Make No Mistake, Litigation Finance IS Impact Investing!
Executive Summary
Litigation finance is instrumental in driving societal, environmental and governance change
The industry has yet to position itself as an Impact Investing asset class
There are few other financial industries that drive similar societal benefits through the application of finance
Investor Insights
When assessing portfolios, look beyond the financial returns and focus on the social impact of the various pieces of litigation supported by the manager
Returns can be tangible (financial) and intangible (societal) and this is an asset class that exhibits both
Litigation finance should be viewed and characterized as a form of Impact Investing for purposes of investors’ portfolio allocation
From the first time I was introduced to litigation finance, be it consumer or commercial, I was quite surprised by the case studies. What surprised me was not the outcome or the quantum of damages or the amount of profit being made by lawyers or litigation funders. Not at all. What surprised me was the behaviour of the people involved on the defense side (typically) of these cases, and how blatant some of the actions of the defendant were as it related to the damages caused to the plaintiff (some of which I have highlighted here on the Slingshot blog). Not being a litigator and not having experienced the dark underbelly of corporate litigation, I was somewhat surprised by the cavalier attitude that some folks had as it related to breach of contract, trade secret misappropriation and similar legal issues. Yes, it was the social justice aspect of litigation finance that first appalled and then attracted me to the sector, closely followed by the return profile (I am a capitalist after all). This article discusses the nature of litigation finance and why it is ideally suited to be considered an Impact Investing asset class.
So, what is Impact Investing?
It seems like the financial industry is constantly trying to put new monikers on investment strategies to appeal to different segments of investors and to differentiate their products. The term “Impact Investing” is the latest in a trend of investment branding that has had strong appeal with a segment of investors, including Foundations, Endowments, Pension Plans, Family Offices and High Net Worth individuals who traditionally focused their efforts on investments that drove strong absolute returns. Before Impact Investing, there was Socially Responsible Investing and Environmental Social Governance (“ESG”) Investing, Green investing, Social Investing and so on. For the remainder of this article I will refer to Impact Investing as a catchall for these references, even though each have nuanced differences.
The Global Impact Investing Network (“GIIN”), a UK based non-profit organization dedicated to Impact Investing, defines the amorphous term as “any investment into companies, organizations and funds with the intention to generate social and environmental impact alongside a financial return”. As you will see from the many examples below, the underlying investments of many funders fall squarely into the Impact Investing mandate.
The Case Studies
The first case that hit home for me was Joe Radcliff vs. State Farm, whereby Joe identified that the insurance company was not treating like claims equally, so he decided to let the state regulator know. This one action, which was pure in its purpose to protect consumers, set off a chain of events that ultimately led to fourteen felony counts laid against Joe’s roofing business and its eventual demise. Well, almost. While 385 of 400 jobs were ultimately eliminated in short order due to the actions of an overzealous insurer, Joe’s business was able to live another day thanks to the litigation finance provided by Bentham IMF. Ultimately, Joe was able to restart his business, and more importantly, the defendant (oddly, the plaintiff in this case) was forced to pay $17 million in damages and interest.
At a September 2019 LF Dealmakers Forum conference, Boaz Weinstein from Lake Whillans guided the audience through an interesting case involving a software company named Business Logic that was decimated by the actions of one of its former customers who decided to copy their software in contravention of their supply contract. Business Logic ultimately settled for a reported $60MM amount. That business now lives on as Next Capital, and employs 150 people thanks to the efforts of the plaintiff, plaintiff’s counsel and litigation finance.
Then there is the case of Miller UK vs. Caterpillar, which contains a somewhat similar fact pattern to Business Logic, whereby the actions of a former customer (contract breach and trade secret misappropriation) almost led to the demise of the business resulting in 300 of 400 employees being terminated. With litigation finance provided by Juris Capital LLC, Miller fought back and ultimately won a $75 million award. The business has gone on to rehire many of its former employees and recently celebrated its 40th anniversary. The company has set a target of £50 million in revenue over the next five years.
While these cases are poignant, one may conclude that as commercial cases, this is simply the cost of doing business (I respectfully disagree). However, to put a finer point on the social justice aspect of litigation finance, I will turn your attention to other cases which are more closely associated with Human Rights litigation.
Litigation Finance as Human Rights advocate
Litigation Lending Services provided financing to a class action case commonly referred to as the “Stolen Wages” case in Queensland, Australia. In brief, the Stolen Wages case involves the theft of wages from 10,000 First Nations Queenslanders who, from 1939 to 1972, had their wages withheld under discriminatory Protection legislation named the Queensland “Protections Act”. Essentially, the indigenous community were forced to turn over their wages to the state, and in turn through a series of Superintendents, those monies were supposed to be paid to the indigenous community members. Unfortunately, this never happened, and a significant sum of the monies were used to fund Queensland government initiatives. Recognizing the severity of the issue, the Queensland government created a Stolen Wages Reparations Scheme which was designed to compensate its victims, but the class action argued the compensation was insufficient. The Class was ultimately awarded AU$190 million plus costs as further reparations.
Similarly, IMF Bentham is pursuing multiple class actions involving PFAS, a man-made chemical compound that was utilized in many industrial processes and products, including fire fighting foam. In these Class Actions, local residents and business owners are seeking compensation for the financial losses they have suffered as a result of the contamination, in particular (i) reduction in property values and (ii) damage to business interests such as farming, fishing, tourism and retail amongst others.
