Lyndon F. Bittle and Richard A. Blunk 2015-10-26 12:39:25
Shifting tides in commercial alternative litigation finance. At its core, alternative litigation finance involves a third-party funding source making nonrecourse advances to a plaintiff in exchange for an interest in the plaintiff’s recovery. These advances may cover some or all of the plaintiff’s attorneys’ fees, litigation expenses, or other expenses. This article examines the concept, history, and recent trends in ALF and identifies areas that may be ripe for increased financing activity. The ALF Concept—Criticisms, Defenses, and Considerations for Making it Work The funding source in an ALF arrangement takes a perfected first-priority interest in the plaintiff’s recovery. Before any litigation proceeds are distributed to a successful plaintiff or counsel, the financier is repaid its investment, along with a pre-negotiated return. As with a typical attorney’s contingent- fee arrangement, the financier receives this payment even if the plaintiff does not recover the full amount of damages it sought. Typically, the financier’s recovery is further secured and funded through escrow accounts and various security interests.¹ The amount of return, if any, depends on the course the litigation takes, so the financier should conduct a rigorous predictive analysis of the litigation before advancing funds, assessing the potential recovery, probability of success, amounts to be advanced, estimated time from initial advance to final recovery, estimated legal fees and expenses, risk of non-collection, and cost of due diligence. Accurately valuing such claims, however, is extremely difficult because litigation outcomes are inherently uncertain.² Critics contend that ALF is simply another way for lawyers to generate frivolous litigation, and they argue that third-party funding may inhibit acceptance of otherwise satisfactory settlements, since the financier must be paid as well as the plaintiff and counsel. Supporters say that investors are likely to only fund plaintiffs with viable claims that satisfy strict due-diligence requirements and thus contend that the ALF market enables plaintiffs with meritorious claims to sustain litigation against well-funded defendants.³ Little empirical research has been done on the effects of alternative litigation finance.⁴ Several highly visible groups have entered the discussion. The U.S. Chamber Institute for Legal Reform expressed concern that ALF threatens to undermine the American legal system and advocated for amendments to the federal rules and other steps to “minimize the impact of litigation funding on our system of justice.”⁵ A detailed analysis by the American Bar Association’s Commission on Legal Ethics 20/20, on the other hand, found no per se ethical violations, but cautioned counsel involved in such arrangements, as in any other representation, to remain mindful of their professional obligations to their clients, including the obligation to maintain confidentiality and to avoid conflicts of interest.⁶ The New York City Bar Association reached the same conclusion.⁷ ALF proponents have heralded such pronouncements as indications that these bar associations have “found litigation finance to be perfectly acceptable.”⁸ A few states have enacted statutes regulating certain forms of third-party litigation financing.⁹ Texas is not one of them; proposed bills have stalled in committee in the past two legislative sessions. Meanwhile, Texas courts have expressly approved ALF contracts and similar arrangements. In the leading Texas case on the subject, Anglo-Dutch Petroleum Int’l, Inc. v. Haskell,¹⁰ financing agreements partially funded Anglo-Dutch’s operations and litigation expenses in connection with “bet-the-company” trade-secret litigation. The agreements generally required Anglo-Dutch to repay each investor—if the litigation resulted in a recovery—twice the amount of its investment plus an additional amount based on the length of time between the dates of investment and recovery. After settling the litigation for less than it expected, Anglo-Dutch regretted the amount payable to the investors and attempted to negotiate lower payments. Several investors filed suit to enforce the funding agreements. The trial court granted summary judgment for the investors, and the court of appeals affirmed, rejecting arguments that the litigation financing agreements were unenforceable as usurious loans, illegal unregistered securities, or violative of public policy. The appellate court observed: [I]t is not readily apparent that these types of agreements necessarily increase or prolong litigation. ... Presumably, prior to making an investment pursuant to a similarly structured agreement, an investor would consider the merits of the suit and make a calculated risk assessment on the probability of a return on its investment. An investor would be unlikely to invest funds in a frivolous lawsuit, when its only chance of recovery is contingent upon the success of the lawsuit.