Litigation funding: Levelling the playing field

Kobre & Kim’s Robert Henoch and Michael Ng discuss third-party financing.

Outward-facing Israeli companies often find themselves facing off against larger, deep-pocketed adversaries, such as joint venture partners, investors, distributors, customers, licensees, or those who have infringed on their intellectual property (IP) rights. When this happens, well-financed opponents can leverage the threatened expenses of the legal process in their home countries to destroy the rights of smaller Israeli companies. Third-party litigation funding offers a potential solution for Israeli companies to vindicate their legal rights under such circumstances.

In cross-border disputes – David v Goliath

As most well-seasoned executives know, the costs of foreign litigation and potential recoveries can reach stratospheric heights. Even a small US patent litigation dispute can cost $2m to litigate and disputes with over $25m at stake can costs well over $5m. As such, despite their success, innovators from the ‘Start-up Nation’ remain vulnerable when cross-border legal disputes arise.

While foreign companies in the tech and life sciences industries are multinational conglomerates, with significant resources and experience with litigation, Israeli companies in those industries tend to be smaller start-ups with no litigation budget, limited legal sophistication and no understanding of how to enforce their rights.

The solution: third-party litigation financing

Third-party litigation financing can help level the playing field. After tremendous growth in recent years, small companies now enjoy enhanced access to investment designed to help them through critical legal battles. Typically provided on a non-recourse basis in exchange for a share of the proceeds, litigation finance can be used to pay legal fees, other litigation costs and, in some instances, ongoing business expenses.

‘Despite their success, innovators from the “Start-up Nation” remain vulnerable when cross-border legal disputes arise.’

Litigation funding can mean the difference between a company folding due to the expense of litigation and that company preserving its legal rights. This is true in a broad array of disputes, including IP, contract, joint venture and trade secret matters going to the very heart of the company. For example, the benefits could be realised by an Israeli enterprise software producer facing off against an intransigent foreign licensee or a digital camera product start-up whose patents have been infringed in the US.

Securing third-party financing

Third-party funding is available for both court cases and international arbitrations involving a wide variety of legal issues. Companies seeking funding should first develop a deep understanding of the potential return, the strength of their claims, the time until pay-off and the possible avenues to recovery. Some cases are more resource-intensive, while others are amenable to resolution through lower-cost mechanisms for dispute resolution. Some cases can drag on for many expensive years, while others can be resolved following early rulings on key issues. Parties seeking funding are therefore wise to secure cross-border litigation counsel with experience in third-party funding to assist them in assessing cases and negating appropriate terms.

The funding process typically begins with the identification and vetting of potential legal claims, including the development of a strategy for enforcement in a venue with jurisdiction over the matter. To comply with legal restrictions, funders generally cannot exercise control over the litigation. Instead, their rights are constrained to receiving updates about progress in the case. Next, discussions with potential funders are held under a non-disclosure agreement, with a presentation of the legal background and proposed enforcement campaign. Many funders will engage in extensive due diligence, often requiring a period of exclusivity. To protect against harm from the delay that may result, it is important to identify the right funder in advance and ensure that the case aligns with the funder’s profile.

After due diligence, the parties will negotiate the terms of funding, taking care to adopt a structure suitable for the particular case. Funding is typically structured as debt that is secured by the proceeds of the litigation. In some disputes, the traditional contingency model is followed, with payment of all fees and costs in exchange for a percentage of the recovery. In other cases a line-of-credit model is used, with the funder entitled to a multiplier on amounts drawn down. In other models, the funder will stage its investment, with later funding rounds dependent on certain milestones being met. In most cases, the funders will require reimbursement of their investment from the first portion of the recovery, with subsequent portions of the recovery shared between the funder and funded party according to a formula or schedule.

There are pitfalls. Failure to match the funding structure to the litigation risks can diminish returns to the funded party. A company that seeks but fails to obtain funding can unwittingly and unwisely create a harmful record that serves as an obstacle to other opportunities. But when deployed wisely and on appropriate terms, litigation funding can be a powerful tool to leverage the otherwise inaccessible value of legal claims, and can result in substantial returns to small companies in Israel and elsewhere facing cross-border litigation with larger opponents.