One of the most interesting and noteworthy litigation developments recently has been the rise of litigation finance in the United States. The nascent litigation finance industry has attracted a number of new entrants, and many of the latest entrants are attempting to establish their own particular niche. In the guest post below, my good friend Ommid Farashahi of the Bates Carey firm interviews Adam Gerchen of Gerchen Keller Capital, one of the latest entrants in developing litigation finance industry.
I would like to thank Ommid for submitting his guest post. I welcome guest posts submissions from responsible authors on topics of interest to readers of this blog. Please contact me directly if you are interested in submitting a guest post.
Here is Ommid’s guest post and interview of Adam Gerchen:
Litigation finance has garnered a lot of attention recently. When a friend of mine, Adam Gerchen, told me last winter that he was launching his own investment firm focused on commercial litigation, Gerchen Keller Capital (“GKC”), I was intrigued. When he told me about their approach to the space, including financing litigation on the defense–side, I was even more interested. How could funding for defendants possibly work? Well, so far it all has seemed to work for GKC, which recently completed a $250 million capital raise – its second in less than a year – bringing the firm’s total assets under management to more than $300 million.
I sat down with Adam recently to discuss the firm and the industry more broadly, as well as to provide the readers of The D&O Diary Adam’s thoughts on the interplay between litigation finance and insurance.
What first attracted you to litigation finance?
The founding team, in their various roles at law firms, corporations, and investment funds, observed first-hand the internal constraints placed on legal budgets, and the need more broadly for financing solutions addressing litigation costs. Law firms continue to face a shifting financial landscape and client demand for alternative fee arrangements. And companies both big and small have little ability to tap the inherent value of claims or to finance their legal spend with corporate finance products. That market demand provides an opportunity for us to deliver solutions for our clients while achieving attractive returns for our investors.
Besides offering products on the defense-side, how does GKC differentiate itself from other players in the space?
We wanted to separate ourselves in the industry in part by focusing on what we don’t do. By focusing solely on commercial litigation, and eschewing, on the plaintiff’s side at least, product liability claims, mass torts, securities litigation, and consumer class and mass actions, we felt GKC could attract a different breed of client, a quality of counsel and size of organization that historically never explored litigation finance. Our concentration on litigation with sophisticated parties has also been an important differentiator for the investors in our various funds as well.
Why would large organizations with potentially sizable cash positions find third-party financing attractive?
Regardless of the financial strength of a company, internal legal budgets are normally tight and are established to fight wars of necessity, not choice. One of our partners, Travis Lenkner, witnessed firsthand the limitations of litigation spend even at a Fortune 100 company. The reality is, universally, whether from the C-suite or public shareholders, GCs face continual pressure to push their law firms to structure alternative fee arrangements. We are one of the tools that help address those forces.
Can you walk the readers through how a typical litigation finance transaction works?
There is no typical transaction, in that the specific needs and goals of our client and the risk profile of the case drive our pricing, structure, and ultimate investment. But in general, we provide limited-recourse capital to companies or law firms and receive a return on our investment only when the underlying litigation is resolved successfully. For instance, we can offer a line of credit up to $5 million that is drawn as expenses arise during a legal proceeding with our investment return consisting of a percentage of the ultimate outcome of a case. The difficulty on the defense side is defining “success” ex ante. The basic construct of those investments involve classifying “success” at various stages of the litigation process (e.g., a $15 million settlement before summary judgment) and sharing the delta when outcomes are better than those predetermined levels. In the interim, GKC pays all costs of defense and only achieves an investment return if one of those “successful” outcomes is attained.
What type of clients has expressed an interest in your defense-side products?
The most interested parties have been repeat defendants that continually face ongoing legal spend in similar types of cases (e.g., product liability defendants, securities class actions, etc.). We have even explored with one Fortune 500 company taking over an entire portfolio of a specific class of claims, moving off of their income statement a sizable annual spend. The ideal candidate for financing on the defense side is not a first time litigant who believes anything besides dismissal with prejudice is a negative outcome.
What are the biggest concerns law firms and companies have expressed to you about litigation finance?
Most often, our potential counterparties want to confirm that we are not financing plaintiffs in the sorts of cases that produce outsized awards for trial lawyers but are unrelated to actual business disputes—massive class actions, tort suits, and the like. We also start each conversation by explaining the legal and ethical considerations surrounding litigation finance. Because we deal exclusively with sophisticated companies and law firms, and never with consumers, many of the stereotypes about “litigation funders” simply do not apply, and any lingering issues are easily satisfied. Even so, we have spent a tremendous amount of time and resources fleshing out these points and addressing them in the most comprehensive manner. We feel confident, as do the companies and law firms with which we have partnered, that we are adhering to the highest ethical standards in the industry. Recent court decisions about issues related to litigation funding — including a federal court case here in Chicago upholding the confidentiality of documents shared with a third-party funder — have vindicated our careful approach.
How should the insurance sector view litigation finance firms? Friend or Foe?
We serve the same clients as insurance carriers and we are all focused on evaluating risk and allowing companies to offset that risk when it serves their needs. As is true of the top insurance carriers, our clients include Fortune 500 companies and some of the leading law firms in the world. While not always in a D&O or E&O context, litigation finance is becoming mainstream and an important tool for these businesses, and we think overall the space should be viewed positively by the marketplace for bringing efficiency and financing tools that meet market demand. On the defense side, we believe our involvement incentives all parties to resolve litigation in an efficient and timely manner. From an insurance carrier perspective, resolution in this manner can only be viewed positively. We also believe that per the earlier response, repeat defendants whom understand the risks and costs of litigation are the ideal candidates to explore our defense products. Insurance providers, especially in a casualty context, might find our products quite attractive.
Adam, than you very much for your time, insights, and candor. Something tells me that we will be talking again about all of these topics again soon.