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The Fundamentals of Litigation Finance

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The Fundamentals of Litigation Finance

The Fundamentals of Litigation Finance

This course provides a solid overview of the history of litigation finance, from its early days in Australia and the United Kingdom, to its current robust existence in the United States. Litigation finance opens up new avenues to capital for businesses and law firms with meritorious claims, but who otherwise would not have been able to pursue them due to the costs associated with doing so. Viewers will leave this lecture with a clear understanding of how litigation finance operates, what challenges it used to be faced with, and how the legal industry has opened up to it. We will also cover the questions practitioners should ask and answer when looking at litigation finance.

Presenters

Giugi Carminati
Space lawyer, eDiscovery attorney, legal project manager, and former litigator
Livable Law

Transcript

- Welcome to today's CLE The Fundamentals of Litigation Finance. My name is Dr. Giugi Caminatti. I am a former litigator with experience in complex commercial litigation, civil rights, family law, and international arbitration. And after a decade in practice, I joined LexShares as Vice President of Business Development. Before we go any further, I am going to share a disclaimer with you. This presentation does not contain legal or investment advice. LexShares does not warrant the accuracy of any information contained herein. Nothing in this presentation should be deemed an endorsement of any particular investment opportunity. Furthermore, nothing in this presentation should be understood as supporting the practice of litigation finance in any particular jurisdiction. Each litigation finance transaction should be evaluated individually with the advice of council. Having said that, let's jump in. Today's presentation has a table of contents. We are going to cover this subject in six steps. First, I am going to discuss the basics of litigation finance. What is it? Why people use it? Why it matters? Second, we're gonna do a history lesson of litigation finance abroad, because that is where it was born. Third, we're gonna talk about litigation finance in the United States. Fourth, I am going to cover the anatomy of a litigation finance deal. Five, we are going to talk about the policy considerations for litigation finance, and then number six, we are going to discuss the factors to consider when securing litigation finance. Let's jump in. First basic question. What is litigation finance? And actually, I get asked that a lot. Litigation finance is when a third party, a non-party to the lawsuit invests money in litigation usually for the purpose of advancing the claim in return for a share of the recovery. There are broadly speaking, two types of litigation finance, consumer and commercial, and this presentation will focus on the latter, commercial litigation finance. First question is why would someone use litigation finance? Well, litigation finance is similar to other types of financing and we frequently use financing for things like real estate, cars, businesses, boats, appliances, furniture, and even plastic surgery. So really, the question should be, why not litigation finance? Why should we not use financing to help advance lawsuits? We know that access to justice depends on access to capital, and lawsuits are expensive. It is also undeniable that better resources do give better results, and litigation finance can be used for a whole variety of things. Ranging from attorney hourly rates, which actually addresses immediately a common misconception. And that is that litigation finance is only used in contingency cases by plaintiff's attorneys, but that's not true. Litigation finance actually can and is used by hourly attorneys pursuing claims. And that is especially the case if the client does not want to, or does not have access to their own capital to pursue the claim. Litigation finance can also be used to cover expert fees. And if you've ever had to deal with expert fees, you know how incredibly expensive those can be. You can have better e-discovery software. You can pay for computer forensics, you can cover depositions. You can pay for jury consultants, you can pay for in-court presentations, and anything else that your case may need. For example, a private investigator. Litigation finance is a way to access capital that improves your ability to deliver results for your client. So where does it come from, right? Where does this concept come from? How long has it been around? Well, before I talk about that, I am going to have a little history lesson. So here we are talking about the history of litigation finance. And in order to do that, we have to start with two concepts, which are champerty and maintenance. So maintenance is when a non-party provides funding for litigation. And there's a commentator who made a really interesting point and said, in an article it said, maintenance can actually be malevolent or benevolent, but it's still maintenance, no matter what. So if I go to someone and I'm like, I want you to sue my nemesis, and they do so, and I give them the money to do so then that's malevolent maintenance. But if I think, you know what, I think you have such a great cause and I want to be there for you and I wanna support you. So here's my money. Go do the litigation. That's benevolent, right? That's benevolent maintenance. But if you do it for profit, so if either of those circumstances, or if I don't really have a bone to pick, it's not like I'm benevolent or malevolent, but I'm just gonna invest money in this lawsuit. If I am going to make a profit, then that becomes champerty. Champerty is maintenance for profit. And according to Black's Law Dictionary, champerty is defined as an agreement between a stranger to a lawsuit and a litigant by which the stranger pursues the litigants claims as consideration for receiving part of any judgment proceeds. And this is actually found in Anglo-Dutch Petroleum v. Haskell which is a Texas court of appeals case from 2006, which was citing Black's Law Dictionary. And why does this exist, right? Who cares? Well, the concepts come to us from English common law, and they're from antiquity. And the reason they existed is actually Lords. Noblemen and Lords did not want to have to fight off lawsuits by basically peons, people who had no real interest themselves, but were being used by other powerful moneyed interests, people to basically drain their coffers with litigation. And so the idea was that people could not go around funding litigation against each other as a way to