Turning to Litigation Finance in Uncertain Times

April 01, 2020
Group photo - economic downturn

Predictions of a global recession in the near future appear increasingly accurate as short-to medium-term economic shifts—revenue uncertainty leading to a liquidity shortage—are having an impact. Widespread concern around the future state of the global economy has law firms and other businesses alike ringing alarm bells. No matter the cause of the economic uncertainty, litigation finance can help moderate risk and better position recipients to weather an economic downturn.

Benefits for Businesses

For the vast majority of businesses that do not have the benefit of diverse, counter-cyclical revenue streams, the value proposition of litigation funding is acute: with no reasonable estimate available as to when we will return to “normal” conditions, litigation funding can provide much-needed capital to keep businesses functioning during abnormal times. 

While it’s true that bank lending rates have dropped, traditional financing requires the borrower to make regular payments regardless of future financial conditions—which may be an unpalatable arrangement in the face of so much revenue uncertainty. Litigation funding, by contrast, only requires payment in the event of a future success in the dispute. Thus, while the returns required on the financing provided are higher than what is typically sought by a lender offering a traditional recourse loan, litigation finance offers some significant risk reduction along with existing liquidity preservation benefits that traditional financing does not.

The benefits of litigation funding over traditional financing for businesses can run even deeper. By treating litigation claims as collateral, litigation funders can offer businesses financing by, in essence, monetizing a new class of assets that traditional financing typically overlooks (and that businesses typically treat as a cash-drain instead of an asset). Moreover, the accounting benefits of litigation funding may be especially helpful when quarterly profits are looking bleak: businesses can recognize litigation funding (which, depending on the size and strength of its affirmative claims, may be used as working capital for any number of expenses by the business) as revenue long before the claim is finally adjudicated. And, of course, the legal fees are no longer recurring costs on their ledgers because the funder is covering those expenses. Instead of its traditional treatment as a years-long drag on profits, strong affirmative litigation or arbitration claims can be converted into assets, with the potential for an even greater upside from a large future recovery.

Benefits for Law Firms

According to a recent Law.com article, a continued economic downturn could have a negative impact on law firms’ bottom lines in two ways: reduced demand for services and “increase(d) clients’ resistance to increases in billing rates.” With increased billing rates serving as a catalyst for recent revenue growth, the tea leaves are pointing toward a more difficult legal market.

Historically, large law firms have relied on diversifying their practice areas in order to maintain performance in a down economy: while corporate departments might tail off during a recession, litigation and bankruptcy departments can pick up the slack. As the swath of layoffs triggered by the Great Recession of 2008 illustrated, however, sometimes traditional diversification is insufficient to ensure a healthy bottom line.

Litigation finance can help ease fears of both uncertain revenues and a cash crunch—and with less risk than traditional financing because litigation finance typically requires repayment only in the event of a successful outcome. When a law firm takes on traditional debt financing, partners may be forced to use their own personal assets as collateral (e.g., personal guarantees). This proposition becomes especially dicey during a down market when uncertainties are high and margins are thinner. By partnering with a litigation funder, law firms can maintain financial flexibility by using the anticipated fees in their strongest cases as collateral—a particularly helpful solution because litigation typically ramps up during economic decline. 

Litigation funding adds flexibility in another way, too: it allows law firms to be strategic about their business decisions (including perhaps considering strategic hiring from competitors) by giving them access to working capital. With increased capital during uncertain times, law firms can worry less about future revenue projections and focus more on winning cases for their clients.

Learn more about how litigation financing can help your company or law firm by contacting us for a consultation. And visit our Litigation Finance Education Center to find information about the CLE seminars we offer to companies interested in working with funders and our recent client podcasts, blog posts, and videos.