Author: Francesca Mastragostino, candidate to the Luxembourg Bar and Legal Analyst at Qanlex, a litigation finance fund operating in Europe and Latin America when this article was written.

Summary: Insights from a funder’s perspective regarding the stages leading to the signing of
a Litigation Funding Agreement, including factors considered during the evaluation proces

Abbreviation: Third-Party Funding referred to as “TPF”, Litigation Funding Agreement as “LFA”,
Internal Rate of Return as “IRR”, Multiple of the Invested Capital as “MOIC”, Non-Disclosure
Agreement as “NDA”.

Citation: Third Party Funding of International Arbitration: A Cross-Disciplinary Approach, Part I – The Pre-contractual Phase (Funder’s Perspective), Francesca MASTRAGOSTINO, Club de l’Arbitrage, 16/02/2024


In the initial phase of the litigation funding process, funders systematically evaluate the potential rewards and risks associated with an investment, conducting a detailed study of the claim’s likelihood of success. This initial step involves the signing of a Non-Disclosure Agreement (“NDA”), creating a foundation for trust and confidentiality during information exchange. The subsequent due diligence process scrutinizes various aspects, including legal merits, financial considerations, and jurisdictional factors, providing funders with a preliminary framework for investment decisions.

The negotiation phase then paves the way for structured discussions on investment terms, which will be addressed in more detail during the drafting of the Litigation Funding Agreement.

Lastly, the return structures in Litigation Funding Agreements are diverse. The crucial aspect is to align interests for a mutually beneficial partnership between investors and claimants.

These different steps deserve a detailed presentation.

1. Due diligence process and risk assessment: How Funders assess the viability and risks associated with a case

The preliminary analysis consists of an internal due diligence carried out by the funder’s legal team, during which the funder will delve into the details of its initial assessment, considering important factors1 such as:

  • High-level case facts and relevant laws;
  • Likelihood and estimated time of recovering;
  • Counsel’s reputation;
  • Counterparty’s financial solvency;
  • Other concerns impacting investment feasibility, such as portfolio risk distribution and reputational factors.

These aspects form an initial framework, allowing funders to preliminarily decide if a case is viable for funding before diving into detailed negotiations or more comprehensive due diligence2. This simplified evaluation considers more than just a case’s win probability. Even if a claim seems strong legally, it may not be feasible for funding if the opposing party lacks resources to pay damages.

Due to the inherent risk, entering the area of Third-Party Funding demands a careful strategy. Funders thoroughly scrutinise the ratio between their investment and the prospective level of compensation, and their significance goes far beyond the Funder alone.

One essential factor to consider is the requirement for significant headroom in the damages-to costs ratio. This is necessary to guarantee that the claimant receives a significant percentage of any eventual returns, providing them with strong incentives. To that purpose, a popular rule of thumb is to aim for a 10 (claimed damages) to 1 (financed expenses) ratio3. This method aims to achieve a balance between harmonising with the funder’s objectives and motivating the claimant by allowing them to retain the majority of the liquidated damages even after accounting for the funder’s return on investment. Although certain Litigation Funding Agreement (“LFA”) may depart from this proportion, major variations risk producing a severe incentive mismatch between the claimant and the funder.

Various funders have distinct minimum requirements regarding the funded costs4; factors such as the funder’s financial capabilities, internal risk appetite, and overall strategy all have an impact on such requirements. There however may be exceptions for claims that fall below these standards but provide outstanding risk-to-reward potential.

In addition to financial concerns, funders examine the likelihood of the case’s success, which entails a thorough examination of the claim’s merits as well as the strategies used to develop it. A funder will only commit if there is a strong conviction in the claim’s chances of success. On this, the counterpart’s financial ability to satisfy the claim, cover related costs, and complete interest commitments is crucial. Funders investigate the respondent’s payment history for arbitration award, for instance in circumstances involving state respondents.

Understanding the location of assets is also important, as the perceptions of a funder are greatly influenced by enforcement jurisdictions and arbitration venues5. The legislative structure at the arbitration seat, as well as the jurisdiction of enforcement, are critical in evaluating financing sustainability. The possible use of public policy arguments against the LFA during enforcement
actions can impact funders’ decisions, and jurisdictions with difficult enforcement processes may dissuade funders.

Lastly, it is paramount to consider variables such as time, since it may impact considerably the internal rate of return indicator (IRR) of the fund. This metric considers two critical variables: the net return adjusted for time. In simpler words, a higher return combined with a shorter time frame leads to a higher internal rate of return. This criterion is essential because it incorporates the duration of the investment period, providing a more comprehensive picture of investment performance.

As discussed above, the due diligence undertaken during the pre-contractual phase assumes a pivotal role in the decision-making process, thus requiring active collaboration and disclosure of all relevant information from the potential financed party. Actively engaging with the claimant’s legal team, scrutinising legal precedents, and gathering pertinent data all constitute imperative measures aimed at attaining a comprehensive and in-depth understanding of the case before proceeding with subsequent steps in the process.
Furthermore, it is in the funder’s best interest to include precise assurances -together with adequate penalties in the event of breach- in the Funding Agreement on the truth and completeness of information supplied by the funded party during the pre-contractual period6.

2. Negotiating Litigation Funding Agreements: Key aspects of negotiations and mutual expectations during this phase

Moving from a preliminary interest to a formalised agreement is a well organised procedure. If, after the above-mentioned preliminary assessment and evaluation of the disclosed information, funders are still interested in proceeding further, they will proceed by issuing a term sheet.

