Outlined below are the key features of the three typical models of litigation finance:
Under a single case structure, a funder provides a facility to a claimant to pay the cost of conducting a single dispute. The facility amount is determined based on an agreed budget and the facility is drawn down each month by the claimant to pay approved invoices submitted by their legal team.
If the case is successful, the funder’s investment and success fee is repaid in priority from the proceeds of the successful resolution and, if the case is lost, the funder’s investment is lost.
The terms of the funder’s success fee will vary depending on the risk profile of the individual case; however, the success fee is commonly equal to either (or a hybrid) of:
Under a portfolio arrangement, a funder pays the cost of conducting multiple cases through a single facility. This model creates an efficient solution for clients seeking to pursue several claims simultaneously – for example, clients with multiple cases across an entire business or a discrete set of claims relating to a particular project.
The defining feature of a portfolio arrangement is that the funder’s investment is “cross-collateralised” across all the cases included in the facility. Unlike a single case investment where the outcome is binary, the funder’s risk is now spread across the outcomes of multiple cases and the funder is repaid from the cases that resolve successfully.
This dynamic can substantially lower the risk profile of the funder’s investment which, most relevantly from the client’s perspective, should result in a lower success fee than funding on a single case basis.
In addition to enhancing flexibility in relation to the commercial terms of funding, depending on the size and composition of the portfolio, cross-collateralisation also allows funders and clients to consider options to streamline the standard of diligence required for a case to be approved for investment.
The emergence of portfolio funding has allowed the funding industry to efficiently cater to the commercial needs of sophisticated clients by providing a more strategic “business-wide” solution to their litigation expenditure. Consistent with this commercial approach, depending on the preference of the claimants, funders may also consider including in the facility an amount of working capital finance to be used to support the business of the claimant.
The two models outlined above contemplate funders providing finance to claimants directly. As a rapidly growing alternative, funders are increasingly providing finance directly to law firms. These facilities are structured to enable law firms to draw on funding to underwrite their operating costs while acting for their clients on a contingency basis. The funding to the firm is still characterized as “non-recourse” as the finance is repaid by the firm from the proceeds of the firm’s realized contingent work. The client simply retains their share of the proceeds based on the terms of their contingency arrangement with the firm.
Depending on the terms of the facility and the amount charged by the funder, the law firm will retain a material share of the contingent proceeds upon success, which provides potential for significant upside to the firm while protecting against cashflow pressure and downside risk in the event the case is unsuccessful. In addition to the potential financial return to the firms, balancing risk through a facility can provide law firms with the strategic opportunity to satisfy client demand and grow their practice by acting on a contingency basis.
Proactive cash flow management is critical to the success of any law firm. The cash position of most firms has been refined over time to enhance partner distributions and to manage cash balances as efficiently as possible. This traditional strategy has been challenged by COVID-19. Firms must consider all aspects of their business to determine the financing options most suited to both balancing risk and growing their practices.
For all questions regarding the topics raised in this blog, please contact a member of our team of litigation funding experts.