harass or weaken or impoverish each other. And because our system in the United States is inherited from the United Kingdom, then these concepts came over to us. But interestingly and importantly, they only apply to common law jurisdiction. Now that you know a little bit of the background regarding champerty and maintenance, I'm gonna talk about the birthplace of litigation finance, which is you're never gonna guess, Australia. So in the 1990s, Australia's parliament allowed insolvency practitioners to enter into contracts to finance litigation. So really, at its at birth, litigation finance was a tool of bankruptcy. And in fact, there is a very large company nowadays called Omni Bridgeway, and they used to be before they used to be called IMF Bentham. I mean, there were mergers and sales and acquisitions. I'm not gonna go into. And IMF initially stand for Insolvency Management Fund Limited. So what happens next? Well, between 1995 and 2006 scholars, and professors, and people who write about this topic refer to Australia as the wild west, right? So, litigation finance definitely expands beyond the bankruptcy realm, but the rules of engagement are being created. And so it's not quite clear, what's allowed, what's not allowed. How you can do it, how you can't do it. Until 2006, when the high court majority decision in Campbells Cash and Carry versus Fostif actually brings litigation finance into that mainstream. And that mainstream leads us to the United Kingdom. So by the early two thousands, UK courts generally interpreted the litigation finance agreements were not against public policy. And in 2002, England and Wales Courts of Appeal concluded that public policy no longer opposed litigation finance. And, in fact, in 2005 in a decision called Arkin v. Borchard Lines which limits the liability of a third-party funder for advert cost an amount equivalent to the funding provided the court developed what is now called the akin cap. And the akin cap is what I just said, which is that a third party funder, a litigation funder cannot be liable for more of the money that they put in. And that akin cap has since been modified and changed, and I don't wanna tell you that that's the law in the UK also, 'cause I'm not a UK practitioner, but it's just to give you a sense of, Oh, rules of engagement are being developed, right? This is no longer the Australian wild west. This is taking this concept and growing it more and more and more. And then, in 2005, the Civil Justice Council in the UK published a document called "Improved Access to Justice, Funding Options & Proportionate Costs" which talked about litigation finance. And you see that this concept of access to justice is really rearing its head. And that's actually the important policy consideration, right? That people need to be able to access the courts. And in order to do that, they need to be able to access the capital to do that. So, in 2011, Lord Jackson, who is a prominent jurist in the UK, gave a lecture on litigation funding. And it happened in November of 2011. And there are two sentences I'm going to share with you. The first one is this, maintenance and champerty remain as torts, however, their scope has been progressively narrowed by judicial decisions. The second sentence I'm going to share with you is it is now established that properly structured litigation funding does not infringe the rules against maintenance and champerty. And so the reason I'm sharing these with you is because it's not an either or scenario, it's not that you had maintenance and champerty and then it goes away on litigation finance is allowed to grow. The idea is that maintenance and champerty exist, but they coexist with the concept of litigation finance. And the reason is both because maintenance and champerty get narrowed down in scope. We are not in few little times anymore. We don't need Lord's passing laws to protect each other from these kind of lawsuits. In fact, we need to give people access to justice. And at the same time, there's also the idea that litigation finance is not maintenance. It's not champerty. It is a finance vehicle that really has nothing to do with that old futile concept. And then there's another angle to understanding the growth of litigation finance. And that is that in 2012, the UK passed the Legal Services Act, which created regulatory room for alternative business structures, right? And so even if you have very close relationships closer than you would normally see, between a litigation finance company and a law firm, they're not gonna get tripped up and they will not be able to be told, Oh, well, you are now, the litigation finance company co-owns the law firm, and therefore, you have a non-lawyer owning a law firm, right? The idea is that these are businesses and that there needs to be some space for alternative business structures that allows this outside financing. All right, so we are now ready to start talking about litigation finance in the United States. So, litigation finance has definitely proliferated, and it is subject to varying levels of regulation. The US legal market is the largest one in the world. How so? Well, there are over 13 million state cases filed every year, 13 million. There are over 300,000 federal cases filed every year. There are tens of thousands of private arbitrations filed every year. There are dozens of litigation financing companies in the United States, including some household names among financial institutions, such as Elliott Management and Fortress. The point being that even if these household-named companies are not entirely engaging in litigation finance, it is absolutely part of their investment strategy and absolutely part of their portfolio. So litigation finance is everywhere, but and this is where we start talking about what can we do? Where can we do it? How can we do it? There is no federal regulation of litigation finance in the United States, and there is no uniform regulation of any other type, for example, a uniform code. Instead, litigation finance is subject to a patchwork of state regulation. And why is that? History. After independence, each state adopted some version of English law and some but not all states adopted prohibitions against champerty and maintenance. And in fact, there are 31 states that have either abolished the doctrines of champerty and maintenance or never adopted them, to begin with. And these states are Arizona, California, Colorado, Connecticut, Florida, Hawaii, Iowa, Kansas, Kentucky, Maine, Maryland, Massachusetts, Michigan, Missouri, Montana, Minnesota, Nebraska, Nevada, New Jersey, New Hampshire, North Dakota, North Carolina, Ohio, Oklahoma, Oregon, South Carolina, Tennessee, Texas, Utah, Vermont, Washington, and