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Litigation Finance is Cheaper Than You Might Think!

The following was contributed by Matthew Pitchers, Head of Investment Valuation at Augusta Ventures

I was in conversation the other day with a prospective user of our finance – a law firm who will remain nameless. The conversation was going well, very well in fact, until those seven words came up: “what is it going to cost me?”. I replied that our fee would be based on the higher of a multiple on the funds deployed or a set percentage of damages awarded. After a few seconds of silence which felt like an eternity, the response I got back was “that is very expensive, and I don’t think my client will go for it”.

This left me bemused because whilst there is a general misconception that litigation funding is expensive, when compared to other sources of secured and unsecured funding available on the market, it is in fact very competitive and sometimes even cheap. This left me thinking about how best to explain this to the enquirer at the other end of the phone who would be left explaining all available options to his client.

What is litigation funding?

What I wanted to say was:

Sir, in considering how expensive litigation funding is, one needs to first analyse what litigation funding is. This is easier to think about when considering what litigation isn’t.

It isn’t a traditional debt product. There are no guaranteed cash flows. There is no obligation on the user of the debt to repay it. Any returns that the funder makes are payable from what the defendant pays if the claim is successful, not from the finance user. Furthermore, the entire financial risk of the case is transferred to the funder, and if a case loses, the risk of adverse costs falls to the funder and not the claimant. Therefore, an amount invested upfront in a legal case in order to share in the same risks and rewards as the claimant, feels more akin to a purchase of an equity participation in a start-up than a one-step-removed loan.

To put it another way: If you were going on Dragon’s Den and your great idea was to ask the Dragons for an upfront investment in a legal case for a future share of any available returns which may or may not occur, how much of the case do you think the Dragons would want?

What the market says

In haggling over the value of your idea, the Dragons would probably consider the availability of unsecured loans, and the returns expected from venture capital start-up funding.

If you, as an individual, were to go into the market today and look for an unsecured loan you might find APR’s that range from 10.3% per annum, for those people with excellent credit scores, up to 32.0% per annum for those with poor credit scores, and that is only on amounts up to £25,000.

A good benchmark for the percentage of cases a litigation fund might win, despite all the due diligence that is performed, is around 70%. Loaning out money with only a 70% chance of getting any of it back is not similar to loaning money to a person with an excellent credit score, so litigation funders are firmly in poor credit score territory, where an APR could typically be between 28.5% and 32.0%. And remember, that is only on amounts up to £25,000, an investment in a legal case more-often-than-not, is many multiples of this size.

A such, the IRR that the funder aims for is more akin to those expected by venture capitalists, who might typically look for 30-40% annual returns on a start-up investment.

The tenor of investments

A classical case tenor for litigation funding is usually two to four years. In the interim period the funder will have not received any payments. Their risk exposure goes up over time as more money is deployed as the legal case progresses, and there is limited availability to claw back any investment if the case looks like it isn’t going to win. It is, to all intents and purposes, an investment with a binary outcome and once invested there is no going back.

An investment with an annualised return of 40% over three years would expect to achieve a 2.74X money multiple for the investor at the end of the life of the investment. Over four years the money multiple would be expected to be 3.84X. This would be at the upper end of what a litigation funder might achieve. A normal equity investment in a company has fewer downsides regarding the capital locked up, as covenants would be in place to claw back any investments if the company were mismanaged in the interim period.

Summary

In short, litigation funders are able to make worthwhile returns through rigorous diligence, investing in  cases that they expect to win and which meet their internal criteria, whilst building up a large enough portfolio that the effect of the unsystematic binary risk of losing an individual case is diluted. In return, a competent litigation funder should expect to achieve on their portfolio a rate of return that is better than a correlated investment, but lower than that achieved in the start-up markets.

A claimant, in using litigation finance, should expect all their costs to be covered, and any risk of adverse costs to be transferred to the funder. In effect it becomes a risk-free investment for the claimant, whilst they still take the larger share of any return. This would be the dream scenario for any owner of a start-up company, selling a small stake in the company and removing all future down-side risk to themselves, whilst removing the burden of future costs.

In summary Sir, this is a great opportunity for your client and it is highly competitive.

Instead, I said to the man on the other end of the phone: ‘I’m sorry yes, it does sound expensive, let me see what we can do’.

Commercial

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Who Could Regulate the Litigation Funding Industry after the CJC Review?

