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THIRD-P ARTY LITIGATION FUNDING IN THE UNITED STATES Selling Lawsuits, Buying Trouble Released by the U.S. Chamber Institute for Legal Reform, October 2009

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Page 1: Selling Lawsuits, Buying Trouble · Selling Lawsuits, Buying Trouble — John Beisner, Jessica Miller & Gary Rubin Skadden, Arps, Slate, Meagher & Flom LLP Washington, DC I. Executive

THIRD-PARTY LITIGATION FUNDING IN THE UNITED STATES

Selling Lawsuits,Buying Trouble

Released by the U.S. Chamber Institute for Legal Reform, October 2009

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All rights reserved. This publication, or part thereof, may not be reproduced in any form without the written permission of the U.S.

Chamber Institute for Legal Reform. Forward requests for permission to reprint to: Reprint Permission Office, U.S. Chamber

Institute for Legal Reform, 1615 H Street, N.W., Washington, D.C. 20062-2000 (202-463-5724).

© U.S. Chamber Institute for Legal Reform, October 2009. All rights reserved.

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THIRD-PARTY LITIGATION FUNDING IN THE UNITED STATES

Selling Lawsuits,Buying Trouble

— John Beisner, Jessica Miller & Gary Rubin Skadden, Arps, Slate, Meagher & Flom LLP

Washington, DC

I. Executive Summary“Third-party litigation financing” is a term thatdescribes the practice of providing money to aparty to pursue a potential or filed lawsuit inreturn for a share of any damages award orsettlement. Litigation-financing companiesprovide financing for myriad litigation costs,including attorneys’ fees, court fees, and expert-witness fees. Funding arrangements also mayinvolve financing the party’s living expenseswhile the trial and any appeals are pending.

Third-party litigation financing is a growingphenomenon in the United States, and it has

received much attention of late from bothproponents and critics, including practicinglawyers, academics, jurists, and policy-makers.Although third-party funding is notwidespread, it is playing an increasinglyvisible—and potentially harmful—role in U.S.litigation. If such funding becomes moreprevalent, it will pose substantial risks oflitigation abuse. This is particularly true in thecontext of class or mass actions, which arealready very vulnerable to abuses.

The root problem with third-party litigationfinancing is that it introduces a stranger to theattorney-client relationship whose sole interestis a financial one. The stranger wants to protect

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its investment, and its interest lies inmaximizing its return on that investment, not invindicating a plaintiff ’s rights. Put simply: thestranger’s motive is to pursue investments thatwill generate returns whether or not the claimsunderlying those returns lack merit. Thestranger, like a law firm, is a repeat player in thelawsuit-financing game. But unlike a law firm,the stranger does not have a privileged,fiduciary relationship with the plaintiff.Eventually, then, the stranger’s presence willrequire a relaxation of the rules governingattorney professional responsibility,compensation, and the attorney-client privilegeto accommodate these new realities. Thisrelaxation threatens to chip away at—andeventually eradicate—critical safeguards againstlawsuit abuse.

This paper begins with an overview of third-party litigation financing. It next examinescurrent third-party financing practices in theUnited States. It then sets forth a critique of thepractice, particularly the incentives it creates toengage in frivolous and abusive litigation. Inthis section, the paper also presents a case studyon the Commonwealth of Australia, the firstjurisdiction to permit third-party litigationfunding, where such funding has dramaticallyincreased litigation and given investorspervasive—even total—control over a plaintiff ’slitigation. Finally, the paper proposes that third-party litigation financing be prohibited in theUnited States to prevent these abuses. At thevery least, the paper concludes, such fundingshould be banned in class actions and otherforms of aggregate litigation.

II. Third-PartyLitigation Financing in theUnited StatesThird-party litigation financing was forbiddenat common law under the ancient doctrines ofmaintenance and champerty, which generallyprohibited intermeddling in another’s lawsuit,particularly in return for any part of thejudgment. England and Wales abolishedmaintenance and champerty as crimes and tortsin the Criminal Law Act of 1967.1 In morerecent years, a number of states in the UnitedStates also have abolished the doctrinesaltogether, or have limited their application.2

Third-party financing contracts generallyresemble non-recourse loans: if the partyrecovers nothing, it does not have to repay thefunding company. Thus, the practice avoidsprohibitions against usury. If the party issuccessful, however, either by receiving adamages award at trial or by settling onfavorable terms, the funding contract entitles thefinancing company to a share of the proceeds.The financier’s share is calculated from severalfactors, including the amount of moneyadvanced, the length of time until recovery, thepotential value of the plaintiff ’s case, andwhether the case settles or goes to trial.