West Virginia. Now, keep in mind the following just because a state never had or does not, or abolished prohibitions against champerty and maintenance does not mean that litigation finance is allowed. Similarly, just because a state has champerty and maintenance prohibitions on the books, it does not mean that litigation finance is disallowed. And so that if you take one concept away from today's lecture is that those two concepts really have been decoupled from each other. Both as it was being processed in the United Kingdom, which is the birthplace of champerty and maintenance and a place where litigation finance really grew before it came to the United States. It's really understanding that these two concepts have been separated from each other. Now there are certain states where champerty still applies and it invalidates litigation finance agreements. And these are Alabama, Kentucky, Missouri, and Mississippi. All right, so in order to understand litigation finance in the United States, there are five frameworks that I want you to keep in mind as mental models. First, there are states that abolish the doctrine altogether or never adopted champerty and maintenance. Two, there are states that allow litigation finance, regardless of champerty prohibitions. Third, there are states that have loosen prohibitions, notably via narrow application of champerty and maintenance. Four, there are states that reinforce the rules against litigation finance, and five, there are states with courts that impose mandatory disclosures. So it is allowed, but they are subject to mandatory disclosures. And that's a whole different animal on its own. Let's first talk about states where litigation finance agreements are authorized, which right now, given what I do, are my favorite states. So Texas imposes no direct regulation of litigation finance and its case law has specifically held that litigation finance agreements are enforceable and that usurious laws do not apply to them. And this is the holding of Anglo-Dutch Petroleum v. Hascal, which is the 2006 case I referenced earlier. Similarly, Florida has specifically found litigation finance agreements to be enforceable. And this has been the case since the decision of Craft v. Mason in 1996. So think about what I told you earlier about Australia being a wild west from the mid-nineties, while Florida had already decided litigation finance was a go. Another state is Minnesota, which in 2020, so very recently abolished the doctrine of champerty in a case involving litigation finance, specifically finding that there are positive attributes to litigation finance. And this was in Maslowski v. Prospect Funding Partners which is a 2020 decisions. And the reason this thematic is important is because, as you remember from earlier, we were discussing litigation finance policy as increasing access to justice. And that's really one of the big drivers, right? The realization that access to capital is access to justice and litigation finance isn't access to capital. Another state were litigation finance is allowed is Massachusetts, which has long authorized litigation finance agreements. In Saladini v. Righellis, 1997 Supreme court decision from the state, the state officially abolished champerty by saying, "We also no longer are persuaded that the champerty doctrine is needed to protect against the evils once feared. Speculation in lawsuits, the bringing of frivolous lawsuits or financial overreaching by a party of superior bargaining position." There are now other devices that more effectively accomplish these ends. Couple more states where litigation finance is authorized. New Jersey never recognized the doctrine of champerty and maintenance. And therefore, in that state that was used as the basis to say that there has never been a prohibition against litigation finance agreements, and therefore, they are allowed. And then there are other states where litigation finance agreements are explicitly allowed either by statute or by exception. And that is Arizona, Arkansas, California, Connecticut, Hawaii, Illinois, New Hampshire, New York, and Ohio. Let's talk a little about New York. This is a very interesting state, both because it is the heart of the financial sector in the United States and because of its approach to litigation finance. So New York Judiciary Law Section 489 says that champerty is still on the books. It exists, but it does not apply to assignments with a purchase price of $500,000 and up. And it only applies if the sole purpose of finance is proceeding with litigation. The question being, does the litigation agreement, preexist the litigation? And where you would find this is in Galen v. Helly Nahmad Gallery, which is a 2018 case. But you would also want to compare it to Justinian Capital SPC v. WestLB, which is a case that was two years old than that 2016, where a litigation finance agreement was struck. But that is because it was only entered into to bring a lawsuit. So the question is, which is a good question, right? Would the litigation have existed, but for the financing agreement? And if the answer is yes, and if the amount is over half a million, then the champerty and maintenance prohibitions of New York do not apply to it. Now we're gonna switch over to the different model, which is states where champerty is on the books, but litigation finance is still allowed. So New York obviously was the first example of that, but there are more. Delaware, for instance, in the case, Charge Injection Technologies versus E.I. DuPont De Nemours which is a 2016 case by the Delaware Superior Court, the litigation financing agreement was found to not be champerty because the litigation finance company had no control over the litigation. And this is a concept that is going to follow us all the way through this lecture. The concept of who has control. In Florida, champerty is only prohibited insofar as it relates to officious intermeddlers. And that is the official term by the court, which I love. I might get a t-shirt that says officious intermeddler, but the court decided, look, reputable litigation funders are not officious intermeddlers. They're not doing this to cause chaos. They're not doing this to just create drama, they're doing this because it's a method of financing and it fills a need in access to justice. And you will find reasoning into this effect in Odell v. Legal Bucks, which is a 2008 decision and then Kraft v. Mason, which is a 1996 decision. Finally, we are going to talk about unfriendly or hostile states because they do exist. States that are hostile or less than favorable to litigation finance can oppose it for a variety of reasons. Usually, champerty and maintenance, you name