Here’s How Hedge Funds Are Speculating on Justice

For centuries, turning other people’s legal claims into moneymaking opportunities has been frowned upon. That started to change in the 1990s, when Australia allowed insolvent companies to engage outside funders to sustain legal claims they might otherwise have run out of money to pursue. Third-party funding of civil litigation caught on in the UK and some European countries in the 2000s. Gradual acceptance in the US helped turn the field known as litigation finance, or “lit finance,” into a multibillion-dollar industry, spawning a niche asset class that’s drawn in private equity funds and institutional investors. Proponents say the practice allows parties with limited resources to pursue worthy claims against the goliaths of industry. Critics say it makes the judicial system resemble a sports betting parlor, where wagers are made on which side will win.

There are different models. A typical one might begin with a funder — which can be a hedge fund, a wealthy individual or a specialized litigation finance firm that pools outside money like an investment fund — reaching out to law firms to identify clients who have seemingly strong cases but limited resources. The funder, lawyer and client then reach an agreement that provides capital to pay lawyer bills, expert witnesses and other expenses. If the case succeeds, the funder receives either a preset multiple of the funds invested or a percentage of the damages. If the suit fails, the funder absorbs the loss. Litigation finance differs from contingency fee arrangements, in which the law firm agrees to be paid only if the client wins.