Perry Walton, the founder of a litigation-finance company called Future Settlement,generally is recognized as the founder of thelitigation-financing industry in the UnitedStates. In 1998, after having pleaded guilty toextortionate debt-collection practices in Nevada

2

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the previous year, Walton began popularizingthe concept of litigation finance throughtraining seminars.

Since then, a number of well-known financialinstitutions have begun offering third-partylitigation financing for U.S. cases (many hadpreviously funded cases in Europe). Some of thebigger names in the industryinclude AllianzProzessFinanz (an affiliate ofGerman insurer Allianz),Harbour Litigation Funding,IM Litigation Funding, andJuridica CapitalManagement. Swiss bankinggiant Credit Suisse also has alitigation-finance unit. Manyhedge funds also areinvesting actively, but quietly,in litigation financing. JohnJones, a technical director atAon, has described the phenomenon this way:

In a typical case[,] a hedge fund, acting on behalf ofalready wealthy investors, will seek to accumulateyet more money—not by investing in businessenterprise or wealth creation—but by gambling onthe outcome of a legal action for damages. Theyhave no interest in the justice or otherwise of thecase—only in the chances of success—as they willdemand a share of the damages awarded in returnfor putting up the stake money.3

These financial institutions have enjoyedfavorable results. Juridica, which invests only incommercial cases and mainly in the UnitedStates, raised £74 million in its December 2007initial public offering on the London Stock

Exchange’s small companies market andanother £33.2 million with a second offering in2009. Juridica has seen its share price grow by24% since it began trading in London andenjoys annual returns in excess of 20%.

The recent growth of third-party litigationfinancing in the United States results from a

number of factors, including risinglitigation costs, the lack of capitalin the traditional lending marketto fund litigation (which isinherently speculative), andprofessional-responsibility rulesthat prohibit attorneys frompaying their client’s livingexpenses while litigation ispending.4

Notably, despite strict rulesgoverning the attorney-clientrelationship, state courts in the

United States generally have had a hands-offapproach to litigation-funding arrangements,leaving the regulation of third-party funding tothe state legislatures.5 Several state barassociations have determined that third-partyfunding is acceptable where the attorneyexplains the funding transaction to the client,and the risks and conflicts of interest created bythe transaction are disclosed to the client.6

At least two states have addressed litigationfinancing and have enacted legislation settingforth specific requirements for contractsbetween litigation-financing companies andconsumers. Maine enacted legislation in 2007requiring litigation-financing companies toregister with state authorities and mandating

“…after havingpleaded guilty to

extortionate debt-collection practices

in Nevada…Waltonbegan popularizing

the concept oflitigation financethrough training

seminars.”

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specific provisions that must be included infinancing contracts, including a disclosure formsetting forth the fees and interest rate charged, arepresentation that the company has no right tomake, and will not make, any decisionsrespecting the course of the litigation, and aclause providing that the customer may cancelthe contract within five business days.7 Ohio’slegislature passed a similar law in 2008.8 Ohio’slaw is troubling, however, because, in passing it,the legislature directly overturned a priordecision of the Ohio Supreme Court strikingdown a third-party funding arrangement on thegrounds that it constituted maintenance andthat it provided the plaintiff with a disincentiveto settle her case.9 (That latterpoint—that third-party fundingprolongs litigation bydisincentivizing settlement—isa significant problem inherentin third-party funding, asdiscussed in Section III, below.)

Today, third-party funding isgoverned in the United States by a patchworkof relatively weak laws, cases, rules, andregulations—and they are only in force in ahandful of states. There does not appear to be anationwide consensus, or even a nationwideconversation, on whether the doctrines ofmaintenance and champerty should beabolished, whether litigation funding should beallowed, or, if it is, how it should be regulated.Below, we discuss some of the concerns thatshould be part of any such conversation.

III. The ProblemsInherent in Third-PartyLitigation FinancingProponents of third-party litigation financingargue that the practice promotes access tojustice. But this focus on access to justiceignores an obvious point—third-party litigationfunding increases a plaintiff ’s access to thecourts, not to justice. This is an importantdistinction because increasing plaintiff access tothe courts also increases the likelihood that anypotential defendant will be hauled into court ona meritless claim. Although the popular vision

of U.S. litigation amongproponents of third-partyfinancing is of David-likeplaintiffs pitted againstGoliath-like defendants, thisvision is not true to reality. Intruth, potential defendantscome in all guises: motorists,professional-services providers,

small-business owners, and corporatestockholders. Practices like third-party fundingincrease the overall litigation volume, includingthe number of non-meritorious cases filed, andthus effectively reduce (not increase) the level ofjustice in the litigation system.10

As discussed below, third-party funding isparticularly troubling in the area of aggregatelitigation. Class and mass actions in the UnitedStates are inherently more vulnerable tolitigation abuse than other types of litigationprocedures because they permit aggregation ofthe claims of many litigants in a singleproceeding. As a result, a defendant in

“…third-partylitigation funding

increases a plaintiff ’saccess to the courts,

not to justice.”

