In the Business of Litigating: Legal and Ethical Concerns Facing the Commercial Litigation Financing Industry

Wednesday, April 5th, 2017 at 1:12 pm, by Danielle Arthur

It is no secret in both the legal and business communities just how expensive litigation can be. In 2015, larger US companies were maintaining, on average, a litigation budget of roughly $11.6 million in order to cover their expected costs for the year. The changing nature of litigation, particularly the rise in scope of e-discovery, has resulted in an uptrend in these numbers in recent years. As companies are increasingly finding these costs to be too excessive, they are looking for alternative ways to fund disputes that may arise in the course of their business practices.

As a result, we have seen the proliferation of commercial litigation financing firms in recent years. The business model is relatively simple: identify clients with pending litigation matters that have meritorious claims and high rates of success and provide the capital needed to see the case through, profiting based on how much was invested if the case is won or settled. In practice, though, the procedure is much more complex as these firms must conduct a detailed analysis in order to determine the merits of a case and, subsequently, their investment risk. Commercial litigation finance firms are not in the business of taking advantage of vulnerable, individual tort claimants in dire need of the cash stream to even begin their trials. Rather, these types of firms are investing in complex litigation for large clients. Oftentimes these clients would still be able to fund the litigation on their own, if needed, out of budgets and reserves for that purpose. However, the interest of a commercial litigation finance firm in their case allows them to free up that capital for other purposes, providing much less of a risk than if they took on the financial burden on their own.

The market is large, with assets growing for some of the biggest players. New York-based Burford Capital, operating in this area since 2009, now has $1.2 billion in investments and commitments after it recently acquired Chicago-based competitor Gerchen Keller. Financial firms such as Burford are able to attract the business of both companies and law firms by offering substantial capital, expertise, and the ability to operate quickly. These firms will step in at any stage in the litigation or settlement to see things through to completion. And business seems to be booming over at Burford, as the company recorded a 75% increase in profits for 2016.

The statutory rules governing the practice of litigation finance vary widely from state to state, though most states allow the practice in one form or another. One major area that has left open questions in the minds of the parties seeking one of these arrangements is the extent to which attorney client privilege and the work product doctrine will protect the information shared with a financing firm in pursuit of their diligence. In analyzing which claims are worthy of investment in, litigation funders will need to receive certain information from their potential clients about those claims. Normally, disclosure of confidential information to a third party waives protective privileges, opening up the party seeking financing to undesired use of that information down the road. While case law on this matter is severely limited, the use of a non-disclosure agreement in place prior to the sharing of information can help afford protection. Additionally, most reputable litigation funders will only seek information from potential clients that falls under the work product doctrine, as opposed to solely attorney-client privilege, as waiver under work-product is harder to achieve. It becomes key for lawyers to carefully monitor the solicitation of information by potential funders in order to ensure that their clients’ confidential information remains protected.

Another area of question that litigation funders have faced is whether or not their practices raise ethical concerns under the legal community standards. In a white paper published by the ABA’s Commission on Ethics, it was posited that, while not an outright ethics violation, the use of alternative funding for litigation requires lawyers to be especially mindful of Model Rule 2.1 and their duty to exercise independent professional judgment while advising their clients. If the economic influence of a third party financial contributor would interfere with such independent judgment, a lawyer may face disciplinary action or even the risk of a malpractice claim. In addition, the Commission states that it is a lawyer’s duty to make sure her clients are fully aware of the risks associated with third-party litigation financing, even if that means that the lawyer needs to undergo training herself if she is new to this type of practice. Very recently in Delaware, the court did some work in helping to alleviate the ethical concerns of litigation financing by stating that Burford Capital’s provision of plaintiff funding in a recent lawsuit did not constitute “improper meddling” in the case at hand. 

As the practice of commercial litigation financing continues to clear ethical and confidentiality hurdles, we can expect to see that the market power of firms engaged in this type of work will continue to grow. With access to justice being a fundamental concern of the American legal system, the rise of litigation finance firms helps to ensure that this need is filled, at least for those with strong cases, particularly in the commercial context. If the evolution of the practice is as successful as is anticipated, it is possible that the future can contain a similar market to assist poorer individuals in getting this kind of assistance, in the sector of society where access to justice is of most critical concern.