The Coming Scandal in Litigation Funding

The rise of litigation funding is by now well-documented.  Hedge funds and a wide variety of other financial players see litigation finance as way to generate returns for their investors that are uncorrelated to their other holdings, such as stocks, bonds, and commodities.  For clients in divorce, business litigation, and class actions, litigation funding can level the playing field when litigating against well-healed adversaries.  A growing number of law firms see litigation funding as increasing their capacity to handle a wider range of cases.  As with many markets that are entering their growth phase, the benefits of litigation funding are becoming more visible and widely accepted.  It seems like a win-win for all involved, and that perception has played a part in fueling the growth of litigation funding.

There are, however, several problematic issues that aren’t garnering the attention that they should.  First, there is some evidence that courts will scrutinize litigation funding arrangements if given the opportunity to do so.   In January 2017, the United States District Court for the Northern District of California proposed a new rule that would have required disclosure of litigation funding arrangements in all cases. After a period of public comment, the final version of  Civil Local Rule 3-15  was scaled back to require such disclosures only in class-action cases. At present, other courts have not gone down the road of requiring mandatory disclosure of litigation funding agreements. And at least two federal courts have split on whether to permit discovery relating to the terms of litigation funding agreements.

It seems probable that some courts will have no choice but to intervene and examine the details of litigation funding agreements.  This is because litigation funding is based on a fundamental contradiction.  On the one hand, legal ethical rules make clear lawyers may not split fees with non-lawyers, and lawyers must maintain control of litigation. On the other hand, how reasonable is to expect that a litigation funding company will provide hundreds of thousands if not millions of dollars without in essence calling the shots in the litigation?

Moreover, as more litigation funding companies enter the market and more law firms and parties to litigation use their services, it is inevitable that some companies will cut corners.  And there are many corners that could be cut.  For example, when enough money is at stake, and when litigation funding companies feel pressure to keep their investors happy, there will be incentives for litigation funding companies to pay undisclosed payments for referrals.  And inevitably some law firms will feel that the litigation company failed to deliver on their promises, and some clients will conclude that they were duped into entering a litigation funding agreement. It doesn’t require a crystal ball to see that, as litigation funding grows, litigation over litigation funding will also become more prevalent.  As a former litigator, I know that litigation isn’t the same as a scandal. Some percentage of all business deals go bad and become the subject of litigation.  That will also happen with litigation funding.

The scandal will come into play when it becomes clear that in some circumstances the lawyers did abdicate their professional responsibilities and let the litigation funding company call the shots to the detriment of the law firm’s client.  Some in the legal profession will profess to be shocked by such conduct and in extreme cases lawyers will be disbarred for their involvement in such arrangements.   We will act surprised, but we shouldn’t be.  The coming scandal in litigation funding is going to happen.