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aggregate litigation frequently faces exposureexponentially greater than what it would face ina proceeding with just one individual plaintiff.Such large exposure often can compeldefendants to settle aggregate lawsuits ratherthan seek adjudication on the merits, regardlessof the validity of the claims at issue. Moreover,aggregate litigation already poses the risk ofbeing driven by profit-seeking attorneys ratherthan legitimately injured and interestedplaintiffs—a problem exacerbated by third-party funding. For these reasons, third-partylitigation funding, which permits plaintiffs andtheir attorneys to offload risk and thusencourages them to test non-meritoriousclaims, would be particularly damaging to theorderly administration of justice in theaggregate-litigation context.

The dangers and perverse incentives presentedby third-party funding are on full display in theAustralian civil litigation regime. There, withHigh Court sanction, investors are allowed tostir up controversy for the purpose of makingprofits, including inducing plaintiffs to suedefendants and exercising total control overthose plaintiffs’ cases.

A. Third-Party Financing Encourages Frivolous and Abusive Litigation

Third-party litigation financing increases thevolume of litigation in any jurisdiction where itis available. This has been shown empirically inAustralia and is a matter of simple economics:by increasing the amount of money available topay attorneys to litigate claims, third-partyfunding necessarily increases the volume ofclaims litigated. What is more, third-partyfinancing particularly increases the volume of

questionable claims. This is because, absentsuch financing, attorneys have two incentivesnot to permit their clients to bring such claims.First, they have a duty to advise clients whenpotential claims would be frivolous. Andsecond, when lawyers are working oncontingency, they obviously would rather spendtheir finite time on cases that are likely to besuccessful, as opposed to cases with a lowprobability of success. Accordingly, absent third-party funding, cases that plaintiffs and theirattorneys actually decide to file ordinarily canbe expected to be of higher merit than casesthat plaintiffs and their attorneys decide not tofile. When third-party litigation financingincreases the overall volume of litigation,however, those weak cases that plaintiffs andtheir attorneys ordinarily would not havepursued are much more likely to be filed.

Proponents of third-party funding argue that thepractice does not encourage frivolous lawsuitsbecause a litigation-financing company has noincentive to make a non-recourse loan to fund ameritless case.They also argue that third-partyfunding does not promote frivolous lawsuitsbecause litigation-financing companies oftenenter the picture after the plaintiff has chosen tofile a lawsuit and has retained counsel.12 Thesearguments lack merit for several reasons.

First, although providing non-recourse loans tofund litigation is inherently risky, it does notfollow that litigation-finance companies willonly finance claims that are likely to succeed.These companies—like all sophisticatedinvestors—will base their funding decisions onthe present value of their expected return, ofwhich the likelihood of a lawsuit’s success is

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only one component. The other component isthe potential amount of recovery. If thatpotential recovery is sufficiently large, thelawsuit will be an attractive investment, even ifthe likelihood of actually achieving thatrecovery is small. Put simply, the present value(excluding inflation and opportunity cost) of a$500 million claim with only a 10% chance ofsuccess is still $50 million. Moreover, litigation-finance companies can further hedge theirinvestments in risky lawsuits by demandinghigher percentages of any award where recoveryis less certain. Indeed, if investors were onlyattracted to low-risk investments, the high-yieldjunk-bond market never would have existed.

Already, the third-party funding market bearsthis out: some hedge funds specialize infinancing “speculative” cases.13 New Jersey-basedhedge fund MKM Longboat’s Susan Dunnexplains that hedge funds “want to invest, and itis those [hedge funds] that were involved in thedistress[ed-]debt market, so they are used to it.This is just a new class of risk to them.”14 AsMick Smith of third-party litigation funderCalunius Capital has observed, “the perceptionthat you need strong merits is wrong—there’s aprice for everything.”15

Moreover, third-party funding companies areable to mitigate their downside risk in twoways: they can spread the risk of any particularcase over their entire portfolio of cases, and theycan spread the risk among their investors. Forthis reason, litigation-finance companies have ahigh appetite for risk and are willing to fundspeculative, high-yield cases. As onecommentator has observed, litigation financingcompanies “staffed by a litigation savvy business

person and a skilled litigation claims adjustercould reduce, even eliminate, the risk of loss byadroitly valuing the range of recovery in apersonal injury action and by advancing only afraction of the carefully calculated range ofrecovery dollars.”16

Second, the statement that funding companiesdo not enter the picture until after a plaintiffhas retained counsel and decided to file suit isgroundless. Third-party funders make moneywhen they invest in lawsuits, and they haveevery incentive to induce plaintiffs to file them.Without adequate safeguards, nothing preventsa funder from contacting a potential plaintiffand encouraging him or her to file an individualor class action lawsuit. This is precisely whatoccurred in the Fostif case in Australia,discussed in detail below.

