Why Insurers Target Mid-Market Litigation

By Brett McDonald, TheJudge

There are many examples of litigation finance companies raising billions in capital and financing large securities, antitrust and arbitration cases. While these matters make headlines, they are not necessarily relevant to the majority of plaintiffs who may be interested in reducing litigation risk.

What benefit does litigation finance offer to the huge volume of commercial disputes where the damages are not in the $50m+ range, but are instead cases where the claim value is less than $10m? While many funders reject these cases, litigation insurance provides a solution for this large (and often overlooked) pool of plaintiffs.

Not A Fit For Funders

Cases below a certain size are less attractive to funders because they struggle to make the economics work. Many funders have a minimum damages-to-funding ratio, which provides enough room for the funder’s likely success fee, while not taking too great a share of the plaintiff’s total recovery so as to alter the plaintiff’s incentives. Furthermore, the expense and time of a typical funder’s due diligence process often prohibits the funder from looking at smaller deals. From an access to justice perspective, the commercial litigation finance market is useful where plaintiffs have a claim worth tens or hundreds of millions of dollars, but has been found to be somewhat lacking for commercial plaintiffs without such large claims.

Attorney Fee Insurance – An Alternative Option

Attorney Fee Insurance is a policy taken out by a plaintiff to provide an indemnity for the fees and/or costs of litigation (or arbitration). If the case is unsuccessful, the insurer reimburses the plaintiff for the insured legal fees and expenses up to the agreed budget. The premium for Attorney Fee cover can be structured in different ways, but a common structure is for payment of the premium to be contingent upon success in the case, meaning that the policyholder does not pay a premium upfront, and only pays the premium if they win the case (typically from the damages or settlement obtained). Structured this way, the premium is usually a fraction of what a litigation funder would charge for providing an equivalent amount of capital, given that the insurer does not have cash out for the life of the case. As a result, insurers can consider matters where the economics are not viable for traditional litigation finance.

While a novel concept to many US attorneys, this form of Litigation Insurance has been adopted in thousands of commercial cases throughout Europe over the past decade. Applications for Attorney Fee Insurance are generally made at the outset of the case; however, it is possible to secure cover at a more advanced stage in the proceedings, and with the potential to retrospectively insure fees and expenses already incurred. This can be useful for corporate claimants experiencing ‘litigation fatigue’ or ‘fee fatigue,’ particularly in cases which may have extended longer than originally envisaged, or gone over budget.

Case study:

TheJudge was recently engaged to secure Attorney Fee Insurance to cover $1m in attorney’s fees and costs for a small business client that is involved in an ongoing supply chain contract dispute. The value of the case is believed to be circa $5-$7.5m, which made the economics problematic for many litigation funders. The client had reasonable liquidity, but was keen to mitigate risk and also anxious to retain as much of the damages recovery as possible to offset business losses. The insurance covered the full $1m requested with a premium that was only payable if the client was successful in their action and recovered damages. The premium was also structured to include a discount on the amount payable if the case settled out of court.

The global litigation insurance market is growing increasingly diverse, with insurers maintaining a wide variety of deal requirements. Some insurers, for example, only consider opportunities where the level of coverage required is in excess of $2.5m, whereas others actively seek cases where insured limits (fees and/or costs) are between $500k to $2.5m. Insurers also typically look to achieve a wider portfolio spread than most litigation funders. While their returns per deal may be lower, insurers seek to reduce volatility by writing considerably higher volumes of deals.

These factors, namely, lower budget-to-damages ratio requirements, lower premium costs, and larger deal portfolio appetite combine to make Litigation Insurance a useful alternative solution for the full spectrum of commercial plaintiffs, including mid-sized cases which may not be viable for commercial litigation finance.

To the extent that cash-flow is also required as part of a deal, it is perfectly feasible (and relatively common) to combine both litigation finance and attorney fee insurance to deliver the optimal package for the plaintiff. The key is understanding the client’s drivers, whether cash flow, risk management or both, and thereafter devising the most economical solution by utilizing the increasingly diverse mix of available products.

Brett McDonald is VP and General Counsel at TheJudge, which specializes in litigation and arbitration, as well as international business transactions.

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