Recently there have been some more specific developments with respect to Impact Investing and litigation finance. Burford announced its “Equity Project”, which has been “designed to close the gender gap in law by providing an economic incentive for change through a $50 million capital pool earmarked for [litigation finance matters] led by women”.
There is also at least one UK-based fund, Aristata Capital, that has a specific social impact mandate which is described as “…dedicated to driving positive social and environmental change with an attractive financial return”.
In the personal injury litigation finance market, almost every single case involves an individual who has suffered damages (typically physical) whereby their lives have been turned upside down and litigation finance has provided some semblance of normalcy while the plaintiff embarks on the long, arduous task of pursuing damages, typically from a large insurance company.
So, should litigation finance be considered “Impact Investing”
No one likes litigation (except maybe the litigators), but litigation itself is not necessarily a bad thing. The structural problem that most capitalist systems have, is that inevitably there are large corporations with (a) significant balance sheets and access to capital, (b) access to some of the best and brightest lawyers, and (c) time. Large corporations are also driven by shareholder returns like never before, which puts increased pressure on managers and executives to deliver shareholder value; some take that to heart by adjusting their ethical compasses accordingly. One way to deliver shareholder value is to cut corners and hide behind balance sheets and lawyers, which is an unfortunate consequence of business in the twenty-first century. Executives understand the power their large corporations have, and are prepared to deal with the consequences of their decisions regardless of whether those decisions are ethical. What’s more, the ultimate cost of litigation may pale in comparison to the equity value created by the decision. Accordingly, the frequency and cost of litigation has been driven upwards for decades, resulting in an unlevel playing field for large corporations. In short, the system is making the problem it created worse through compounding costs.
The concept of litigation was designed to help right wrongs, and the above examples illustrate that it has been quite effective in doing so. Litigation finance helps facilitate many of these cases through the provision of capital, albeit risky capital. Managers and investors in the asset class can hold their heads high knowing that their investment monies are going to support cases like those mentioned above, where there has been a material and blatant decision made by one entity to damage another. I can’t think of another asset class that is more impactful than litigation finance in terms of seeking justice and ensuring the companies and individuals that have been damaged at the expense of another’s actions are compensated. Forget the investor returns, the societal benefits are even more compelling!
So, if you are an allocator within a pension plan, endowment, foundation, family office or high net worth individual, or a consultant to one of these investors, ask yourself if there is anything in your portfolios that even comes close to the positive societal impact provided by litigation finance (coupled with the financial returns). I think you will be hard pressed to find many examples. Investors need to change their attitude toward litigation finance, wipe away the negative patina associated with litigation, and start to appreciate how it is an asset class that is benefiting society – perhaps it has even benefitted someone you know.
The Life Settlements industry (i.e. the purchase of life insurance policies from beneficiaries to assist in funding healthcare costs, or simply to monetize the value of their policy) has incurred a similar struggle as that of litigation finance, because the former is considered to be in the business of “death”. This connotation is quite misleading, as Life Settlement providers are in the business of providing financial options to policy holders that insurance companies won’t offer (little known fact - about 80% of life insurance policies lapse, which means the insurer has very little costs to apply against the decades of premiums they receive, making the provisioning of these policies very profitable). Similarly, the litigation finance industry is also in the business of providing options in the form of capital to injured parties to allow them to pursue their meritorious claims.
If one considers the impact litigation finance has had in its first few years of existence, one can start to imagine the fundamental impact it may have on society and the way in which corporations think, act and govern themselves. One could argue that litigation finance may even be its own worst enemy. If litigation finance as an industry is successful, then taken to its logical conclusion, there is a scenario where litigation finance is so effective that it changes the way in which corporations make decisions, as they strive to ensure that their decisions are not adversely and illegally damaging other businesses and thereby diminishing the need for litigation finance altogether. Call me a skeptic, but I don’t believe human behaviour, regardless of incentives, will ever change that significantly, and so I am going to continue to invest in litigation finance.
The importance of being an “Impact Investing” asset class
Clearly, Impact Investing is a significant trend as the following statistics will attest.
According to GIIN – currently $228 Billion in impacting investing assets, double that of LY
According to RiA Canada – Impact Investing has had 81% growth over 2 years
JP Morgan - over the next 10 years Impact Investing will encompass $400 Billion to $1 Trillion in invested capital
Graystone (Morgan Stanley) has created the Investing with Impact Platform, and also has $5B in institutional assets in the non-profit area alone
Every single wealth management firm, including Blackrock, Morgan Stanley & UBS, to name a few, have recognized that making a difference is becoming increasingly important to the investor community. So, for a nascent industry looking to ‘stand out from the crowd’, and given the demand for Impact Investing and the inherent societal benefits associated with its service offering, the industry is best served by ensuring litigation finance is included in the Impact Investing conversation, which would be a critical role for an industry association to assume.
I encourage all members of the litigation finance community to start talking about the industry in the context of an “Impact Investing” asset class, as the industry is instrumental in making positive changes for the benefit of society, the environment and governance, as the above examples strongly illustrate.
Investor Insights
There is no doubt that litigation finance, whether consumer or commercial, should clearly qualify as a form of Impact Investing. The benefits derived from the asset class extend well beyond financial returns and allocators should assess both tangible and intangible impacts of the asset class as part of their investment review. I believe that litigation finance is an important component of an investor’s Impact Investing portfolio and investors should not be dissuaded by those who argue otherwise (like the Institute for Legal Reform), the proof is in the outcomes of the cases that litigation finance supports.