And even if the funder does not affect theplaintiff ’s decision to commence litigation, thefunder’s presence prolongs the litigation beyondwhat is fair or necessary. This is because third-party litigation funding creates a disincentivefor plaintiffs to settle at an amount below thevalue suggested by the financing arrangement,irrespective of whether that amount reflects afair value for the claim as indicated by thestrengths and weaknesses of the litigation.

A plaintiff who must pay a finance companyout of the proceeds of any recovery can beexpected to reject what may otherwise be a fairsettlement offer and hold out for a larger sumof money.17 By the same token, the financingcompany can be expected to pressure plaintiffsonly to accept settlement offers that aresufficient to cover the amount financed after

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subtracting the plaintiff ’s share of the recovery.Thus, the amount the company has financedlikely would set the “floor” for acceptablesettlement offers, and the company wouldpressure the plaintiff not to accept anysettlement offer below the floor.18 For example,if a funder provides a plaintiff $1 million topursue litigation in return for 50% of anyaward, the funder naturally will attempt to setthe settlement-recovery floor at $2 million. Thisamount, moreover, is entirely a function of thelitigation funder’s return oninvestment; it has nothingwhatsoever to do with themerits of the claim. In thisrespect, litigation fundingpresents the same settlementdisincentive as contingentattorney fees: attorneysworking on contingency have aperverse incentive to convincetheir clients only to acceptsettlement amounts greaterthan the time-value theattorney has invested inpursuing the case.

In addition, from thedefendant’s perspective, byguaranteeing that plaintiffs will have sufficientfunding to prosecute even questionable claimsthrough trial, third-party funding createspressure on defendants to settle all but the mostfrivolous claims, often on sub-optimal terms,and at an amount much higher than the merits-based value of the claim. This is because trialitself is expensive, independent of any award.Defendants must pay attorneys’, experts’, andother fees, and, under the “American” rule

governing assessment of attorneys’ fees in civillitigation, those costs generally cannot beshifted to the plaintiff even if the defendantprevails. By promoting coercive settlement inthis way, third-party litigation financingincreases the profitability—and therefore thelikelihood—of abusive litigation.

B. Third-Party Litigation Financing Raises Ethical Concerns

The common-law obstacles to third-partylitigation financing—maintenance and

champerty—seem to have fallenby the wayside in a number ofstates, but serious ethicalconcerns about the litigation-financing industry remain. Mostsignificantly, litigation-financingarrangements undercut theplaintiff ’s control over his or herown claim because investorsinherently desire to protect theirinvestment and will thereforeseek to exert control overstrategic decisions in the lawsuit.Gary Chodes, the founder oflitigation-financing companyOasis Legal Finance, has said

that “clients may have to relinquish somedecision-making authority to the funder” andthat “the client’s interests may diverge from thefunder in that other business reasons maysuggest that they might settle a claim for lessthan the funder has targeted.”19 ArndtEversberg, a managing director of AllianzProzessFinanz, has touted plaintiffs’ ability todraw on the company’s “legal knowledge andexperience” as an added benefit of obtaininglitigation financing from it.20 This is troubling

“…litigation-financingarrangementsundercut the

plaintiff ’s controlover his or her own

claim becauseinvestors inherently

desire to protect theirinvestment and will

therefore seek toexert control over

strategic decisions inthe lawsuit.”

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because it reduces a justice system designed toadjudicate cases on their merits to a litigationsystem effectively controlled by third partiesinterested solely in profit. And, it places thepower to make strategic decisions about thecase in the hands of the funder, whose dutiesare to its investors, instead of in the hands ofthe attorney, whose duties are to the client. Inaddition, to the extent an attorney permits athird-party financier to “direct or regulate” theattorney’s “professional judgment,” the attorneymay violate rules ofprofessional conduct.21

In addition, obtaining fundsfrom a third party to finance acase may also create conflicts ofinterest for the plaintiff ’sattorney, particularly theattorney’s duty of loyalty owedto the client. This is especiallytrue where the attorney hascontracted directly with thefunding company and thus has contractualduties to it that are independent of theattorney’s professional duties to the plaintiff.22

Moreover, because both third-party funders andattorneys are repeat players in the litigationmarket, it can be expected that relationshipsamong them will develop over time. Attorneyscan be expected to “steer” clients to favoredfinancing firms, even if the client’s particularcircumstances suggest a different firm may bemore appropriate, and vice versa.

