Imagine an entrepreneur starting a business: She has obtained the venture capital, developed the product, created the website, and started selling. Her balance sheet is slowly growing when she receives notice that a competitor has filed suit against her. The lawsuit alleges trademark infringement and unfair competition, and the plaintiff is seeking injunctive relief and damages in the millions. The entrepreneur panics. While she doubts that the lawsuit has strong merits, the cost of defending it would require her to use all of the venture capital financing she obtained, and she doubts her business could survive until the end of litigation.1 Where should she turn?
She might consider turning to a new industry that is developing in the United States: defense-side litigation financing. In exchange for providing the financier a promised rate of return if the litigation is successful, the business can obtain funding to fight the lawsuit and transfer the risk, even if slight, of an unfavorable judgment. With the availability of defense-side financing, the business can continue growing while fighting the litigation.
As the example above shows, defense-side financing can provide a valuable service by filling a risk management gap that has long been overlooked: litigation risk. Litigation-financing companies are actively seeking new investment opportunities,2 including defense-side arrangements.3 Despite the growing availability of investor funds for plaintiff-side litigation financing, defense-side financing has yet to take off in the United States. This is contrary to what one would expect given the large amount of money available for investing in litigation.
Professor Jonathan Molot first called attention to the potential market for defense-side litigation financing in A Market in Litigation Risk.4 Molot noted that clients often fail to treat litigation risk like other types of business risk “because lawyers cling to their traditional role as agents for risk-bearing clients” instead of working in fields that “look[ ] at risk as a profit opportunity rather than an evil to be avoided.”5 The article described some of the costs imposed as a result of this market failure and argued that a market in defense-side litigation financing is feasible.6 Molot wrote the article in 2009, but the litigation risk-transferring and risk-pooling mechanism he advocated has yet to flourish.7 Part of the reason that this market has been slow to develop is that potential clients, companies that need to off-load the risk of a litigation event, do not fully understand the new financing opportunity, its potential benefits, or the terms likely to be associated with such an arrangement.
This Comment builds off of Molot’s article and seeks to alleviate these persisting market barriers by highlighting the potential benefits of consumer defense-side financing and explaining a typical framework for such contracts. This way, defendants considering an alternative financing arrangement will have a better idea what to expect from litigation financing. Part I provides a general introduction to litigation financing. Part II then describes defense-side financing in detail and highlights the various benefits it can provide. Finally, Part III explains a common framework for structuring defense-side agreements.
- 1. For an example of this type of scenario, see Colleen Taylor, Fab Sues Flash Sales Site TouchOfModern for Alleged Trademark Infringement (TechCrunch, Aug 15, 2012), archived at http://perma.cc/3QKR-44D6.
- 2. The market view on the litigation-financing industry as a whole, including plaintiff and attorney financing, is bullish due, in part, to the increased demand from clients, from law firms, and from the increased desire of investors to seek uncorrelated investment opportunities. See, for example, Chris Bogart, The Year to Come in Litigation Finance (Burford Capital LLC, Jan 25, 2016), archived at http://perma.cc/HC56-WRLX (discussing the positive developments in litigation financing in 2015); Edmond Jackson, Stockwatch: A Growth Share Defying the Market Plunge (Interactive Investor, Jan 19, 2016), archived at http://perma.cc/SXD7-BJ6P (noting how the countercyclical nature of litigation financing has helped the share price of Burford Capital, a publicly traded litigation-financing company); Gerchen Keller Launches New Fund, Secures Status as World’s Largest Legal Finance Firm (PR Newswire, Jan 6, 2016), archived at http://perma.cc/8USY-RPWS (discussing the growing demand for Gerchen Keller’s business in litigation financing).
- 3. In a defense-side financing arrangement, a litigation-financing company, typically a partnership of various capital providers, agrees to fund a client’s defense in exchange for future payment. The financing arrangement occurs after the litigation has already begun, and the defendant pays the financier a return on the investment only if the litigation is “successful.” For more detail on such arrangements, see Part III.A.
- 4. See generally Jonathan T. Molot, A Market in Litigation Risk, 76 U Chi L Rev 367 (2009).
- 5. Id at 369–70.
- 6. Id at 373–75.
- 7. See Nick Rowles-Davies, Litigation Finance: The Case for the Defence (Global Legal Post, July 24, 2015), archived at http://perma.cc/2JT4-VDQY (noting that “defence funding isn’t common, even among the best-known litigation financiers”); Maya Steinitz and Abigail C. Field, A Model Litigation Finance Contract, 99 Iowa L Rev 711, 725 (2014) (noting “the nonexistence, at the moment, of a market in defenses”).