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Make no mistake, Litigation Finance IS Impact Investing!

February 5, 2020

Make no mistake, Litigation Finance IS Impact Investing!

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 SUMARY
  • Litigation finance is instrumental in driving societal, environmental and governance change
  • The industry has yet to position itself as an Impact Investing asset class
  • There are few other financial industries that drive similar societal benefits through the application of finance
INVESTOR INSIGHTS
  • When assessing portfolios, look beyond the financial returns and focus on the social impact of the various pieces of litigation supported by the manager
  • Returns can be tangible (financial) and intangible (societal) and this is an asset class that exhibits both
  • Litigation finance should be viewed and characterized as a form of Impact Investing for purposes of investors’ portfolio allocation
From the first time I was introduced to litigation finance, be it consumer or commercial, I was quite surprised by the case studies.  What surprised me was not the outcome or the quantum of damages or the amount of profit being made by lawyers or litigation funders. Not at all.  What surprised me was the behaviour of the people involved on the defense side (typically) of these cases, and how blatant some of the actions of the defendant were as it related to the damages caused to the plaintiff (some of which I have highlighted here on the Slingshot blog).  Not being a litigator and not having experienced the dark underbelly of corporate litigation, I was somewhat surprised by the cavalier attitude that some folks had as it related to breach of contract, trade secret misappropriation and similar legal issues. Yes, it was the social justice aspect of litigation finance that first appalled and then attracted me to the sector, closely followed by the return profile (I am a capitalist after all).  This article discusses the nature of litigation finance and why it is ideally suited to be considered an Impact Investing asset class. So, what is Impact Investing?  It seems like the financial industry is constantly trying to put new monikers on investment strategies to appeal to different segments of investors and to differentiate their products.  The term “Impact Investing” is the latest in a trend of investment branding that has had strong appeal with a segment of investors, including Foundations, Endowments, Pension Plans, Family Offices and High Net Worth individuals who traditionally focused their efforts on investments that drove strong absolute returns. Before Impact Investing, there was Socially Responsible Investing and Environmental Social Governance (“ESG”) Investing, Green investing, Social Investing and so on.  For the remainder of this article I will refer to Impact Investing as a catchall for these references, even though each have nuanced differences. The Global Impact Investing Network (“GIIN”), a UK based non-profit organization dedicated to Impact Investing, defines the amorphous term as “any investment into companies, organizations and funds with the intention to generate social and environmental impact alongside a financial return”.  As you will see from the many examples below, the underlying investments of many funders fall squarely into the Impact Investing mandate. The Case Studies The first case that hit home for me was Joe Radcliff vs. State Farm, whereby Joe identified that the insurance company was not treating like claims equally, so he decided to let the state regulator know. This one action, which was pure in its purpose to protect consumers, set off a chain of events that ultimately led to fourteen felony counts laid against Joe’s roofing business and its eventual demise.  Well, almost.  While 385 of 400 jobs were ultimately eliminated in short order due to the actions of an overzealous insurer, Joe’s business was able to live another day thanks to the litigation finance provided by Bentham IMF. Ultimately, Joe was able to restart his business, and more importantly, the defendant (oddly, the plaintiff in this case) was forced to pay $17 million in damages and interest. At a September 2019 LF Dealmakers Forum conference, Boaz Weinstein from Lake Whillans guided the audience through an interesting case involving a software company named Business Logic that was decimated by the actions of one of its former customers who decided to copy their software in contravention of their supply contract.  Business Logic ultimately settled for a reported $60MM amount. That business now lives on as Next Capital, and employs 150 people thanks to the efforts of the plaintiff, plaintiff’s counsel and litigation finance. Then there is the case of Miller UK vs. Caterpillar, which contains a somewhat similar fact pattern to Business Logic, whereby the actions of a former customer (contract breach and trade secret misappropriation) almost led to the demise of the business resulting in 300 of 400 employees being terminated. With litigation finance provided by Juris Capital LLC, Miller fought back and ultimately won a $75 million award.  