A Financial Perspective to Litigation Finance
In general terms, litigation finance describes the provision of capital to a claimholder in exchange for a portion of the proceeds from a legal claim (whether by settlement or award) where recourse is limited to the proceeds of the claim at issue.
Legal claims, as an asset (or liability), are similar to a bond or other financial instrument; once a legal claim “matures” through a judicial award or settlement, it entitles the claim creditor to payment on the prescribed terms. Unlike a bond, however, it is uncertain as to whether the asset will indeed mature. A bond entitles the holder to payment on its face. Litigation finance redistributes this risk to the party that is most willing and able to bear and manage it. The social benefit of this risk distribution is the allocation of capital resources to their highest and best use; allowing companies to invest in projects that optimize returns and promote general economic growth.
This article will examine (i) how a company can benefit from transferring the risk associated with an investment in a legal claim, (ii) why an entity holding a portfolio of legal claims is more capable of bearing and managing such risk, and (iii) why litigation financiers are well suited to aggregate portfolios of legal claims.
The use of commercial litigation finance enables a company to better manage and finance legal claims, and to improve the productivity of its resources overall. To illustrate, imagine a company faced with the prospect of pursuing a legal claim that has potential damages of $30 million and a 70% likelihood of success. The company would (should) take the following steps when analyzing whether to attempt to monetize the asset:
- Step 1: Estimate the budget for the litigation. The budget should include all fees and expenses through trial, appeal, and collection. For purposes of our example, let’s assume that the total estimated budget is $5,000,000.
- Step 2: Estimate the potential duration of the litigation. This will likely be a function of the complexity of the case as well as the jurisdiction. For this example, let’s assume a duration of three years, which is a common anticipated duration.
- Step 3: Determine the company’s expected return on investment (“ROI”); for a medium to high growth company, an ROI can be expected to be in the range of 30% – 50%.
- Step 4: Calculate the cost to the company of bringing the litigation. Total the cost. This total should include the cost of the litigation plus the lost return on the investment that might have been earned had the company invested in its business.
Topics: Litigation Finance, Investment, Asset Management
Work cited: Lee Ducker, 2015