Finally, litigation-financing arrangements alsoraise confidentiality concerns insofar as theyrequire plaintiffs to disclose privilegedinformation to the financier. In order to

evaluate a plaintiff ’s claim and determinewhether and on what terms to finance the case,a litigation financing company generally will askto evaluate confidential, and possibly privileged,information belonging to the plaintiff. If theplaintiff elects to provide the information to thefinancing company, any privilege protecting itlikely would be waived.23 Attorneys advising aclient at the outset of a case may be reluctant toprovide the client full and candid advice inwriting, knowing that any communications

could be viewed by the funder aspart of its diligence, and thenwould be available to theopposing party in discovery.

C. Third-Party Financing in Class and Mass Actions:A Recipe for Abuse

Third-party financing is mosttroubling in the context ofaggregate litigation—class andmass actions—which already

poses substantial risks of abuse.This is so because,in aggregate litigation, the plaintiffs can threatenthe defendant with staggering exposure onpotentially thousands of claims. By helpingwould-be plaintiffs shift their costs to others,third-party funding encourages plaintiffs’ attorneysto test claims of questionable merit, knowing thatthe enormity of the potential risk will often forcedefendants to settle class and mass actions on sub-optimal terms rather than roll the dice at trial. Inthis respect, contingent third-party fundingarrangements are even more likely to invitefrivolous litigation than contingent attorney fees,which bear a significant share of the blame for theUnited States’s out-of-control tort system.

“By helping would-be plaintiffsshift their costs toothers, third-party

funding encouragesplaintiffs’ attorneys

to test claims of questionable

merit…”

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In addition, in an individual case, the plaintiffpresumably hires the third-party fundingcompany—or at least knows and understandsthe arrangement. In a suit involving thousandsof class members who are effectively bound by ajudgment or settlement if they do not opt out,there is no practical way to obtain permissionfrom all the potential plaintiffs before enteringthe third-party funding agreement. Thus, thefunding arrangement is essentially occurringwithout the consent of the plaintiffs.

Relatedly, third-party financing also exacerbatesone of the fundamental problems with aggregatelitigation—i.e., that it is generally controlled byattorneys rather than plaintiffs. In a largeconsumer class action, the average plaintiff oftenhas only a dollar or two at stake.The“representative” plaintiffs who are empowered tospeak for the class in such cases tend to befriends, neighbors or even employees of theattorney bringing the suit. As a result, the lawyersfully control the cases—not the plaintiffs.

The concerns raised by such an arrangement areall the greater when the person driving thelitigation is not even a lawyer with fiduciaryobligations to the supposed clients or the court.In a case with a legitimately aggrieved plaintiffwho is following the litigation and concernedabout its outcome, there is, at least, someonewatching the lawyer and the fundingcompany—and that person can raise concerns ifthe funding company acts against his or herinterests. In a class action, by contrast, there isoften no interested plaintiff. Thus, the fundingcompany can effectively run the litigation withno check on its actions.

In addition to increasing the risk of abusiveaggregate litigation, third-party funding in classactions also eats into any damages that arejustifiably awarded to plaintiffs. Already, theactual payout to class action plaintiffs is oftennegligible, because so much of the settlementpie goes to attorneys’ fees. If a third-partyfunder is added to the mix, the slice that goes toclass members would be even smaller, and theproceeds would essentially be divided betweenthe lawyers and the funders.

D. Case Study: The Commonwealth ofAustralia and the Dangers Inherent in Third-Party Litigation Financing

Third-party financing originally developed inAustralia in the 1990s for use in insolvencylitigation. Australian courts, however, soon allowedthe practice in group litigation.Today, plaintiffsuse it primarily in commercial litigation and ingroup proceedings. One study has estimated thatthe volume of litigation in Australia has risen16.5% as a result of the practice.24

The third-party funding industry has flourishedin Australia in part because Australia prohibitsattorneys from charging contingency fees, whileallowing contingent returns on investment forfunders.The practice thus provides a mechanismfor plaintiffs to finance litigation on contingency.

1. The High Court’s Fostif Decision and Pervasive Third-Party Control of Litigation

The evolution of third-party funding inAustralia, from maintenance and champertyprohibitions to authorization in insolvency suitsto its spread to other civil litigation, led in 2006to the High Court decision in Campbells Cashand Carry Pty Ltd v. Fostif Pty Ltd.25 In Fostif, a

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five-to-two majority of the High Court heldthat a third-party funder may exercise significantcontrol over the litigation, and that this controlis not an abuse of process and does not offendpublic policy in states that have abolishedmaintenance and champerty as crimes and torts.

