Litigation finance drives profits for private equity and venture capital firms and their lawyers
- Matthew Harrison
- Managing Director and Co-Chief Investment Officer - US
Lawyers representing private equity and venture capital portfolio firms understand that their clients routinely face important business decisions about whether to initiate meritorious litigation claims that could result in substantial recoveries.
Yet convincing their clients to move forward with litigation—no matter how lucrative it may ultimately be—is another matter entirely. The main culprit for this hesitancy is a simple one: PE and VC firms are loath to saddle their portfolio companies with the expense of litigation when that precious capital could be used to enhance a company’s operations or develop new products.
The very nature of complex litigation is enough to give private equity and venture capital investors pause. It is invariably prolonged and burdensome, not to mention inherently unpredictable. A single adverse ruling could obviate years of seemingly prudent legal outlays and dramatically diminish—or even wipe out—an expected recovery.
Omni Bridgeway offers law firms a solution to the scarce resource of investment capital for their PE/VC clients. In a nutshell, offloading the legal spend to a third party allows portfolio companies to pursue enterprise-defining litigation while utilizing PE/VC funding for their intended purpose: making the business thrive. Funding also helps reduce the unpredictability of litigation. Anticipating and ameliorating risk is an integral part of what litigation funders do. While every investment includes an element of risk, successful funders excel at assessing the value of potential cases, weighing the strengths and weaknesses of claims, and creating financing options to mitigate risk and improve the prospects of a significant return on investment.
Unlike equity investments or loans, litigation finance is non-recourse and funders do not have a management stake in the litigation, let alone the company. If a case is unsuccessful, neither the PE/VC firms nor their portfolio companies owe anything to the funder.
Immediate financial benefits
Omni Bridgeway offers the ability to assess the merits of cases across an entire PE/VC firm stable of companies and invest non-recourse capital in a portfolio comprised of those companies’ strongest potential claims.
Whether paying litigation fees and costs through the life of a single case or deploying capital to support pools of cases, litigation funding creates immediate financial benefits for portfolio companies and their PE/VC backers. For single cases, funders remove legal expenses from the financial statements as they are incurred. Without financing, this spend routinely creates a drag above the EBITDA line. For portfolios of cases, funders typically deploy capital in a large lump sum (or periodic lump sums) tied to the cumulative potential value of each litigation. These cash infusions are typically used to satisfy legal expenses, though they often contain a working capital aspect as well. This arrangement allows the company to book the capital infusion as a financial asset. And if a claim is successful, the portfolio company can record additional revenue, typically as an exceptional item, with a portion of the recovery going to the funder as a return on its investment.
Investing in several cases at once also allows the funder to significantly increase the level of investment it can provide. Funding from Omni Bridgeway has been used as additional working capital to meet operational needs, address short-term debt obligations, and retain key employees to ensure that the company can withstand the often-lengthy litigation process. And because the cases are cross-collateralized, the arrangement typically reduces both the risk to the funder and its pricing.
The funder’s involvement provides collateral benefits to counsel. It allows them to enhance their client relationship and potentially expand it across several pieces of litigation. Firms that are uncomfortable with the risks associated with a full contingency arrangement can build hybrid contingency stakes in a funding scenario. The funder covers a large portion of the firm’s hourly fees, but also allows the firm to take a portion of its fee on contingency. This gives the law firm the ability to share in the upside of a strong recovery and better aligns its interests with those of the client.
A selective approach
The first step in ensuring the success of a funding arrangement is identifying the right cases to support with non-recourse capital. Reputable funders like Omni Bridgeway are highly selective about the cases they finance.
Funders turn down funding opportunities for a host of reasons, but most often because the merits are not strong enough, the expected recoveries are insufficient to provide the funder with an adequate return while also providing the claimant with a fair share of the proceeds, a case is not large enough for investment, or the matter presents disqualifying collectability concerns.
Omni Bridgeway only invests in meritorious cases with strong merits and potential recoveries that will return an appropriate return to compensate for the risk of its non-recourse investment. As noted, ethical funders will not entertain funding arrangements that stand to satisfy their target returns at the expense of the claimant’s receipt of the lion’s share of the proceeds in reasonably foreseeable scenarios. Setting aside unique circumstances and adverse developments, Omni Bridgeway structures its transactions with the goal of the clamant recovering 50% or more of any proceeds.
Most of the leading funding companies employ teams of litigation experts—often former litigators from elite private law firms to assess and manage investments. At Omni Bridgeway, a group of more than 180+ specialists in law, intelligence, and finance assist in reviewing and managing litigation investments, advising claimants and counsel, and enforcing judgments.
Prior to investing in a case, the team conducts thorough due diligence on the merits. Each case requires a sophisticated understanding of the current legal landscape of the jurisdiction in which it is filed. Omni Bridgeway’s review provides the benefit of an unbiased, third-party analysis of claims. As such, it can help claimants validate their claims or make changes to improve their legal strategies.
Reputable funders in the United States do not assert control over the decision-making process in litigation, including (importantly) over the independent professional judgment of counsel. However, they can and do serve as a resource for claimants and the litigation team, providing strategic advice about the direction of litigation and helping ensure that cases move forward efficiently. Omni Bridgeway finds that both counsel and claimants greatly appreciate a second set of eyes on strategy from experienced lawyers who are deeply immersed in the case.
The investment management team can also help claimants review potential litigation before filing, to construct portfolios of meritorious claims. A portfolio investment approach substantially increases the level of capital a funder may invest, boosts the potential return on investment, and diversifies and cross-collateralizes the investment across several cases, thus helping reduce risk.
In addition, once an investment has been made, claimants can use the funding to engage top-notch counsel--a dynamic that invariably increases the probability of success. Omni Bridgeway has broad and deep relationships with top lawyers across the globe and with every expertise. If a claimant is in need of strong representation--or perhaps an enhancement to its existing legal team--Omni Bridgeway has the network to maximize a portfolio company’s potential for a substantial recovery.
Aside from assessing the merits of a case, funders also must determine whether the opposing party has a clear ability to satisfy a judgment or pay a reasonable settlement. The funder enters a funding relationship with the expectation under reasonably anticipated outcomes that it will recover both its invested capital and an appropriate return, that the claimant should recover the lion’s share of any recoveries, and that any investment partners (such as a private equity or venture capital firm), are able to exit the case in a timely fashion.
Parties often resist paying awards and judgments obtained in commercial and investment disputes for a host of reasons. Assets may be hidden or made otherwise inaccessible, and in cases where sovereign entities are involved, diplomatic issues may arise.
Any funder worth its salt should be well equipped to enforce judgments and take proactive measures to help prevent moves by an opposing party that may be designed to thwart recovery. For its part, Omni Bridgeway has an experienced global judgment enforcement team with a deep history of allowing parties to successfully collect on their judgments and awards.
To learn more about Omni Bridgeway’s litigation funding and enforcement capabilities, visit our Company Insights. While there, explore our recent podcasts, blog posts, and videos. Or contact us for a consultation for more information about the ways we can help you pursue meritorious claims.