it. And in a variety of ways, they can impose licensing requirements. They can create legislative prohibitions. So let's talk about which are these states. Well, Kentucky. Kentucky does not allow litigation finance agreements, period. The decision that holds as much is a 2019 decision, Boling v. Prospect Funding Holdings. Alabama holds that litigation finance agreements are void as against public policy because it is "an illegal gambling contract." That is Wilson v. Harris, and that's a 1996 decision. Mississippi codifies the prohibition against champerty maintenance, and it applies to litigation finance. And that is Mississippi Code section 97-9-11. There are also states where it's a bit of a gray area where litigation finance is allowed, but where funders should tread carefully. These states include Maryland where litigation financing agreements are considered loans and are subject to state regulatory agencies. And, in fact, at least one state investigation determined that an agreement was usurious even though there was no interest rate because the rate of return exceeded the rate permitted by statute. Another state like this one is North Carolina, which has a court that concluded that advances for litigation even if not, loans could be usurious and therefore unenforceable. And this is Odell v. Legal Bucks. This is a 2008 decision. Another state that is a gray area. So litigation finance is allowed, but tread carefully is Pennsylvania, which generally enforces litigation financing agreements. But some structures may run afoul of the state's champerty laws. For instance, there's a case called WFIC versus LaBarre 2016, where the Pennsylvania court found that the litigation finance agreement was champertous. But here is why. The attorney on appeal renegotiated the fee agreement that his recovery went from 7.5% to 33%. And he would then pay the litigation finance companies out of this significantly increased share. So this tells us that the structure of agreement has significant impact on its ability to withstand scrutiny. Another state that is a gray area is the one I am sitting in, which is Colorado. Colorado qualifies as a gray area state because of a decision in Oasis Legal Finance Group v. Coffman. The court there held that the consumer, and this is a consumer litigation financing agreements. And that's really not what we've discussed up until now today, but it's worth mentioning. So the court decided that the consumer litigation financing agreement was a loan and subject to usurious laws, regardless of the fact that it did not have the hallmarks of a loan. And while this holding was in a consumer financing context, the breadth of the decision and the fact that it was not explicitly limited to consumer litigation finance means that it could easily be applied to commercial litigation finance. In other words, a Colorado court could use Oasis to hold that all litigation finance is a loan and subject to usurious restrictions, regardless of how it's structured, and regardless of how it's called. The final mental framework, I told you to keep in mind when we started was that some states have mandatory disclosures of litigation finance agreements. So most courts that have considered the issue have distinguished between consumer and commercial litigation with courts being far more inclined to require disclosure or other regulation in the consumer context. Now, states that require some degree of disclosure of the existence of a litigation finance agreement are Illinois and its federal local rules. New Jersey, also in federal local rules. Wisconsin, West Virginia at the state level, and then Delaware and the Northern District of California at the federal level. The Northern District of California is interesting because it's a little bit of a different flavor. So the district in 2016 issued an opinion in Gbarabe v. Chevron Corp where the case was about a plaintiff's class action. And they were suing the defendant and saying that the defendant was liable for damages related to an exploratory gas well explosion. And the Northern District of California compelled the named plaintiff to produce his lit litigation finance agreement to the defendant. And this was then enshrined in January of 2017 in the Northern District of California's local rules, which was first of its kind at the time, which requires disclosure of third-party finance agreements and proposed class actions. And the amended standing order says, I'm gonna read it to you. "Disclosure of non-party interested entities or persons, whether each party has filed a certification of interested entities or persons required by civil Local Rule 315. In addition, each party must restate in the case management statement, the contents of the certification by identifying any persons, firms, partnerships, corporations, including parent corporations, or other entities known by the party to have either, A, a financial interest in the subject matter in controversy, or in a party to the proceeding or to little lies, any other kind of interest that could be substantially affected by the outcome of the proceeding. In any proposed class collective or representative action, the required disclosure includes any person that is funding the prosecution of any claim or counterclaim. So there it is. We can now take a step back from history and mental frameworks and regulation. And we can talk a little bit more about how litigation finance is structured. And if you ever were to find out more about the industry, you can look at four different organizations that have been created to basically be conduits for conversations with the industry, conversations among the industry, creation of standards abroad, those exist, not in the United States. And so these are trade associations, trade organizations, and there are four of them. The first one is called ILFA, International Legal Finance Association. Second one is called ALF, the Association of Litigation Funders of England and Wales. The third one is ALFA, American Legal Finance Association. And the fourth is ARC, Alliance for Responsible Consumer Funding. Having said that, we get to jump into types of litigation finance. Let's start broadly speaking. Litigation financing can be single matter financing or portfolio funding. Single matter financing is where investment is made into one dispute on behalf of a claimant or multiple claimants, and that one dispute serves as the collateral for the funding. Portfolio funding is where there is cross-collateralization of two or more cases. So there can be multiple existing cases that the funder has vetted and agreed to fund, the commitment of funding multiple future cases, so any other cases that come to the firm generally, or any other