Asset managers face the potential for securities litigation on a scale not seen since the years following the 2008 financial crisis. Having a strategic litigation plan and access to the right tools will help asset managers maximize recoveries for their investors while minimizing burdens on in-house counsel and investment personnel.
Economic downturns create market conditions that are ripe for corporate misconduct: Directors and officers facing heightened financial stress may resort to fraudulent activities in an effort to make their companies appear more profitable; meanwhile, downturns also tend to reveal long-term corporate fraud that was previously hidden by favorable macroeconomic conditions.
Several high-profile instances of corporate fraud, notably Wirecard and Luckin Coffee, were exposed in 2020. That trend is likely to continue, and indeed The Economist estimates that a decade's worth of corporate fraud will be exposed as a result of the market fallout from the Covid-19 pandemic. Ahead of the litigation that will inevitably follow the rise in corporate misconduct, institutional investors should be prepared to take a more strategic approach and make use of tools that will help maximize recoveries.
Increased professionalism to promote better outcomes
In non-US group actions, where funders play a more substantive role in formulating and executing litigation and settlement strategy, an institutional quality finance provider can collaborate with local counsel to add value and improve outcomes, as demonstrated by Burford’s recent involvement in litigation against Wirecard in Germany.
Wirecard, a global financial technology firm, filed for insolvency in June of 2020 after disclosing a €1.9 billion hole in its accounts that its auditor said was the result of a sophisticated global fraud. Burford assembled a group of the company’s largest institutional investors to pursue fraud claims against Wirecard in the company’s insolvency proceedings under Germany’s Securities Trading Act. Together with local counsel from Quinn Emanuel, Burford worked on behalf of shareholders to ensure the group’s damages claims were fully supported with a market event study and supporting documentation that satisfied Germany’s rigorous evidentiary and standing requirements. As a result of those efforts, Burford and Quinn built the largest shareholder group action against Wirecard, composed of 30 investors with nearly €2 billion in damages—and this scale, and the negotiating leverage it provides, will allow Burford and Quinn to guide the insolvency proceedings towards a resolution that maximizes their clients’ recovery.
What to expect in 2021
Strategic litigation efforts through portfolio finance
Historically, asset managers have financed individual matters with funders on a one-off basis, a practice that creates both time and cost inefficiencies: In-house legal teams may vet up to six funding proposals for each matter they pursue and negotiate deal terms specific to the binary risks associated with financing a single case. Faced with increased litigation opportunities and pressure from fund boards to preserve fund assets, not to mention the ongoing pressure on their legal teams to use their time efficiently, institutional investors will increasingly take advantage of portfolio finance as a means to pursue recoveries globally under an umbrella agreement and a unitary fee structure.
Portfolios enable fund managers to more strategically pursue multiple claims simultaneously by relieving the administrative burden related to vetting and negotiating each matter individually and monitoring ongoing matters, streamlining the diligence process and deal documentation for funding and providing economic and pricing advantages through cross-collateralization. As the benefits to portfolio finance become better understood, we anticipate that institutional investors will explore both forward-looking portfolios and also consider rolling up individual funded matters into larger portfolios.
Accelerated access to working capital through monetization
Typical litigation schedules dictate that investment funds suing issuers must wait for all court proceedings to resolve and for defendants to pay before they can benefit from their recovery efforts. In volatile market conditions, however, funds can benefit from the additional liquidity provided through claim monetization, getting cash when they need it to satisfy fund redemptions, pay routine expenses or purchase additional securities without selling existing holdings. Therefore, we expect institutional investors to take advantage of monetization opportunities, where a legal finance provider converts a portion of a pending claim into cash on a non-recourse basis, allowing a fund and its shareholders to derive immediate benefits from litigation claims that could take years to resolve.
Monetization enables funds to be paid on a timeline that aligns with a fund manager’s investment objectives—not the court’s schedule—while transferring litigation risk (both timing risk and risk of loss) to a third party. It can also enable funds to manage unanticipated expenses and redemptions. And in the event that a claim has been asserted by a fund in liquidation, monetization enables shareholders to receive some of the claim’s monetary value when the fund’s assets are distributed. As asset managers grapple with the volatility of a down economy, we expect the prospect of securing cash when it’s needed to be an appealing option.
Increased securities activity in new jurisdictions
As noted above, the current economic climate makes it likely that more securities litigation is on the horizon, including cases that likely will be litigated in jurisdictions that have not historically seen significant securities litigation activity. Given the significant role funders play in group actions outside the US, asset managers pursuing strategic, global recovery programs increasingly will seek partners who can offer more than capital alone. To navigate unfamiliar territory, institutional investors will rely on professionalized, sophisticated financing partners that can engage the highest caliber local counsel, closely and transparently manage and support litigation, and deploy however much capital and resources are necessary to maximize recoveries.
Asset managers face the potential for securities litigation on a scale not seen since the years following the 2008 financial crisis. When navigating ongoing volatility in the months and years ahead, having a strategic litigation plan and access to an arsenal of tools to execute on that strategy will help asset managers maximize recoveries for their investors while minimizing the burdens on in-house counsel and investment personnel.
Michael Sternhell is a Director of Burford’s investment team in New York. Leveraging his experience overseeing a diverse litigation portfolio as in-house counsel for a leading global asset management firm, Michael works with the world’s largest asset managers to identify, evaluate and pursue securities litigation globally. He was previously Senior Vice President and Managing Counsel at OppenheimerFunds and a Senior Litigator at Kramer Levin Naftalis & Frankel.