By Harry Moran |

As funders and law firms await the outcome of the Civil Justice Council’s (CJC) review of litigation funding later this summer, industry experts are opining not only on the potential direction any future regulation could take, but what body would be in charge of this new oversight function.

In an insights post from Shepherd and Wedderburn, Ben Pilbrow looks ahead to the CJC review of litigation funding and poses the question that if some form of regulation is inevitable, who will act as the regulator for these new rules? Drawing upon two previous reports that reviewed the funding of litigation, Pilbrow points out that historically there have been two main bodies identified as the likely venues for regulation of third-party funding: the courts or the Financial Conduct Authority (FCA).

Analysing the comparative pros and cons of these institutions as prospective regulators, Pilbrow highlights that each one has two core contrasting qualities. The courts have the requisite expertise and connection to litigation funding yet lacks ‘material inquisitive powers’. On the other hand, the FCA does not have the aforementioned ‘inherent connection to the disputes ecosystem’, but benefits from being an established regulator ‘with considerable enforcement powers’.

Exploring options outside of these two more obvious candidates, Pilbrow suggests that utilising one of the existing legal regulators may be viable due to the fact they are all ‘largely staffed by lawyers but have regulatory powers.’ However, Pilbrow notes that these legal regulators may have common flaw that would stop them taking on this new role. That flaw being the comparatively small size of these organisations, with the Solicitors Regulation Authority (SRA) still only boasting 750 employees despite being the largest of these legal regulators.

Concluding his analysis, Pilbrow suggests unless the government opts for an expanded system of self-regulation under an industry body such as the Association of Litigation Funders, the most likely outcome is for the FCA’s remit to be expanded to include the regulation of litigation funding.

The full article from Ben Pilbrow can be read on Shepherd and Wedderbun’s website.

Omni Bridgeway Announces Final Payment for Acquisition of its Europe Business

By Harry Moran |

In an announcement posted on the ASX, Omni Bridgeway announced that it had completed the final payment for the acquisition of the Omni Bridgeway Europe (OBE) business that took place in 2019. The litigation funder confirmed that 5,213,450 fully paid ordinary shares had been ‘issued in satisfaction of the fifth and final tranche of variable deferred consideration’ to complete the acquisition.

Highlighting the progress of the business over the past six years, Omni Bridgeway said that the European business ‘has been successfully integrated into the global operations of the group, creating the most diversified legal asset management platform globally, covering all relevant civil and common law jurisdictions and all relevant areas of law.’ 

The announcement also revealed that OBE has ‘achieved the defined five-year KPIs in full’, whilst the management team ‘has been fully retained.’

Burford Capital CEO Says Litigation Finance Market is ‘Booming’

By Harry Moran |

With the global economy and financial markets in a current state of uncertainty, the stability of litigation funding as an uncorrelated asset class for investors is attracting wider attention than ever.

In an interview with Bloomberg TV, Christopher Bogart, CEO of Burford Capital discussed the current state of the litigation finance market, explained why third-party funding is attractive to clients and investors alike, and addressed the common critiques that are levelled at the industry.

On the enduring appeal of litigation funding to corporate clients, Bogart said that for many CEOs and CFOs the truth is that their companies are “spending too much money today on legal fees”. He went on to say that money spent by companies on legal fees is “not doing anything that advances their core undertaking”, and as a result, “the ability to offload that to somebody like us [Burford] is very valuable.”

When asked about why the litigation finance market is thriving during the global economic uncertainty, Bogart highlighted that all of Burford’s “cash flows come entirely out of the outcome of litigation results and those are independent of what’s happening in the market, independent of what’s happening in the broader economy.” In terms of the future of litigation funding and the potential for the market to continue to grow, Bogart pointed out that between legal fees and litigation judgments there is a “multi-trillion dollar a year global market” and that whilst the industry is already “booming”,  there is still “a lot of room to run here” for litigation funders.

In response to a question on the criticisms of litigation funding and the suggestion that funders may look to prolong the duration of cases, Bogart pointed out that Burford is just like any other investment firm that is “looking for high quality assets that are going to produce a reasonable return in a short period of time.” Bogart emphatically rejected what he described as “false concerns” by opponents of third-party funding, and stated plainly: “we’re absolutely not in the business of being interested in prolonging duration or in bringing forward things that are not ultimately going to yield a good result for our shareholders”.

The full interview can be found on Burford Capital’s website.