cases that come to the firm in a particular type of case, portfolio, claim, whatever it is. This is the typical structure for law firm financing, right? So a big section or the entire portfolio is collateralized and can be a line of credit. So a certain amount of money can be set aside in an account or made available to be called upon, and the firm gets to call against it as long as its portfolio hasn't drastically changed, and there are usually contractual terms to determine, what does that look like, what is a drastic change. Within these universes, there are also subject matter differences, right? The cases themselves are going to vary. So let's talk about first, the type of investment that I'm gonna talk about is single-case commercial litigation. So this would typically look like non-recourse funding for legal fees, litigation expenses, and working capital for the plaintiff company. The case types would include breach of contract, breach of fiduciary duty, KeyTemp, theft of trade sequence, patent infringement. And this is usually stage agnostic. So we don't really care when the lawsuit is brought to the litigation funder. It can be before the complaint, after the complaint just before trial. It's fine. The next is obviously I've touched upon it, but portfolios and complex financing. So if you have funding of a portfolio it's a across multiple matters and there's usually custom financing solutions because there's complex needs to be addressed. And the corporations and law firms involved need to be able to come up with solutions that make sense to them. A third type of investment is international arbitration. You can finance international arbitration across multiple forums, multiple cases, et cetera. A fourth type of investment is in intellectual property. A litigation finance company can finance plaintiffs to protect their intellectual property. It does help to unlock the capital that can be used to pursue the assertion or reinvest into the operating companies while there's a fight about a particular piece of IP. And that means that if somebody's fighting to keep their IP or protect their IP, they're not also being drained. They can still get the benefit of having that IP and they can use it to keep operations or develop more inventions or fully leverage the IP they've developed to date. Another type of investment you should know about is law firm funding. And this is similar to portfolio financing because it is cross-collateralized across an entire portfolio. The point of it is that it can reduce the overall risk and enable firms to grow their docket. And this is offered both in recourse and non-recourse options, and obviously, the cases are cross-collateralized, but the funding is explicitly given to the law firm to operate, to grow, to do things that make it a more successful law firm to get different dockets, to move into a new area of law, whatever it is, the litigation finance can assist them in doing so. And then finally, there's a type of investment called post-settlement monetization, which helps claimants and law firms expedite payment of awards and fees. And it eases collection pressure and alleviates cash flow concerns of successful claimants who have won. They have a judgment and now the defendant is dragging their feet and making it really hard to collect from them. So, I'm going to take you through two specific examples. One of them is a single case example, and it shows you how the money would flow for investment in a single case. And then I'm gonna do the same thing for a portfolio of cases. So let's just say that a litigation finance company, such as LexShares, right, full disclosure, obviously, I work for them, you know that. So let's say that there's a litigation finance company that invests $1 million, okay? What does that look like, right? Well, the litigation finance company would not deploy a million dollars. They would actually deploy less than that because they would hold back the fees and expenses that they need to cover their expenses internally and the cost of raising that money and the opportunity cost of not using their money to do something else. So just as an example, let's say out of a million dollars, a 105,000 is retained by the litigation finance company to cover their expenses. Then of the remaining money, $700,000 could go to the attorney. And depending on the engagement structure, the capital could be used for hourly fees or costs. And remember, this is a single case example, so the funding is going to be used to advance the case, it's not going to the law firm as operating capital. And then maybe 195,000 of that money goes as working capital, and or personal expenses for a plaintiff that is being squeezed or can't operate, or can't keep going with its business or needs it to survive. So what happens when the money comes back, right? What happens when the claimant wins? Let's say that the claimant, in this case, wins $10 million. So the way it would be broken up is the following. You would have 3 million to LexShares as a multiplier or the litigation finance company, whoever they are. 3 million to the finance company as a return on their $1 million investment. And then it could be divvied up, 3 million to the attorney, right, at 33%, or 4 million, if it's a 40% plaintiff's arrangement, and then 5 million to the plaintiff, okay? And so everybody made money, and that's kind of the idea behind non-recourse litigation financing, right? Everyone makes money if the case is successful. So, let's take a look at a portfolio example. Portfolios usually have much larger numbers because you're dealing with much bigger caseload. So just for sake of an example, let's say that a litigation finance company invest $5 million, okay? So $550,000 gets retained by the litigation finance company to cover its fees and expenses for raising the capital, doing what it needs to do to manage the money, doing what it needs to do to keep the lights on, so on and so forth. And then 3.95 million goes to the attorney. And in this case, depending on the engagement structure, the capital can be used for hourly fees and costs or for the firm's operating expenses, including hiring additional staff, additional attorneys, getting experts, whatever they need to grow their firm. And maybe half a million can go towards marketing, which means that it can be used to increasing the value of the entire case by adding plaintiffs. All right, so then money comes back. Let's say that this portfolio ends up bringing back $80 million, right? Eight zero, $80 million. So the litigation finance company would collect about 15 million, one, five, $15 million as a return on its $5 million investment. $33 million would go to the plaintiffs, and then $32 