At yesterday’s 2nd annual IMN Conference on Litigation Finance, a crowd of industry participants, experts, and interested parties gathered at The Union League Club in Midtown Manhattan to discuss key topics facing the industry. One of the more interesting back-and-froths took place during the first panel, where some light was shed on litigation funding’s overlap with ATE insurance, and how even countries like the US are getting in on the ATE act as a form of overall risk reduction.
An LFJ Conversation with Michael Kelley, Partner, Parker Poe
At yesterday’s 2nd annual IMN Conference on Litigation Finance, a crowd of industry participants, experts, and interested parties gathered at The Union League Club in Midtown Manhattan to discuss key topics facing the industry. One of the more interesting back-and-froths took place during the first panel, where some light was shed on litigation funding’s overlap with ATE insurance, and how even countries like the US are getting in on the ATE act as a form of overall risk reduction.
The first panel of the day covered a broad array of topics, including growth in the US market (spoiler, there’s plenty), growth in the international market (ahem, IA in Asia takes the cake here; although the Nordic countries in Europe were also mentioned as areas of growth), and ethical hurdles facing the industry (it rhymes with ‘Schmandatory disclosure’).
But perhaps the most interesting segment of the panel focused on the relationship between litigation finance and ATE insurance. ATE – or ‘after the event’ insurance – is a product typically offered in cost-shifting jurisdictions like the UK, to protect plaintiffs from having to fully cover an adverse costs award.
Jo Burgess, Strategy and Operations Director at UK-based Affiniti Finance (and soon to be an LFJ Podcast guest), explained that ATE insurance has actually been around for much longer than people realize – going on 20 years now. Often times, ATE insurers don’t understand the nuances of the law, and how to properly assess risk in the Legal Services environment. As a result, litigation funders like Affiniti end up working very closely with ATE insurers to help them assess their risk pools and underwrite claims. In some cases, Affiniti will even finance the insurance premiums themselves – so they insure the insurance.
Of course there are risks here, as ATE insurers have gone bankrupt, which of course renders their agreements null and void. Fortunately, Affiniti hasn’t encountered any such circumstance, though the potential looms.
Burgess then pointed out that even countries without cost-shifting, such as the United States, are beginning to use ATE insurance as a means of hedging their risk. ATE insurance affords law firms and funders the opportunity to spread their risk across a wider range of cases, and therefore accept more claims which expands their overall risk appetite – something the industry has long been craving.
At this point, Jay Greenberg of US-based funder LexShares, took the opportunity to muse on the fact that there aren’t more fully-insured litigation products in the US. Greenberg offered the following hypothetical: Say a funder is pricing its deals to yield a 100% annualized return, and say the funder has an 80% win rate. So the book is yielding an 80% IRR. Even if the funder absorbed an extremely expensive insurance product – one that eats up half of earnings – that still leaves the funder with a 40% IRR. Any institutional investor would gobble up that return, especially as it is de-risked from an insurance perspective. A de-risked 40% return might even be more attractive to an underwriter than a risk-heavy 80% return.
Stuart Grant of Bench Walk Advisors pointed out that we actually are seeing that scenario play out… just not with insurance companies! It’s actually investors who are insuring litigation products, and they are doing so with notes from banks. Investors might ask a funder to take on the first 25% of the risk, but they will pony-up the remaining 75%. This ‘wrap program’ essentially means the funder is utilizing leverage. 75% of the invested capital is risk-free, and the premium they are receiving on their capital can be considered a form of leverage. Many non-insurance companies are coming in and leveraging these types of wrap programs, presumably because Big Insurance tends to be a slow adopter of new technology (lit fin can be thought of as such), and therefore its up to investors, banks and other non-insurance entities to innovate here (this last thought wasn’t mentioned on the panel. I am merely hypothesizing…).
James Batson, head of Bentham IMFs New York office, chimed in that his firm has engaged in a handful of investments where litigation finance was provided on appeal, and they secured insurance to cover a large chunk of their investment. These appellate insurance policies derive from the UK, which is perhaps to be expected, however the expectation is that US firms will soon catch on. Appellate court is a natural first step, given that the appeals process is often more predictable than going to trial, with outcomes that are closer to binary.
Burgess believes that as costs come down, Big Insurance will jump on board; it’s only a matter of time. And the panelists all concurred. As Stuart Grant succinctly put it: “The big takeaway here is, expect more wrap programs and insurance over the next couple of years.”
The emergence of insurers into the litigation funding market en-masse could greatly reduce the risk profile of the industry as a whole, and perhaps lead to more funded cases across the board (not to mention more funders emerging, with even more capital at their disposal). Of course, we’re in wait-and-see mode as to whether all of this actually pans out, but it was a fascinating topic nonetheless.