¹¹ As in any representation, counsel for a plaintiff that is a party to an ALF contract must be attentive to ethical issues that may arise in this context, including preserving confidentiality, privilege, and work-product protection; avoiding conflicts of interest; maintaining independent professional judgment; and avoiding fee-splitting with non-lawyers. As long as professional responsibilities are observed, at least in Texas, a litigant is permitted to utilize ALF, a lawyer may represent a client who is using such funding, and a lawyer may assist a client in obtaining third-party funding.¹² ALF can benefit both plaintiff and counsel in a variety of circumstances. Plaintiffs who can benefit from financing include those who lack sufficient liquidity or are otherwise unable to obtain more traditional financing to undertake meaningful litigation, as well as those who have been unable to reach satisfactory billing arrangements with their preferred counsel (e.g., the client wants a contingent-fee arrangement but the attorney prefers an hourly fee). More generally, a plaintiff can use alternative litigation financing to monetize his or her position in litigation—creating a separate asset class whose value can be “unlocked” by ALF at various stages of the process.¹³ ALF may allow a business to transfer a portion of its litigation risk (and potential recovery) to the financing source and redirect capital to more profitable pursuits, thereby improving both the balance sheet and income statements. For counsel, ALF can provide significant market advantages, such as enabling the firm to expand its practice into new areas and represent clients or use billing arrangements that are outside the firm’s traditional risk profile. Historical Patterns in ALF and What May Be Next ALF was first employed in personal injury litigation. Large patent-infringement cases, arbitrations, antitrust cases, and class actions appear to have dominated the ALF market over the past several years. For these types of cases, the funders typically invest substantial sums, from $2 million up to $15 million or more.¹⁴ These sizable investments remain in the financiers’ portfolios for an average of two to three years.¹⁵ But these traditional areas of alternative litigation financing have taken significant blows and may be less attractive to investors. Patent litigation has received well-publicized scrutiny from lawmakers, especially concerning so-called patent trolls, and reforms appear imminent. Similarly, recent court decisions—particularly the U.S. Supreme Court’s 2011 decisions in Concepcion and Dukes and 2013 decision in Italian Colors—have raised significant obstacles to antitrust and class-action litigation.¹⁶ These shifts may create an opening for litigation counsel to explore alternative litigation financing for lawsuits that are not traditional ALF fare. Of particular likely interest to financiers are lawsuits that involve smaller investments than the traditional ALF case; are likely to reach resolution within a shorter time period; may be valued more readily and predictably; may provide for an award of attorneys’ fees and expenses; and can be assembled, financed, and reviewed in a pool of similar cases in a timely and cost-effective manner in order to provide some diversification of risk. Construction-defect claims and insurance-coverage suits involving commercial property are two examples of dispute classes that may satisfy these criteria. To date, only anecdotal evidence is available. Counsel exploring alternative litigation financing in these new areas must understand that, as in any other financing arrangement, submitting a thorough package of information for the funder’s due-diligence review will be key in obtaining funding. A checklist for submission in insurance-coverage disputes would include information on counsel, any engagement agreement with the insured, potentially applicable insurance policies and other contracts, reports assessing property damage, correspondence with insurers and the client’s mortgage company, non-privileged documents analyzing the client’s claims and damages sought, an estimated litigation budget, and written confirmation from the client permitting counsel to share this material with the prospective funding source. For construction-defect matters, the checklist would include many of the same elements, plus detailed information about the alleged defects and the financial strength of the parties alleged to be responsible for the damages. As alternative litigation finance continues to evolve, counsel should be alert for new opportunities to enhance their practices and provide additional benefits to clients, while being mindful of applicable laws and their ethical responsibilities to clients and the legal system. Defense counsel should likewise be alert to the possibility that the plaintiff’s case is being financed by a third party and consider how that might affect the litigation. A version of this article originally appeared in the Summer 2014 Newsletter of the American Bar Association Tort Trial & Insurance Section’s Insurance Coverage Litigation Committee. Notes 1) See, e.g., Anglo-Dutch Petroleum Int’l, Inc. v. Haskell, 193 S.W.3d 87, 93 (Tex. App.