million would go to the attorney, right? Because they are able to collect on the cases that they were able to work up, thanks to the litigation finance arrangement. So that's what it looks like, kind of bare-bones structure. That's what litigation finance looks like. Okay, so you're going into a litigation finance deal, or you're considering doing this for your client. And then you think, all right, but I mean, what's the nuts and bolts of this, right? Now you understand how it works, you understand where it comes from, but how do you put it together? Well, there's six topics I'm going to cover in the next 20 minutes or so. The six topics are the following. First, you're gonna have to look at the investment and the potential recovery. Not only for the, obviously the lineation finance company, but you wanna look at how much is your client going to recover and how much are you going to recover, right? Is everybody going to walk away with something in pocket? You're gonna want to have really frank conversations about what the money is going to be used for, because that gets contractually decided at the beginning, and that needs to be crystal clear. Third, you are gonna wanna think about confidentiality and privilege. You're gonna wanna talk about and think about what you can share with whom and how. You're gonna wanna talk about whether this is an investment or a loan, and how does this affect the validity or enforceability or collectability of the arrangement. You're gonna wanna be very clear about whether this is a recourse or non-recourse arrangement. And finally, as the attorney, you're gonna wanna really be clear about who retains the authority to make decisions over litigation strategy and who retains control over the litigation, the decision to settle, the decision to go to trial and everything that goes around those decisions. So how do you approach a litigation finance company, right? How does that conversation go on day one? Well, first of all, a case gets submitted and the plaintiffs or the attorneys will submit an application for funding and that happens a lot. In fact, that's my job receiving those requests. That's literally what I do every day for my job. And alternatively, there's also an outbound, right, type of collecting cases, identifying cases. So LexShares, for example, has kind of a unique model in that, it has an AI, it has a software called Diamond Mind that goes through dockets and identifies cases, according to whatever criteria. And then the company might reach out to them, and to the lawyer and say, Hey, are you interested in litigation finance? So, that can happen in two different ways, right? So at some point, somehow, a case arrives to a litigation funder. And then, the litigation finance company does an initial review. This is very, very quick. It just looks at initial merits, parties, collectability, jurisdiction. Are there any red flags? Are there any showstoppers at this point? So if there are no showstoppers, then the case can proceed to due diligence. And due diligence is very arduous. It's a very in-depth process. And this entails detailed case vetting. It includes a substantive review of the merits of the case, possibly interviews with the plaintiff, definitely interviews with counsel, reviewing defendant's creditworthiness, looking at the litigation budget that's been submitted, looking at whether the valuation and the damages model makes sense, looking at whether any experts are there. Looking at who the defending attorneys are, what courts you're in. This is a very in-depth process. And then, if a case passes the diligence proceeding, then there will be funding. The case is approved by an investment committee, and then it is funded via a variety of vehicles. But that's not it, right? That that's not the end of the story. The litigation finance company will then monitor and service, right, the investment, but a litigation finance company that is reputable and knows what they're doing will never control the litigation. And that is why I carefully use the word to monitor and to service the investment, not to control it. And so from this, I can tell you, and you can now tell that the investment tenants are what, there's three of them, one legal merits, two strength of counsel, three, the defendant's ability to pay, right? If one of those is problematic, that's probably going to put an end to the litigation finance. Okay, let's say that the case has been submitted, you're having conversations, you're trying to understand how does the funder make money, right? What does that look like? Well, there's a variety of ways and there's a variety of arrangements and there's not one that's better or worse than the other, but overall, you should think of it this way. One way is for the litigation finance company, the funder to impose an interest rate. And you're probably really familiar with interest rates, right? Your credit card, your mortgage, your car payment, all of that has interest rates. Another way is for there to be a multiplier, right? So, you invest X dollars, and then the company will get back a multiplier, like 0.5 or one-time multiplier, two-time multiplier, and that multiplier usually goes up as time goes on, right? So if it's been three years, the multiplier will have kept going up and racking up as time went by. And then there's premium, right? You can have an amount that's paid on top of whatever it is that the litigation finance company invested into the case. And then, obviously, there can be hybrid arrangements, right? It can be a percentage of the recovery. It can be a multiplier, it can be an interest. There's a whole variety of ways that this can be structured. But where does the litigation finance company get its money from when it's getting repaid, right? Like, who gets the first dollar through the door? Well, usually, the litigation finance company, and this is what is referred to as the waterfall of distribution. So typically, settlement proceeds from resolutions are remitted to an attorney's client trust account, and then they're paid to the funder before payments are made to anybody else, including clients, other attorneys, or the attorneys litigating the case, lienholder or other entities. When the firm doesn't want to do that, doesn't wanna hold escrow, then the parties can retain a third-party escrow company to pay the funder. But again, that is before the plaintiff receives any funds whatsoever. What can the funds be used for? I've touched upon it. I'm gonna go quickly over it, but you know it by now, a lot. Attorney's fees, litigation costs, working capital for claimant companies or a client's personal expenses. This really comes down to what the company, the litigation finance company