The business has gone on to rehire many of its former employees and recently celebrated its 40th anniversary. The company has set a target of £50 million in revenue over the next five years. While these cases are poignant, one may conclude that as commercial cases, this is simply the cost of doing business (I respectfully disagree). However, to put a finer point on the social justice aspect of litigation finance, I will turn your attention to other cases which are more closely associated with Human Rights litigation. Litigation Finance as Human Rights advocate  Litigation Lending Services provided financing to a class action case commonly referred to as the “Stolen Wages” case in Queensland, Australia.  In brief, the Stolen Wages case involves the theft of wages from 10,000 First Nations Queenslanders who, from 1939 to 1972, had their wages withheld under discriminatory Protection legislation named the Queensland “Protections Act”.  Essentially, the indigenous community were forced to turn over their wages to the state, and in turn through a series of Superintendents, those monies were supposed to be paid to the indigenous community members.  Unfortunately, this never happened, and a significant sum of the monies were used to fund Queensland government initiatives.  Recognizing the severity of the issue, the Queensland government created a Stolen Wages Reparations Scheme which was designed to compensate its victims, but the class action argued the compensation was insufficient. The Class was ultimately awarded AU$190 million plus costs as further reparations. Similarly, IMF Bentham is pursuing multiple class actions involving PFAS, a man-made chemical compound that was utilized in many industrial processes and products, including fire fighting foam. In these Class Actions, local residents and business owners are seeking compensation for the financial losses they have suffered as a result of the contamination, in particular (i) reduction in property values and (ii) damage to business interests such as farming, fishing, tourism and retail amongst others. Recently there have been some more specific developments with respect to Impact Investing and litigation finance.  Burford announced its “Equity Project”, which has been “designed to close the gender gap in law by providing an economic incentive for change through a $50 million capital pool earmarked for [litigation finance matters] led by women”. There is also at least one UK-based fund, Aristata Capital, that has a specific social impact mandate which is described as “…dedicated to driving positive social and environmental change with an attractive financial return”. In the personal injury litigation finance market, almost every single case involves an individual who has suffered damages (typically physical) whereby their lives have been turned upside down and litigation finance has provided some semblance of normalcy while the plaintiff embarks on the long, arduous task of pursuing damages, typically from a large insurance company. So, should litigation finance be considered “Impact Investing”  No one likes litigation (except maybe the litigators), but litigation itself is not necessarily a bad thing.  The structural problem that most capitalist systems have, is that inevitably there are large corporations with (a) significant balance sheets and access to capital, (b) access to some of the best and brightest lawyers, and (c) time. Large corporations are also driven by shareholder returns like never before, which puts increased pressure on managers and executives to deliver shareholder value; some take that to heart by adjusting their ethical compasses accordingly.  One way to deliver shareholder value is to cut corners and hide behind balance sheets and lawyers, which is an unfortunate consequence of business in the twenty-first century.  Executives understand the power their large corporations have, and are prepared to deal with the consequences of their decisions regardless of whether those decisions are ethical. What’s more, the ultimate cost of litigation may pale in comparison to the equity value created by the decision. Accordingly, the frequency and cost of litigation has been driven upwards for decades, resulting in an unlevel playing field for large corporations. In short, the system is making the problem it created worse through compounding costs. The concept of litigation was designed to help right wrongs, and the above examples illustrate that it has been quite effective in doing so. Litigation finance helps facilitate many of these cases through the provision of capital, albeit risky capital.  Managers and investors in the asset class can hold their heads high knowing that their investment monies are going to support cases like those mentioned above, where there has been a material and blatant decision made by one entity to damage another.  