Fostif involved a third-party litigation financiercalled Firmstones & Feil, Consultants, whichfinanced a collective action brought on behalf oftobacco retailers to recover licensing fees they hadpaid to tobacco wholesalers. Firmstones actuallyhad sought out the retailers and convinced themto grant it authority to bring an action on theirbehalf. Ultimately, Firmstones financed thelitigation on a contingent, non-recourse basis.26

Under the financing agreement, Firmstonesexercised considerable control over thelitigation. The High Court’s majority opinionreveals that Firmstones itself, and not theretailer-plaintiffs who were owed thereimbursements, conceived of and planned thelitigation, set it in motion, and exercisedpervasive control over the retailers’ claims.Indeed, it is questionable that the retailers everwould have sued the wholesaler-defendants atall, had Firmstones not seen it as a way to lineits own pockets. The majority highlighted thesetroubling facts:

• Firmstones contacted the plaintiff-retailersand encouraged them to pursue refundsfrom the defendant-wholesalers, offering tofinance this effort in return for a share ofany recovery;

• Firmstones selected and retained theretailers’ trial counsel;

• Firmstones prohibited counsel fromcontacting the retailers directly;

• Firmstones instructed counsel throughoutthe proceeding; and

• Firmstones retained the power to settle theproceeding with the wholesalers on behalfof the retailers.27

On appeal, the wholesalers argued that theretailers’ funding agreement was impermissibleand that the trial court’s approval of thearrangement was an abuse of process andcontrary to public policy. The High Courtdisagreed. The majority held that Firmstones’sefforts to seek out plaintiffs and retain controlover the litigation did not abuse any process orviolate any public policy because seeking toprofit from another’s litigation—as lawyers doand have always done—is not against publicpolicy.28 Three of the Justices in the majorityheld that in states that had abolished the crimesand torts of maintenance and champerty, thoseconcepts could not be used to challenge thefunding agreement; the only policy question insuch circumstances is whether the agreement isenforceable among its parties.

The minority opinion savagely criticized third-party litigation financing and the majority’sholding, stating that the “purpose of courtproceedings is not to provide a means for thirdparties to make money by creating, multiplyingand stirring up disputes in which those thirdparties are not involved and which would nototherwise have flared into active controversy.”The minority also stated that “public confidencein, and public perceptions of, the integrity ofthe legal system are damaged by litigation in

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which causes of action are treated merely asitems to be dealt with commercially.”29

At its core, the minority opinion in Fostif was aforceful reminder that the third-party financieris a stranger, an “alien” to the traditionaladversarial relationship between plaintiff anddefendant.30 But in this respect, the minorityultimately was talking past the majority. Theminority complained thatthird-party financingpresents the evils that thedoctrines of maintenance andchamperty were designed toprevent. But the majorityheld that once thosedoctrines are abolished,whatever practices grow upare no longer considered evil.To frame it in the majority’sterms: once maintenance andchamperty are abolished ascrimes and torts, they nolonger should affect a nation’spolicy of what litigation should be. Fostif thusdemonstrates the slippery slope of embracingthird-party funding.

2. Fostif ’s Aftermath

In the wake of Fostif, critics have expressedconcern about the lack of regulation over third-party funders, the substantial fees they earn, andthe unfair manner in which they negotiatefunding contracts with plaintiffs.31 Others haveobserved that third-party litigation funding hasincreased the number of class actions inAustralia, which, outside of North America, is

the jurisdiction where corporations are mostlikely to have to defend class actions.32

Especially since Fostif, third-party litigationfinanciers in Australia generally reserve theright to withdraw funding unilaterally at anytime. They also generally require that they beapprised of and consulted regarding proposedsettlements, with some companies going so far

as to require the plaintiff to obtainthe funder’s consent beforesettling the case. Funders alsooften advise the plaintiff onselecting counsel. And, at least oneAustralian litigation fundingcompany goes so far as todetermine case strategies, evaluateand approve key witnesses, andconduct settlement discussions.33

As a result of these practices,Australian courts are belatedlyconsidering rules to governfunding agreements. In addition,in 2006, the Standing

Committee of Attorneys-General published adiscussion paper on regulating litigationfunding in Australia and invited publiccomment.34 The Committee’s efforts towardrecommending a regulatory structure forthird-party litigation funding companies aremoving slowly. In its March 2008Communiqué, the Committee reported that aworking group is drafting a litigation-fundingregulation impact statement that will outlinestrategies for regulating the industry.35

