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Litigation: The ethical considerations of litigation financing

Lawyers be must mindful of the potential effect that working with third-party funders could have on attorney-client privilege

Attorneys have an ethical duty to protect confidential communications with their clients. But how is this observed when a third party provides the client with funding for the litigation? 

Litigation financing, or alternative litigation funding (ALF), has become more prevalent in the U.S. in recent years, especially in the corporate litigation context. In general, this phenomenon involves private investors funding a lawsuit or arbitration—usually on behalf of the plaintiff—in return for a portion of a judgment or settlement. The resulting business relationship between the plaintiff, plaintiff’s attorney and litigation funder introduces various ethical issues that corporate plaintiffs considering ALF must manage. One of the most common such issues involves potential waiver of the attorney-client privilege.

Before a litigation funder decides to invest in a plaintiff’s case, the funder must consider the strength of the corporate client’s claims and the potential for recovery in order to get comfortable with the potential risks of its investment. This process often requires due diligence and access to confidential information. A funder may also require a party or party’s attorney to keep the funder informed about developments or allow the funder to periodically review the case file. However, by providing privileged documents and information to a potential funder, the client or client’s attorney may inadvertently waive the attorney-client privilege and enable its adversary to obtain sensitive information during discovery.

Few courts have weighed in on this issue, but the leading case suggests that a party that discloses otherwise confidential information to a third-party funder may waive the privilege. In Leader Technologies, Inc. v. Facebook, Inc., a 2010 District of Delaware case alleging patent infringement, Facebook sought to compel disclosure of documents that Leader shared with potential litigation funders and that Leader withheld under the common interest privilege. The district court affirmed the magistrate judge’s ruling that Leader must produce the documents it shared with the potential funders on the grounds that no funding agreement was ever consummated, there was no common interest shared by Leader and the potential funders, and Leader had thus waived the attorney-client privilege.

Some bar associations have issued ethics opinions in recent years that provide guidance to attorneys and their clients on this issue. Last year, the New York City Bar Association issued Formal Opinion 2011-2: Third Party Litigation Financing, which addressed the potential waiver of attorney-client privilege. The opinion cautioned attorneys not to “disclose privileged information to a financing company unless the lawyer first obtains the client’s informed consent, including by explaining to the client the potential for waiver of privilege and the consequences that could have in discovery or other aspects of the case.” Earlier this year, the American Bar Association (ABA) Commission on Ethics 20/20 issued an informational report on ethical issues involving ALF. The report recognized that as “part of their underwriting process, ALF suppliers often require the lawyer to release information or to provide a litigation assessment referencing such information,” and that although ALF suppliers stated in public comments to the ABA that they do not seek privileged information, some funding agreements allow funders to inspect all documents and information. The report cautioned attorneys to be mindful of ALF’s potential effect on the attorney-client privilege.

Due to the still-developing area of law and to avoid the issue in Leader, corporations seeking litigation financing and their counsel must carefully balance the need for candor with a potential funder with safeguarding the attorney-client privilege. Consider the following questions when deciding how to deal with a potential or existing funder.

  • Is it practical and reasonable to limit the funder’s access to information? 
  • Is there enough nonprivileged or public information that will allow the funder to evaluate the case and feel comfortable with the investment? 
  • Once the funder invests and litigation commences, is it sufficient to provide the funder only with public information or information already disclosed to the adversary?

Contributing Author

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Michael Lynch

Michael C. Lynch is a partner and litigator in the New York office of Kelley Drye & Warren LLP. He has extensive experience in complex,...

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Contributing Author

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Lystra Batchoo

Lystra Batchoo is an associate in the New York office of Kelley Drye & Warren LLP. She focuses on civil litigation, including complex, commercial litigation, contract...

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