I can’t think of another asset class that is more impactful than litigation finance in terms of seeking justice and ensuring the companies and individuals that have been damaged at the expense of another’s actions are compensated.  Forget the investor returns, the societal benefits are even more compelling! So, if you are an allocator within a pension plan, endowment, foundation, family office or high net worth individual, or a consultant to one of these investors, ask yourself if there is anything in your portfolios that even comes close to the positive societal impact provided by litigation finance (coupled with the financial returns).  I think you will be hard pressed to find many examples.  Investors need to change their attitude toward litigation finance, wipe away the negative patina associated with litigation, and start to appreciate how it is an asset class that is benefiting society – perhaps it has even benefitted someone you know. The Life Settlements industry (i.e. the purchase of life insurance policies from beneficiaries to assist in funding healthcare costs, or simply to monetize the value of their policy) has incurred a similar struggle as that of litigation finance, because the former is considered to be in the business of “death”.  This connotation is quite misleading, as Life Settlement providers are in the business of providing financial options to policy holders that insurance companies won’t offer (little known fact – about 80% of life insurance policies lapse, which means the insurer has very little costs to apply against the decades of premiums they receive, making the provisioning of these policies very profitable).  Similarly, the litigation finance industry is also in the business of providing options in the form of capital to injured parties to allow them to pursue their meritorious claims. If one considers the impact litigation finance has had in its first few years of existence, one can start to imagine the fundamental impact it may have on society and the way in which corporations think, act and govern themselves.  One could argue that litigation finance may even be its own worst enemy.  If litigation finance as an industry is successful, then taken to its logical conclusion, there is a scenario where litigation finance is so effective that it changes the way in which corporations make decisions, as they strive to ensure that their decisions are not adversely and illegally damaging other businesses and thereby diminishing the need for litigation finance altogether.  Call me a skeptic, but I don’t believe human behaviour, regardless of incentives, will ever change that significantly, and so I am going to continue to invest in litigation finance. The importance of being an “Impact Investing” asset class   Clearly, Impact Investing is a significant trend as the following statistics will attest.
  • According to GIIN – currently $228 Billion in impacting investing assets, double that of LY
  • According to RiA Canada – Impact Investing has had 81% growth over 2 years
  • JP Morgan – over the next 10 years Impact Investing will encompass $400 Billion to $1 Trillion in invested capital
  • Graystone (Morgan Stanley) has created the Investing with Impact Platform, and also has $5B in institutional assets in the non-profit area alone
Every single wealth management firm, including Blackrock, Morgan Stanley & UBS, to name a few, have recognized that making a difference is becoming increasingly important to the investor community.  So, for a nascent industry looking to ‘stand out from the crowd’, and given the demand for Impact Investing and the inherent societal benefits associated with its service offering, the industry is best served by ensuring litigation finance is included in the Impact Investing conversation, which would be a critical role for an industry association to assume. I encourage all members of the litigation finance community to start talking about the industry in the context of an “Impact Investing” asset class, as the industry is instrumental in making positive changes for the benefit of society, the environment and governance, as the above examples strongly illustrate. Investor Insights There is no doubt that litigation finance, whether consumer or commercial, should clearly qualify as a form of Impact Investing.  The benefits derived from the asset class extend well beyond financial returns and allocators should assess both tangible and intangible impacts of the asset class as part of their investment review. I believe that litigation finance is an important component of an investor’s Impact Investing portfolio and investors should not be dissuaded by those who argue otherwise (like the Institute for Legal Reform), the proof is in the outcomes of the cases that litigation finance supports. Edward Truant is the founder of Slingshot Capital Inc., and an investor in the consumer and commercial litigation finance industry.