and the attorney or the client have decided amongst themselves. The issue of confidentiality and privilege is a pretty complex one. And it's worth spending a little time talking about it. So condo parties who enter into these transactions are usually concerned with maintaining confidentiality, and so they should inquire as to best to do that in their relevant jurisdiction. And here, I can only speak broadly because it's really very specific from jurisdiction. So maintaining confidentiality and preserving privilege are important to litigation finance transactions. And the first way that confidentiality is preserved is by entering into contractual protections, such as NDAs. These are signed early and are going to be broad in scope. Is the first thing that gets signed when discussing a case. Then the question is, well, is there a work product or attorney-client privilege protection for information that is exchanged with the litigation finance company? Well, generally speaking, the trend has been to recognize work product protection for information that is shared between the law firm or a client and the litigation finance company. So in Arizona, in 2020, in a case called Continental Circuits v. Intel Corp, the court said the litigation finance agreements, therefore satisfied that because of tests and constitute work product, work product protection is not waived merely because work product is shared with another person or entity. Northern District of Illinois, similarly reached the same conclusion and said, yes, there is work product protection, but there is no attorney-client privilege because there's not a communication between council and the client. The Eastern District of Pennsylvania in 2012, very conclusively, so there's no big analysis I could share with you determined that communication with funders and finance agreement drafts were protected as work product and protected by the attorney-client privilege under the common interest exception. The Eastern District of Texas in 2011 in Mondis Tech. v. LG Electronics, Eastern District of Texas decision concluded that documents shared with potential litigation finance companies were privileged. In Florida, in International Trading Co., a 2016 case, the court basically said it was statutory. "Florida Statutes 90.502 protects communication with those to whom disclosures and furtherance of the rendition of legal services to the client." And that was it. But there are states that I've taken a different approach. Delaware, for instance, in 2010, decided after a brief analysis that Patent T and litigation finance companies did not have a common interest, which rendered the attorney-client privilege, and apparently, the work product protection unavailable. Similarly, in New York, a 2020 decision in E. Profit v. Strategic Vision as well as Cohen v. Cohen, which is a Southern District New York decision in 2015, concluded that the identity of a person providing litigation finance, whether private individual or corporation or an insurance company is not protected by the attorney-client privilege or attorney work product doctrine. So little caveat, right? It's not that all the communications are up for grab. It's just the identity of the finance company is not privilege or protected. And that's a very narrow ruling. So just a word of caution, right, when we look at it. So overall, the conclusion is that usually protected, always subject to an NDA, and always be careful what you're exchanging with someone, no matter what. Okay, so next is litigation finance, an investment, or loan? Well, it could be either, and it could be both. It really depends on how it's set up. There's a variety of structures available, loan investment or hybrid. These can be recourse or non-recourse, non-recourse obviously means that there's a sharing of risk because if the case goes bad, then everybody loses. And then you're also gonna wanna look at whether you're gonna want a compound interest or fees you wanna pay a premium, or this is a factoring deal. And then finally, who retains litigation strategy, decision-making authority and control. Well, this is a bright line. It's really easy. It is never, never, ever the litigation finance company, period. That is where people get in trouble, control continues to be divided between the client and the lawyer pursuant to the rules of ethics. It is never given to the litigation finance company, California Bar Formal Opinion Number 2020-204, interpreting CRPC 2.1, which is very similar to the model rule 1.7 regarding a duty of loyalty and who has authority in a case. And the California Bar said, look, lawyers must exercise independent professional judgment when advising the client. CRPC 2.1 dovetail the lawyer's duty of loyalty to a client. This means a lawyer cannot allow obligations to a third party to compromise the quality and soundness of advice offered to a client. And they cited Palac v. Little, which is a 1981 case. And, in fact, duty of loyalty as contained in Model Rule 1.7 says loyalty and independent judgment are essential elements in the lawyer's relationship to a client. Concurrent conflicts of interest can arise from the lawyer's responsibilities to another client, a former client, or a third person, or from the lawyer's own interests, right? So the thing is that it doesn't matter what money there is to make. And it doesn't matter that the lawyer does business with litigation finance company. Ultimately, the lawyer is responsible, and their duty is to their client and nobody else, period. We are nearing the end. And as I promised you, we are gonna talk about policy implications of litigation finance. What are the pros of litigation finance? Well, the first one won't come as a surprise, greater access to justice, plain and simple. Litigation finance creates better outcomes for litigants because it aligns outcomes with case merit instead of with resources. And it also creates access to better resources themselves like lawyers, trial presentation consultants, jury consultants, experts, e-discovery vendors. And it means that the truth-seeking exercise that the judicial system is supposed to engage in is best served by having litigation finance, because then money is available to pursue these cases. Litigation finance also has a filtering function for meritorious cases in the justice system, because those cases will get access to capital while unmeritorious ones will starve. Litigation financiers are not going to invest in bad cases because bad cases are bad business. Doesn't make money. Litigation finance also shifts the risk of litigation to a party that is honestly better equipped to handle that risk, a repeat player. Litigation finance company does this day in and day out. And