United States: Litigation Funding Through The Eyes Of A Financial-Economic Expert

Last Updated: March 27 2018
Article by Tjeerd Krol

Investors have long been looking for returns higher than those of traditional asset classes. Now that liquidity is abundant[1], and private equity firms are also seeing their historically high returns shrink[2], these parties are showing increasing interest in alternatives. A good example of this is third-party funding of litigations, better known as litigation funding. However, this requires a different way of thinking.

Summarize

  • Litigation funding is becoming more popular
  • The first step is to determine whether a case has sufficient potential for damages, and only then should legal possibilities be assessed
  • Litigation funding requires a different approach; good cooperation is key

Looking at the discipline of general counsels and their legal departments, it is apparent their work is organized differently. They are challenged to think and work more innovatively[3]  and the new forms of financing fit well with this trend. This, combined with the ongoing internationalization and the willingness to assert his or her rights, both in negotiations on future conditions and through settlements or court cases, means that litigation financing is increasingly becoming an interesting option.

Successes in this area can be reported, such as settlements that have been declared universally binding by the courts around Shell and recently Ageas. There are also clear signals that this new field is attractive to parties who exploit the ignorance of different players in this new market[4]. In recent years, legislation has been amended in such a way as to allow litigation funding. Arrangements may also be made for a group of victims which are then declared to be generally binding by court[5]. Proposals have also been made for the future to simplify litigation in this way, with or without groups of victims[6].

How did it work in the past? A company decided whether it would like to start a court case or action that would lead to a settlement after which, the question was put to the (in-house) lawyer, who then determined whether this was legally feasible. The current practice is different. An investor is looking for ways to finance a dispute in an efficient and effective way and to achieve a good return. He is not always searching directly for the legal possibilities, but will first assess whether the case has sufficient potential for damages. In other words: is the investment - often the costs of lawyers and experts - worthwhile?

This result is the estimate of the amount of damage and the final amount that remains for the investor after deduction of costs and payments to the injured party or company, as well as an estimate of the time needed to achieve a successful conclusion. If the outcome of this analysis produces a good return, the legal possibilities will be examined, and a specialist lawyer will be asked to make an estimate. The joint financial and legal analysis results in the investor being prepared to finance the procedure and start the process.

It is evident that good cooperation from the outset between investors, financial specialists and lawyers is essential. The company, or the group of victims, must be prepared to provide data that will make it possible to calculate the damages and initiate legal proceedings. This contrasts with more traditional processes in which the company was the leading figure, together with the (in-house) lawyer. Only after the judge had established the unlawful act or the non-performance, a financial specialist was involved to calculate damages. This often led to disappointments over the extent of damages, and dissatisfaction with a lingering legal battle over the principles to be applied before seeing any results.

In the new situation, relations are different. This leads to a better assessment - on more rational grounds - based on more information that is available earlier in the process. After all, the investor is free of emotions, and will only decide positively if a case has sufficient potential for damages and is legally feasible.

This change has consequences for the working methods of traditional private equity firms, asset managers, but also for general counsels and the legal departments of (large) companies. It also influences the working methods and cooperation of and between lawyers on the one hand, and financial specialists on the other.

Footnotes

[1] FD, 'Recordbedrag stroomt naar Nederlandse private-equityhuizen' 
https://fd.nl/ondernemen/1226860/recordbedrag-stroomt-naar-nederlandse-private-equityhuizen
[2]FD, 'Populariteit remt rendement van private equity'
https://fd.nl/ondernemen/1235374/populariteit-remt-rendement-van-private-equity 
[3] https://fd.nl/morgen/1231816/advocatuur-stort-zich-op-consultancy
[4] https://fd.nl/ondernemen/1094068/rechter-laat-niets-heel-van-eis-stichting-loterijverlies
[5] WCAM: https://nl.wikipedia.org/wiki/Wet_collectieve_afwikkeling_massaschade
[6] English court en collectieve actie wetgeving voorstellen (Commercial Court):
https://fd.nl/opinie/1221646/commercial-court-is-uitkomst-voor-complexe-internationale-handelszaken;
Wet Collectieve Schadevergoeding):
https://fd.nl/opinie/1207080/wetsvoorstel-collectieve-schadevergoedingsactie-is-onwenselijk-en-onnodig

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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