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Ed. note: Litigation finance is transforming the fields of both law and finance. To help our readers gain a better understanding of what litigation finance entails, we’ve partnered with Lake Whillans to present a new series so you can better understand how litigation funding works, its pros and cons, and its past, present, and future.
In our first article in this series, we explained what litigation financing is and the various structures or “flavors” that are typical in the market. But why are companies using it? Is it only cash-strapped companies that look to litigation funding? While filling the budget gap is certainly one benefit, there are multiple reasons why litigation finance is gaining in popularity with corporate general counsels’ offices
Risk Mitigation
First, using outside financing allows companies to mitigate the risk from litigation. It’s a fact of life for large companies that they will eventually have to sue somebody. But even when the claim has merit and it’s important to protect the business, it’s not news that the C-suite will not cheer the budget drain, even if it’s a healthy company. Further, litigation is inherently unpredictable; there may be unpleasant surprises during discovery, and in the end, the case is in the hands of a judge or jury. Corporate officers don’t like that risk, or the unpredictable costs that come along with litigation, which make budgeting difficult.
Litigation finance solves those problems. In the typical litigation finance deal, the plaintiff in a complex commercial lawsuit (or portfolio of claims) with a high value — Lake Whillans looks for cases or portfolios with damages in excess of $20 million — receives capital in exchange for allowing the financier to share in the proceeds of the litigation. The capital can be used to pay the legal fees and expenses of the litigation, and in some instances, used by the company for other corporate purposes. Lake Whillans typically supplies $1 million to $15 million for single case financing. The financing is non-recourse, meaning that the company has no obligation to the funder if the claim isn’t successful or doesn’t yield a sufficient amount.
The Benefits of Off-Balance Sheet Financing
Litigation financing has clear advantages for the plaintiff company, starting with the fact that it enables the company to take the litigation cost off its balance sheet. At a publicly traded company, litigation costs are reported on the company’s statement of profits and losses as an expense against profits. Any eventual financial recovery from the litigation would be reported too—but it would be reported as an “extraordinary event” rather than profit, and that could be years down the road. Thus, litigation drags down the company’s profitability without a corresponding benefit at the end. By financing the litigation, however, a corporate law department can cover its legal costs using the litigation funder’s capital and take the litigation expense off its balance sheet entirely. That means the statement of profits and losses more accurately reflects the company’s true profitability. For companies focused on valuation, for example if the company is anticipating a capital raise, acquisition, IPO, or other strategic transaction where its valuation is important, keeping costs off-balance sheet has huge benefits. Especially when valuation is calculated by applying an earnings multiple, every dollar not subtracted as legal costs means multiple dollars of value in a valuation.
Optimal Pursuit of the Claims
Litigation finance can enable companies to make optimal decisions with respect to litigation. To start, a company can choose the best lawyers suited for its case, rather than ones that fit within a constrained budget or are willing to work on a contingency. Further, with the department’s legal costs covered, it no longer has to weigh its legal strategy against the costs created by a hostile opponent, such as extended discovery or aggressive pretrial motions. Every decision can be made according to the best interests of the litigation, even if that means spending that might have otherwise pushed the legal budget into the red. A company can avoid being forced to accept an under-value settlement offer because the legal spend is ballooning at an inopportune time for the company and/or the litigation is dragging on longer than expected. And if the case unexpectedly ends with a loss, the department loses no money, because the legal fees were already paid through litigation financing.
Raising Capital
Furthermore, because litigation finance raises capital, it can allow the company to pursue priorities that it might otherwise not be able to afford. That starts with the litigation itself. Sometimes, a lawsuit may be meritorious but too expensive to pursue, particularly for a smaller company without a lot of excess capital. Or, for some larger companies, where legal spend is apportioned or siloed among different business entities, one business line’s budget may be insufficient to fund the litigation. Litigation finance can fill that gap, freeing companies to vindicate their rights without stretching themselves thin financially.
Even without that issue, extra capital (either as saved litigation expense or infused capital) can fund an expansion of a business, cover operating expenses or finance any other company priorities that might otherwise be out of reach. By monetizing its litigation asset, companies can unlock the value of that asset at a time that fits their needs.
An Experienced Ally
Finally, litigation finance can provide more expertise to bear on litigation decisions, validating a corporate legal department’s decision to pursue claims. Because litigation finance firms have every incentive to value a claim properly and accurately predict its success, you can be assured that we will thoroughly and critically analyze your claim’s chances as well as collection and enforcement risks. Lake Whillans employs a team of lawyers experienced with the kinds of claims we finance, so that opinion will be highly informed, providing an objective opinion before the company makes a decision to pursue litigation, which may have economic, reputational, and opportunity cost risks. The funder’s imprimatur on a case may help a GC or other advocate of the litigation overcome internal skepticism and disputes within the organization about the worthwhileness of pursuing the claims. An experienced funder can also add value in selecting counsel, setting and negotiating realistic budgets with law firms, and can help prepare the attorneys litigating the case by asking the hard questions during the diligence process, and can be a knowledgeable sounding board for strategic and settlement decisions. (Lake Whillans does not control settlement or strategy of the cases it funds, but will offer its input when asked). By partnering with a litigation finance company like Lake Whillans, the corporate legal department is recruiting an experienced ally that shares the same incentive to maximize the value of the claims, which is ultimately the goal of any litigation.
To learn more about how litigation finance could help your company, please contact us at drucker@lakewhillans.com.