specific case types or segments of the market, consumer litigation finance comes to mind, where they run large portfolios of very small investments and they have the ability to forecast cashflows with a high degree of certainty of their cashflow timing and quantum, but these characteristics are few and far between in the commercial litigation finance sector.  In fact, the consumer litigation finance market has such strong cashflow characteristics and predictability, that they are now able to obtain funds from the securitization market, long reserved for some of the best credits. Where might leverage be appropriate in the commercial market?  Certain strategies that focus on short-term litigation (i.e. appeals financing) or where the manager decides to put a small amount of debt with appropriate (and very flexible) repayment terms can result in a positive outcome for both leverage provider and fund manager. Just don’t add too much debt, and be very aware to structure appropriately for the predictability of the portfolio’s underlying cashflows. If a manager is able to secure a debt obligation that is fairly flexible in terms of interest payments and repayment terms, there may be an opportunity to appropriately apply debt to the asset class.  To this end, a European group has designed a flexible, insurance wrapped bond offering that may fit the bill and I will follow their progress with great interest to see if they are able to secure the necessary funding to be successful in raising capital and then ultimately deploy that capital in a way that produces the necessary returns to service the bond. I would generally caution first time fund managers to avoid leverage altogether, and for more established fund managers, I would caution them to use it sparingly and structure it appropriately and with lots of margin for error.  We should all heed the sage advice of Warren Buffet when considering using leverage: "If you don't have leverage, you don't get in trouble. That's the only way a smart person can go broke, basically. And I've always said, 'If you're smart, you don't need it; and if you're dumb, you shouldn't be using it.'" Slingshot Insights Much can be learned from the misfortune of others, and this is what I have attempted to summarize in the article.  To be fair, in the early days of an asset class, establishing a business is much more difficult than in more mature asset classes.  The learning curve, both for managers and investors, is steep, and those that came before were pioneers. There are a lot of unknown unknowns in commercial litigation finance, and things don’t often end up going the way people thought they would go, but we learn from the benefit of hindsight.  In short, establishing a new asset class is very difficult, and everyone can learn from the missteps of others as they build their own successful organizations.  Coupled with the difficulty inherent in establishing a new asset class is the fact that this asset class is unique with many risks that only come to light with the benefit of time – idiosyncratic case risk, double deployment risk, duration risk, quasi-binary risk, etc. Accordingly, the industry owes a debt of gratitude to those that came before as we are now smarter for their experiences. But beware! Those who fail to learn from history are doomed to repeat it!

• Winston Churchill (derived from a quote from George Santayana)

As always, I welcome your comments and counter-points to those raised in this article.    Edward Truant is the founder of Slingshot Capital Inc. and an investor in the consumer and commercial litigation finance industry.  Slingshot Capital inc. provides capital advisory services to fund managers and institutional investors and is involved in the origination and design of unique opportunities in legal finance markets, globally.