—Houston [1st Dist.] 2006, pet. denied) (“Anglo-Dutch I”). 2) See Maya Steinitz, How Much is That Lawsuit in the Window? Pricing Legal Claims, 66 VAND. L. REV. 1889, 1893 (2013). 3) Charlie Gollow and Ralph J. Sutton, Litigation Finance: The Facts—Not the Fiction, BENTHAM CAPITAL 2 (Mar. 5, 2013), available at http://www.benthamimf.com/docs/default-source/default-document-library/litigation-finance-the-facts-not-thefiction-5-mar-2013.pdf?sfvrsn=14; Corporate Claims as an Asset Class, JURIDICA INVESTMENTS LTD., http://www.juridicainvestments.com/about-juridica/corporate-claims-asset-class.aspx (last visited Oct. 7, 2015). 4) See Mariel Rodak, Comment, It’s About Time: A Systems Thinking Analysis of the Litigation Finance Industry and its Effect on Settlement, 155 U. PA. L. REV. 503, 518-22 (2006). 5) John H. Beisner and Gary A. Rubin, Stopping the Sale on Lawsuits: A Proposal to Regulate Third-Party Investments in Litigation, U.S. CHAMBER INSTITUTE FOR LEGAL REFORM (Oct. 2012), available at http://www.instituteforlegalreform.com/research/stopping-the-sale-on-lawsuits-a-proposal-to-regulate-third-party-investments-in-litigation. 6) American Bar Association, Commission on Ethics 20/20, Informational Report to the House of Delegates at 4, 39 (Feb. 2012), available at http://www.americanbar.org/content/dam/aba/administrative/ethics_2020/20111212_ethics_20_20_alf_white_paper_final_hod_informational_report.authcheckdam.pdf. 7) Ass’n of the Bar of the City of New York Comm. on Prof’l Ethics, Formal Op. 2011-2 (2011), available at www.nycbar.org/index.php/ethics/ethics-opinions-local/ 2011-opinions/1159-formal-opinion-2011-02. 8) Christopher Bogart, Litigation Finance: An Introduction, BURFORD CAPITAL 4 (Aug. 16, 2013), available at www.burfordcapital.com/wp-content/uploads/2013/08/Booklet-Intro-to-Litigation-Finance-FINAL-Web-2013-08-16.pdf. 9) See ME. REV. STAT. tit. 9-A, §§ 12-101-07 (2007); OHIO REV. CODE § 1349.55 (2008); NEB. REV. STAT. §§ 25-3301-09 (2010); OKLA. STAT. tit. 14A §§ 3-801-17 (2013). 10) See n.1. 11) Anglo-Dutch I, 193 S.W.3d at 93; see also Anglo-Dutch Petroleum Int’l, Inc. v. Smith, 243 S.W.3d 776, 779 (Tex. App.—Houston [14th Dist.] 2007, pet. denied); Anglo-Dutch Petroleum Int’l, Inc. v. Littlemill Ltd., No. 14-06-00921-CV, 2007 Tex. App. LEXIS 7826, at 2 (Tex. App.—Houston [14th Dist.] Oct. 2, 2007, pet. denied); Patterson v. Pritchard, No. 03-10-00211-CV, 2011 Tex. App. LEXIS 6123, at 16-22 (Tex. App.—Austin [3rd Dist.] Aug. 4, 2011, no pet.) (citing Anglo-Dutch I and concluding an agreement that provided for an individual to receive a percentage of proceeds in exchange for his assistance in obtaining payment of notes was enforceable). 12) See Tom Adolph and Andrew Spangler, Ethics and Alternative Financing for Patent Litigation, in STATE BAR OF TEXAS, 9TH ANNUAL ADVANCED PATENT LITIGATION COURSE, Ch. 17 at 8 (noting that no Texas rule or model rule prohibits an attorney from referring a client to an ALF funder in which the attorney does not hold an interest, and that several ethics opinions from other states have concluded such referrals are permissible). 13) LexShares, What is Litigation Finance?, available at https://www.lexshares.com/litigation _finance_101. 14) Burford Capital Admission Document (Oct. 16, 2009), available at www.burfordcapital.com/wp-content/uploads/2012/10/burford-admission-document.pdf; Investment Policy, JURIDICA INVESTMENTS LTD., http://www.juridicainvestments.com/about-juridica/investment-policy.aspx. 15) See, e.g., IMF Bentham Limited, Financials & Track Record at 3 (2.4 years average case length), available at http://www.imf.com.au/about#track-record. 16) See, e.g., Moe Cain, AT&T Mobility Inc. v. Concepcion: An End to Class Actions? LEGAL FIN J. (Feb. 7, 2013). LYNDON F. BITTLE is a partner and the Insurance Practice Group leader at Carrington, Coleman, Sloman & Blumenthal in Dallas and former chair of the Insurance Coverage Litigation Committee of the ABA’s Tort Trial and Insurance Practice Section. He is board certified in civil appellate law. RICHARD A. BLUNK is managing director and general counsel of Thermopylae Ventures, a Dallas investment group with interests in alternative litigation finance and other investment opportunities.
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