“…critics haveexpressed concernabout the lack of

regulation over third-party funders, the

substantial fees theyearn, and the unfair

manner in whichthey negotiate

funding contractswith plaintiffs”

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IV. ConclusionBy increasing the funds available to pursuelitigation, third-party litigation financinginevitably increases the volume of litigation.Moreover, because third-party financingvitiates traditional safeguards against frivolousclaims, much of this increased litigationvolume consists of claims of questionablemerit. For this reason, lawmakers andregulators should consider prohibiting third-party funding in the United States. At the veryleast, third-party funding should be banned inthe context of aggregate litigation. Asdiscussed above, aggregate litigation is alreadyprone to abuse because there is a tremendousamount of money at stake and very little

accountability to the supposed plaintiffs.Combining third-party funding with class andmass actions would exacerbate the risks ofsuch abuse by adding yet another interestedparty to the mix and further reducing thealready minimal role of the claimantsthemselves in such cases.

So far, third-party litigation funding is notwidespread in the United States. If it gains inpopularity, however, especially in the area ofaggregate litigation, policy-makers shouldheed Australia’s cautionary tale about thedangers presented by third-party funding andconsider safeguards against the abusivelitigation that will otherwise result if thispractice becomes more prevalent.

“…because third-party financing vitiatestraditional safeguards against frivolous claims,

much of this increased litigation volume consistsof claims of questionable merit. ”

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1 1967 c. 58.

2 See, e.g., Anglo-Dutch Petroleum Int’l,Inc. v. Haskell, 193 S.W.3d 87 (Tex.App. 2006) (holding third-partyfinancing arrangement not usury orchamperty, and not against publicpolicy); Kraft v. Mason, 668 So. 2d679 (Fla. Dist. Ct. App. 1996)(same); Sneed v. Ford Motor Co., 735So. 2d 306, 315 (Miss. 1990)(holding agreement to providelitigation financing was notchampertous because funder did notinduce plaintiff to sue).

3 Joshua Hamerman, Hedge Funds: ALitigious Bunch, Investment Dealers’Digest, Dec. 17, 2007, Gale GroupDocument Number: A172510098.

4 Model Rules of Prof ’l Conduct, R.1.8(e) (2009) (a “lawyer shall notprovide financial assistance to a clientin connection with pending orcontemplated litigation”).

5 See, e.g., Fausone v. U.S. Claims, Inc.,915 So. 2d 626, 629-30 (Fla. 2d Dist.Ct. App. 2005) (affirming arbitrationaward in favor of litigation-financingcompany).

6 Julia H. McLaughlin, LitigationFunding: Charting a Legal and EthicalCourse, 31 Vt. L. Rev. 615, 648 (2007)(citing state bar opinions fromConnecticut, New York andPennsylvania approving third-partylitigation-financing agreements underlimited conditions); Florida State BarOpinion 00-3 (Mar. 15, 2002)(discouraging third-party funding, butholding attorneys may provide clientswith information about it); see alsoOregon State Bar Association Boardof Governors Opinion Number 1993-133 ( Jan. 1993).

7 9-A ME. REV. STAT. ANN. tit. 9-A,§§ 12-104, 12-106.

8 OHIO REV. CODE ANN. §1349.55 (2009).

9 Rancman v. Interim Settlement FundingCorp., 789 N.E.2d 217 (Ohio 2003).

10 Examples abound of small businessespushed to the brink of bankruptcy bylawsuit abuse. See, e.g., U.S. Chamber

of Commerce, Family business facingmore than 100 lawsuits teeters on thebrink,The Faces of Lawsuit Abuse,http://facesoflawsuitabuse.org/2009/04/family-business-facing-more-than-100-lawsuits-teeters-on-the-brink/(last visited June 29, 2009) (describingthe story of Monroe Rubber &Gasket of Monroe, Louisiana, a familybusiness that may have to close itsdoors as a result of defending over 100lawsuits filed by 2,000 plaintiffs relatedto the company’s use of materialcontaining asbestos); U.S. Chamber ofCommerce, Lawsuit over bathroommirror 2 inches too high,The Faces ofLawsuit Abuse,http://facesoflawsuitabuse.org/2009/03/lawsuit-over-bathroom-mirror-2-inches-too-high/ (last visitedJune 29, 2009) (telling the story of arestaurant owner who has spent morethan the restaurant made in a yeardefending suit for multiple violationsof disabilities regulations whenemployees replaced bathroom mirror,hanging it two inches too high perapplicable disability regulations).

