This article by LexShares’ co-founders Jay Greenberg and Max Volsky was first published on Law360 and is available here.
The year 2017 was undoubtedly a landmark year for litigation finance. By all measures, last year’s story has been one of growth: A major consolidation of two leading players saw record deployments for the combined entity, while market participants in both the U.S. and U.K. enjoyed robust capital inflows with broad mandates to acquire litigation-related assets across all markets. On the demand side, expanding adoption by BigLaw coupled with increased coverage from both the media and financial institutions has catapulted litigation finance to mainstream status. Litigation funding is no longer just accepted but increasingly viewed as an integral part of the global legal system.
At the same time, litigation finance companies have continued to refine their products and business models to take advantage of emerging trends in the legal industry, which has forced law firms large and small to rethink their traditional billing models. But as litigation finance continues to mature, new challenges and opportunities will invariably reshape the industry through the coming years, leaving an increasing number of funders to consider the forces driving these changes and what they should do to prepare for them.
We expect the industry’s ascent to continue in 2018 as investor appetite for this asset class grows. As the industry sees increased adoption by law firms of various sizes while continually generating attractive risk-adjusted returns for their backers, investors who are drawn to the chance to diversify their portfolios with uncorrelated assets will continue to deploy capital into this space. With their augmented war chests, U.K.-based funders will intensify their efforts to enter the U.S. market by establishing a local presence, albeit not always successfully.
As the industry evolves, funders will vie to become dominant leaders, seeking to cement their market presence, while extending their reach into novel products and new markets. In addition to greater activity in Western Europe, funding companies will rush to capitalize on emerging opportunities, primarily international arbitration in Singapore and Hong Kong, two financial centers that recently liberalized access to litigation finance.
From our vantage point as a platform making litigation finance accessible to a diverse set of participants, we have analyzed emerging trends in the industry based on conversations with our investors and leading executives in this sector. It is against this backdrop of continued growth that we focus on five important litigation finance trends to watch for in 2018.
A Deeper Bench
A confluence of several trends stands poised to increase the overall level of sophistication and deepen expertise in the litigation finance industry in 2018. The entry of new funders, coupled with the growth of existing market participants, has created a demand for litigation finance professionals and wider acceptance of litigation finance as a career. As the industry continues to mature, new opportunities for seasoned legal and finance professionals will expand on both continents. Indeed, litigation finance is now considered a desirable career alternative to BigLaw as seasoned lawyers vie for coveted positions with funding companies, strengthening the level of expertise across the industry.
At the same time, law firms are bringing litigation finance experience in house, with several firms hiring litigation finance professionals to help them navigate future deals and respond to increased demand from clients for financing options relating to their claims. We expect BigLaw’s in-house litigation finance resources to grow significantly in 2018.
Increased Transparency and Standardization
Increased transparency and standardization will contribute to industry growth. Funders, even those who are private, may provide more data regarding ownership, funding capacity, volume and number of deals transacted. The industry is not far from establishing “league tables” for litigation finance transactions to help recipients of funding determine which funders are both active and the right fit for their funding needs.
On the transaction side, funding structures and documentation will become more standardized as the volume of transactions and market participants increases. While the industry still has a long way to go until deal documentation becomes "open source" like venture capital funding documentation, BigLaw may soon offer claim funding templates to their clients while increasingly aligning their legal services engagement forms with the requirements of litigation finance transactions.
Entry of Mainstream Financial Institutions and Growth in Secondary Market Transactions
On the investor side, as litigation finance evolves into a mainstream asset class, diversified investment managers will look to add litigation finance exposure to their portfolios. The industry, therefore, is expected to attract a more mainstream audience as established financial institutions and large multistrategy asset managers alike continue to look for entry points in the litigation finance market. Without dedicated in-house litigation finance teams and access to deal flow, these larger institutions will primarily operate in the space through broker models by seeding other funders while remaining in control of the investment process, either by providing nondiscretionary capital or requiring veto power over investment committees.
As the number of participants expands, secondary transactions will become a more common means of achieving returns and liquidity for funders. Previously limited by a small number of buyers and distressed sellers who needed to sell assets at significant discount, secondary transactions in 2018 will continue to evolve into a way for incumbent funders to manage their overall cash flow volatility, rebalance their portfolios, and fine-tune their exposure to different types of litigation finance products. New buyers of litigation finance assets will be drawn to secondary transactions by the transparency, valuation and potential diversification benefits of purchasing pre-existing portfolios and individual claims.
Industry consolidation will also continue in 2018 as leading funders grow their global infrastructures, build scale and establish barriers to entry by protecting their customer base, proprietary resources and technology. Incumbent industry participants will expand their core businesses and product offerings through acquisition as they strive to outpace rapidly mounting competition. As new funders enter the space, some will inevitably falter due to lack of discretionary capital as well as underwriting and structuring expertise. This activity will create a burgeoning service industry as funders look to both enter and exit the space.
Technology will also play a larger role in 2018. With escalating competition for high quality deal flow, case origination technology will become a necessity for funders to source deals and deploy capital at scale. Case origination platforms will enable funders to quickly filter large cohorts of filed cases and vet fundable claims more efficiently. Similarly, artificial intelligence and big data-enabled tools will further facilitate case research and analysis. Underwriting and claim selection, however, will remain the province of human analysis and decision-making. Even the most sophisticated systems will still be unable to handle the complexities of law and changing nuances of each individual matter with the proficiency necessary to make truly meaningful funding decisions.
Jay Greenberg and Max Volsky are co-founders of LexShares Inc., a litigation finance platform enabling investments in commercial legal claims. LexShares was founded in 2014 and has offices in Boston and New York.
This article may contain “forward looking statements” which are not guaranteed. All investors should make their own determination of whether or not to make any investment, based on their own independent evaluation and analysis. Investment opportunities posted on LexShares are offered by WealthForge Securities LLC, a registered broker-dealer and member of FINRA / SIPC. LexShares and WealthForge are separate entities. Private security transactions involve a high degree of risk, are illiquid, may have a long hold period and are not suitable for all investors. Investments in litigation are speculative in nature and may result in loss of entire principal.