Staking a bigger claim


Staking a bigger claim

Litigation funding, the practice by which a third party funds a costly litigation or arbitration case and receives a fee if the case is won, is increasingly a factor in claims inflation. Jon Steer, global head of claims at Aspen Re, highlights why this is a growing concern for reinsurers.

In a low interest rate environment, litigation funding has become a growth industry—a billion dollar industry that is reshaping jurisdictions across the world. Third party capital, looking for higher returns, has already impacted re/insurers’ top line potential and now also looks to be a factor in claims inflation.

Litigation funding structures have increased in size and complexity and a recent white paper, co-authored by Aspen Re and Clyde & Co, reviews the potential impact in key jurisdictions.

Litigation funding enables a costly litigation or arbitration case to proceed through the provision of financial resources by a third party. The litigation funder has no direct interest in the proceedings but, at the outset, agrees a fee if the case is won. This may comprise a percentage of the damages recovered or a multiple of the advance, or a combination of the two. If the case is lost, the funder will forfeit its financing funds.

Initially established in Australia, the funding of litigation has become increasingly common in the UK, the US and Canada, and is growing in Germany, the Netherlands and South Africa, among other jurisdictions. Although the industry is global, country boundaries define the use, form and impact of litigation funding in each jurisdiction and its potential growth.

Extracting a return

The impact of litigation funding goes beyond the introduction of capital to enable claims that might otherwise not have been pursued. Litigation funders are entrepreneurial and able to utilise their knowledge and experience in the extraction of a commercial return from the claims process. As a result, they have contributed to and accelerated the spread of different types of claims and litigation. Funders have linked with the American plaintiff bar, which is also exporting know-how and initiatives globally, and have been front and centre in some of the largest multi-jurisdictional claims against companies and directors.

The role of third party litigation funders has been a core part of the development of securities class actions in Australia, and has been pivotal in the development of collective actions against financial institutions and commercial entities and their directors and officers in England.

While many funders specialise in litigation funding, others may include the funding of litigation within a diverse investment portfolio. Funders may be backed by institutional investors (publicly listed or private), a permanent capital vehicle, a private equity or hedge fund, closed end funds (either dedicated to litigation funding or with funding as part of their operations) or a high net worth individual.

A future market?

It will be interesting to see whether the litigation funding market develops into the ‘litigation finance’ market many anticipate. It is increasingly regarded by corporations as an attractive alternative thereby liberating capital that would otherwise be tied up in the litigation process. Indeed, sophisticated users of litigation finance have been able to utilise a pending dispute/portfolio of claims as a contingent asset to raise capital.

Funders have diversified their investments and moved into new products, such as appeals hedging and monetisation. In addition, global judgment enforcement and the method of case funding has become increasingly creative. For example, they may fund part of the claim or only disbursements, and provide appeal and post-settlement financing (which bridges the gap between judgment and recovery of the settlement sum).

Funders are also increasingly looking at claims portfolios. Typically, such a portfolio is structured so that the funders’ outlay is added to the general amount outstanding in the event of a first case loss and can then be paid from the next successful case. There has been a growing trend of portfolio litigation funding in the UK, although the rate and spread of this type of funding is not uniform. There is, however, a growing industry for brokers who link litigants and investors and it is likely that there will be more direct funding to, and investment in, law firms, where permitted.

Plaintiff law firms and litigation funders jointly advertising for potential claims and recoveries following high profile events is likely to continue to develop. The Volkswagen shareholder litigation in Germany and the Netherlands has the potential to be a game-changer for litigation cultures in those countries. In contrast, the Royal Bank of Scotland Rights Issue Litigation in England originally grew out of ‘grass roots’ retail shareholder action groups, rather than the initiative of institutional investors. This contrasts with the UK shareholder action against Tesco.

The silicosis (lung disease) class action against the gold mining sector in South Africa is another example of funders and law firms spending considerable time seeking potential plaintiffs to join the class.

Although some litigation funders offer funding to defendants, this is not common due, in part, to difficulties around benchmarking success. Nevertheless, portfolio funding offered to law firms or corporations increasingly includes some defendant claims. Insurers may also look at litigation financing options for pursuing subrogation claims and some global law firms view this as a potential area for growth.

The growth of litigation funding has not been without its critics. The industry remains lightly regulated. Most countries have no legislative or regulatory provisions applying to the sector, and there have been calls for regulation in a number of countries to address issues such as control, registration and minimum capital requirements.

The use of litigation funding in class actions will continue to be an area ripe for further consideration by the courts around the globe and issues such as disclosure of funding agreements, the reasonableness of settlements and fee recovery remain hotly contested.

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