11 Susan Lorde Martin, The LitigationFinancing Industry: The Wild West ofFinance Should be Tamed NotOutlawed, 10 Fordham J. Corp. & Fin.L. 55, 77 (2004); Douglas R.Richmond, Other Peoples’ Money: TheEthics of Litigation Financing, 56Mercer L. Rev. 649, 661 (2005);Mariel Rodak, It’s About Time: ASystems Thinking Analysis of theLitigation Finance Industry and ItsEffects on Settlement, 155 U. Pa. L. Rev.503, 518–519 (2006) (summarizingproponents’ argument and collectingsources); Michael Herman, Fear ofthird party litigation funding isgroundless,Times Online, Oct. 25,2007 (arguing that the claim thatlitigation funding will encouragefrivolous suits is unfair becauselitigation funding companies seek toinvest in commercial, rather thanpersonal, disputes).

12 See, e.g., Rodak, It’s About Time, 155 U.Pa. L. Rev. at 519.

13 Hamerman, Hedge Funds.

14 Legal Report—A get out of jail for a feecard?, Europe Intelligence Wire, at 3(Mar. 8, 2007).

15 Edward Smerdon, Third PartyLitigation Funding, Reynolds PorterChamberlain LLP D&O Update,Mar. 2008,http://www.rpc.co.uk/FileServer.aspx?oID=649&lID=0.

16 McLaughlin, Litigation Funding, 31Vt. L. Rev. at 621.

17 See Rancman v. Interim SettlementFunding Corp., 789 N.E.2d 217, 220-21 (Ohio 2003) (noting that theamount the plaintiff-appellant owed tolitigation financiers was an “absolutedisincentive” to settle at a lesseramount).

18 Australia provides a case study ofwhere these incentives ultimately willlead: there, some funding companies’financing contracts specifically providethat the companies have the power toaccept or reject settlement offers.

19 Anne Urda, Legal Funding GainsSteam But Doubts Linger, Law360(Aug. 27, 2008).

20 Allianz Deutschland AG, Risk-freeLitigation Financing, Aug. 17, 2007,http://www.allianz.com/en/press/news/business_news/insurance/news_2007-08-17.html.

21 Model Rules of Prof ’l Conduct, R.5.4(c) (providing that “a lawyer shallnot permit a person who recommends,employs, or pays the lawyer to renderlegal services for another to direct orregulate the lawyer’s professionaljudgment in rendering such legalservices”).

22 See, e.g., id., R. 1.7(a) (providing that a“concurrent conflict of interest existswhere”“there is a significant risk thatthe representation…will be materiallylimited by the lawyer’s responsibilitiesto…a third person”).

23 It is unlikely that a third-partyfinancier enjoys a joint-defense orcommon-interest privilege with theclient.Those privileges require acommon legal interest, not a merecommon business interest.

24 A recent study of the effects of third-party funding on litigation inAustralian states that permit such

funding found that for every AUD 10million of funding provided by onefunder, the number of lawsuits filed forevery 100,000 people increased by16.5%. See David Abrams and DanielL. Chen, A Market for Justice: TheEffect of Litigation Funding on LegalOutcomes (unpublished article),http://home.uchicago.edu/~dlc/papers/MktJustice.pdf) (last visitedSeptember 29, 2009).

25 [2006] 229 CLR 386.

26 Id. at 389-90.

27 Id. at 390, 413, 424.

28 Id. at 433-34.

29 Id. at 488.

30 Id.

31 Stuart Clark and Christina Harris, ThePush to Reform Class Action Procedurein Australia: Evolution or Revolution?,32 Melb. U.L. Rev. 775, 810 (2008).

32 S. Stuart Clark, Thinking Locally, SuingGlobally: The International Frontiers ofMass Tort Litigation in Australia, 74Def. Counsel J. 139, 139-40 (2007);Greg Williams, Litigation Funding inAustralia, July 28, 2009.

33 Vicki Waye, Conflicts of Interestbetween Claimholders, Lawyers andLitigation Entrepreneurs, 19 Bond L.Rev. 223 (2007) (includes an appendixdetailing responses of six Australianthird-party litigation fundingcompanies to several questions aboutindustry practices).

34 Standing Committee of Attorneys-General, Litigation Funding InAustralia, May 2006,http://www.lawlink.nsw.gov.au/lawlink/legislation_policy/ll_lpd.nsf/vwFiles/Litigation_Funding_Discussion_paper_May_06.doc/$file/Litigation_Funding_Discussion_paper_May_06.doc.

35 Standing Committee of Attorneys-General, Summary of Decisions March2008, Mar. 28, 2008,http://www.scag.gov.au/lawlink/SCAG/ll_scag.nsf/pages/scag_meetingoutcomes.

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