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Commercial

Litigation Financiers Organize on Capitol Hill

By John Freund |

The litigation finance industry is mobilizing its defenses after nearly facing extinction through federal legislation last year. In response to Senator Thom Tillis's surprise attempt to impose a 41% tax on litigation finance profits, two attorneys have launched the American Civil Accountability Alliance—a lobbying group dedicated to fighting back against efforts to restrict third-party funding of lawsuits.

As reported in Bloomberg Law, co-founder Erick Robinson, a Houston patent lawyer, described the industry's collective shock when the Tillis measure came within striking distance of passing as part of a major tax and spending package. The proposal ultimately failed, but the close call exposed the $16 billion industry's vulnerability to legislative ambush tactics. Robinson noted that the measure appeared with only five weeks before the final vote, giving stakeholders little time to respond before the Senate parliamentarian ultimately removed it on procedural grounds.

The new alliance represents a shift toward grassroots advocacy, focusing on bringing forward voices of individuals and small parties whose cases would have been impossible without funding. Robinson emphasized that state-level legislation now poses the greater threat, as these bills receive less media scrutiny than federal proposals while establishing precedents that can spread rapidly across jurisdictions.

The group is still forming its board and hiring lobbyists, but its founders are clear about their mission: ensuring that litigation finance isn't quietly regulated out of existence through misleading rhetoric about foreign influence or frivolous litigation—claims Robinson dismisses as disconnected from how funders actually evaluate cases for investment.

Commercial

ISO’s ‘Litigation Funding Mutual Disclosure’ May Be Unenforceable

By John Freund |

The insurance industry has introduced a new policy condition entitled "Litigation Funding Mutual Disclosure" (ISO Form CG 99 11 01 26) that may be included in liability policies starting this month. The condition allows either party to demand mutual disclosure of third-party litigation funding agreements when disputes arise over whether a claim or suit is covered by the policy. However, the condition faces significant enforceability challenges that make it largely unworkable in practice.

As reported in Omni Bridgeway, the condition is unenforceable for several key reasons. First, when an insurer denies coverage and the policyholder commences coverage litigation, the denial likely relieves the policyholder of compliance with policy conditions. Courts typically hold that insurers must demonstrate actual and substantial prejudice from a policyholder's failure to perform a condition, which would be difficult to establish when coverage has already been denied.

Additionally, the condition's requirement for policyholders to disclose funding agreements would force them to breach confidentiality provisions in those agreements, amounting to intentional interference with contractual relations. The condition is also overly broad, extending to funding agreements between attorneys and funders where the insurer has no privity. Most problematically, the "mutual" disclosure requirement lacks true mutuality since insurers rarely use litigation funding except for subrogation claims, creating a one-sided obligation that borders on bad faith.

The condition appears designed to give insurers a litigation advantage by accessing policyholders' private financial information, despite overwhelming judicial precedent that litigation finance is rarely relevant to case claims and defenses. Policyholders should reject this provision during policy renewals whenever possible.

Commercial Regulatory Issues

Valve Faces Certified UK Class Action Despite Funding Scrutiny

By John Freund |

The UK Competition Appeal Tribunal (CAT) has delivered a closely watched judgment certifying an opt-out collective proceedings order (CPO) against Valve Corporation, clearing the way for a landmark competition claim to proceed on behalf of millions of UK consumers. The decision marks another important moment in the evolution of collective actions—and their funding—in the UK.

In its judgment, the CAT approved the application brought by Vicki Shotbolt as class representative, alleging that Valve abused a dominant position in the PC video games market through its operation of the Steam platform. The claim contends that Valve imposed restrictive pricing and distribution practices that inflated prices paid by UK consumers. Valve opposed certification on multiple grounds, including challenges to the suitability of the class representative, the methodology for assessing aggregate damages, and the adequacy of the litigation funding arrangements supporting the claim.

The Tribunal rejected Valve’s objections, finding that the proposed methodology for estimating class-wide loss met the “realistic prospect” threshold required at the certification stage. While Valve criticised the expert evidence as overly theoretical and insufficiently grounded in data, the CAT reiterated that a CPO hearing is not a mini-trial, and that disputes over economic modelling are better resolved at a later merits stage.

Of particular interest to the legal funding market, the CAT also examined the funding structure underpinning the claim. Valve argued that the arrangements raised concerns around control, proportionality, and potential conflicts. The Tribunal disagreed, concluding that the funding terms were sufficiently transparent and that appropriate safeguards were in place to ensure the independence of the class representative and legal team. In doing so, the CAT reaffirmed its now-familiar approach of scrutinising funding without treating third-party finance as inherently problematic.

With certification granted, the case will now proceed as one of the largest opt-out competition claims yet to advance in the UK. For litigation funders, the ruling underscores the CAT’s continued willingness to accommodate complex funding structures in large consumer actions—while signalling that challenges to funding are unlikely to succeed absent clear evidence of abuse or impropriety.