so they're better equipped to manage that risk, and definitely for sure, and for sure, a reason I got into this field. Litigation finance levels the playing field between the Davids and the Goliath of the world. And that's pretty critical. I mean, if we're not here to try to achieve justice, then what are we doing? So let's talk about some cons of litigation finance. There is a concern that third-party litigation finance will facilitate frivolous lawsuits because money will be available to pursue bad cases. Now, if you're dealing with a straight-up loan that's recourse, maybe, but if the claimant doesn't make money, there's very little chance that they're gonna be able to pay back, right, the loan that they took. So even in there's those circumstances, it's just not how it works. Litigation finance companies are not in it to lose money they're in it to make money. And so they're gonna find cases that have a chance of winning because that's where the money is gonna be. There's also a concern that third-party litigation finance will increase, or inflate the cost of litigation by making capital more accessible. That's always been raised as a concern. Well, I'll tell you one thing. First of all, the cost of litigation is exploding without the presence of litigation finance. And second, actually, there's an argument that it would decrease costs because instead of having a well-funded defendant, pour money into just bleeding out the plaintiff because they can. If the plaintiff can defend themselves, then that strategy doesn't work anymore. So instead, the defendant and the plaintiff are gonna have to sit down and figure it out and come to a decision sooner. Both of them spending less money 'cause the defendant can't hope just drag it out forever. So in some ways, it may actually drive people to get to the truth and get to settlements and get to resolution sooner rather than later, which would overall decrease the cost of litigation. There's also a concern that third-party litigation finance will be predatory and usurious, and this is more relevant with respect to consumer lawsuits rather than commercial financing. And that is a concern. And I would absolutely be cautious and say, we want to make sure that litigation finance companies are not overreaching and they're not taking advantage of people. And that for sure is more of a risk in the consumer rather than the commercial setting 'cause commercial setting is businesses dealing at arm's length transactions. And there's a whole host of ways that you can't have unconscionable contracts. You can have access to an attorney to negotiate the contract, and nobody's forcing them to go find litigation finance. Next, there's a concern that third-party litigation finance will create improper incentives and conflicts of interest. And that's certainly something that lawyers, responsible lawyers and responsible litigation finance companies will take into consideration and they will have conversations about who has control and how is the money collected and who is collecting, from where. And, but again, if all of this is decided contractually at the beginning, and there's a clear expectation about who gets to do what and clear expectation that there cannot be overreaching and that the lawyers' duty is first and foremost to their client, then if you're dealing with responsible professionals, that should be something that is addressed early on and adequately. There's also a concern that third-party litigation finance will lead to a loss of confidentiality and or privilege. And we've addressed this. First of all, a nondisclosure agreement is the first thing that is signed in any of these transactions. Absolutely. And second, the trend across the nation has been to find that there is work product protection of any communications and even in some cases of the identity of the litigation finance company, and even when there's disclosure of the finance company itself, it doesn't automatically mean that all the communications get exchanged. And then another point I wanna make, which is really important, an attorney should not be sharing their privileged mental impressions of the case. A litigation finance company that is reputable and knows what they're doing is going to base their due diligence on their own analysis of the case and on either publicly available information or information that is not per se privileged, for example, fee agreements are not usually, although obviously you have to look at your own jurisdiction, right, are not usually privileged. And so a litigation finance company will try to work with the law firm requesting funding to make sure that the clients are protected. And it is up to the lawyer also to look at how those communications are dealt with by the courts that would be determining, making those decisions in their particular case. So, in summary, and this is just a bunch of questions that I want you to leave with and think about and bring up if and when you are ever dealing with litigation finance. Do your state's laws permit third-party investments and lawsuits? That'll be your first question. Does your state require any special language to be added to litigation finance agreements? Is the assignment of lawsuit proceeds permitted in your state? Is disclosure of litigation finance required by law or by local rule, as we covered? How do state usurious laws and courts treat investment models where the payment of proceeds is contingent upon the outcome of the claim? Do your state rules of ethics allow you to participate in such deals? What are the licensing requirements, if any? What are the current legislative and regulatory efforts underway or done in your state regarding litigation finance? And that is it for me for today. Again, my name is Dr. Giugi Caminatti. I am Vice President of Business Development at LexShares. I am personally based in Colorado, even though our company offices operate out of Boston and New York. And I encourage you, if you want to learn more to visit our attorney resource center at lexshares.com/resources, where you will find case law guides, practitioner guides, articles about recent developments. And I hope you will find it useful to continue educating you in this particular field of the law. Thank you so much for your time today. I really enjoy talking about litigation finance, and please feel free to reach out if you have any questions or anything that you wanna discuss with me. It is literally my job to talk about litigation finance with people who wanna talk about it. And obviously, I'd love to learn more about your practice. So thank you so much for listening. I hope you have an absolutely wonderful day.
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