The essence of this term sheet is a non-binding agreement laying down the fundamental terms and conditions of the potential investment. It describes key features such as the quantity and timing of capital deployment, the return structure of the funder, and the payback waterfall7. Because funding transactions differ, returns can be structured in a variety of ways, such as a fixed multiple of the funding amount increasing over time, a percentage of the proceeds, or a combination of the two. The key word is flexibility: allowing for a return structure that may be modified to fit the individual demands of the claimant or the unique details of each case8.

Quite often, funders request an exclusivity period with the issuing of a term sheet, which implies that the claimant cannot seek financial assistance from other funders during this time. This exclusivity period serves as a safeguard for the funder, guaranteeing that their significant investment of time and money in evaluating the case was not in vain. This exclusivity may be requested as early as during the Non-Disclosure Agreement stage in some cases.

Moreover, Term Sheets frequently include a time limit, allowing the funder to investigate the case’s merits more thoroughly, if necessary. The complexity of the case often dictates the duration of this phase.

Funders often fund a wide range of cases, such as complex commercial litigation, international commercial and investment arbitrations, patent disputes and intellectual property issues, bankruptcy proceedings, and so on. Consequently, there are several issues that come into play in specialised practice areas of Litigation Funding. For these reasons, a multinational team with diversified expertise is required to fully assess the distinctive difficulties and possibilities they bring, as shown by the two examples below.

When it comes to intellectual property related claims9, for example, the due diligence process goes beyond the typical investigation, as such proceedings are notorious for having large litigation expenditures, several defendants, extensive discovery, expert expenses, concurrent hearings, and deep legal complexities. To determine the viability of funding, a detailed examination of the patent’s history, past litigation, licensing, and commercialization success, as well as prior art, prosecution history, and probable damages theories, is required.

Litigation funding finds prominent utilization in the domain of international arbitration, particularly in cases involving commercial or investment-related claims. In such cases, funders must also evaluate the quality of the arbitral tribunal, the location of the arbitration, the relevant laws, the enforcement procedures, and the estimated duration, which can sometimes provide for an extended timeframe.

Following acceptance of such a non-binding document, the case moves on to the structuring step. One of the most important duties at this stage is the drafting of the Litigation Funding Agreement, outlining all parties involved in the litigation financing process’s roles, obligations, and expectations.

The Funding Agreement is at the centre of the collaboration between investors and the funded party, detailing and legally binding their participation. It expresses the investor’s willingness to pay litigation costs or operating capital, and it highlights critical features of their obligations in the relationship, such as their commitment to cover such expenses and the distribution of returns.

Typically, a Litigation Funding Agreement incorporates the following fundamental provisions10:

  • Definitions: these clauses offer precise descriptions of key terms, fostering clarity andshared comprehension.
  • Funding: elaborating on the financial commitments and responsibilities of the funder.
  • Receipt and Allocation of Litigation Proceeds: it delineates the procedures for handling proceeds arising from the litigation and specifies the allocation and distribution of funds. Any additional commitments made by the claimant may be documented separately.
  • Settlement: it provides guidelines for negotiating, accepting, or declining settlements. While most funders require notification of settlement negotiations, the genuine acceptance or rejection of a settlement offer typically remains entirely within the client’s purview11. Provisions deviating from this approach could contravene legal or ethical rules prohibiting third-party interference in an attorney’s independent professional judgment.
  • Confidentiality and Document Provision: these clauses address the safeguarding of sensitive information and outline document-sharing procedures.
  • Duration of Agreement and Termination Rights: they define the duration of the agreement’s validity and the conditions and procedures for early termination.
  • Indemnification: these provisions concern financial compensation for losses or damages.
  • Governing Law, Jurisdiction, and Venue: outlining the legal framework governing the agreement, including the jurisdiction for resolving legal disputes.

These sections collectively constitute the essential components of Funding Agreements, addressing critical items such as pricing specifications, payment arrangements and the specific waterfall of payments in the event of a successful claim outcome, as well as laying down all rights and obligations of the parties. The degree of power that can be exercised by the Funder is also a core provision of this document, establishing a robust framework for the intricate and sensitive relationship between investors and litigants, thus ensuring that their rights and responsibilities are transparently defined and executed.

Drafting the Funding Agreement is a crucial step that demands customization to align with the particularities of the case. Funders can provide unique options, such as an initial monetization payment in return for a higher portion of any prospective judgment, portfolio funding, case assignments, or funds to buy claims. Therefore, it is of utmost importance to tailor Funding Agreements to the unique features and potential outcomes of each case, thereby ensuring comprehensive coverage of all relevant aspects.

Lastly, it must be noted that LFAs can also have the value of principal protection for Funders, who do not often seek additional security interests12. In fact, they often have a restricted range of rights under this agreement, providing a fair allocation of power and responsibility. As a result, Funders can frequently be concerned when departing considerably from the LFA’s main conditions, as any changes might damage their ability to recoup their investment in the case of a successful settlement.

3. Return structure in Litigation Funding Agreements

The return structure in Litigation Funding Agreements can take several shapes. Funders often demand a success fee that can vary from 20% to 40% of the proceedings, where a predetermined portion goes to the claimant, and another portion is assigned to the Funder.

Alternatively, it might follow a pattern of specified multiples of the invested capital (MOIC)13, with these multiples progressively increasing with the duration of the legal proceedings. The precise fee proposed is determined by the Funder’s opinion of the risk level of the investment, with riskier projects usually requiring larger fees.

Quite often, the chosen method could be a blend of both these approaches, creating a balanced and equitable allocation of proceeds. Such meticulous structuring, regardless of the selected one, serves to guarantee that it aligns the interests of all parties involved throughout the litigation process and supports equitable and prudent settlements.

In a nutshell, the structure of returns might differ based on the facts of the situation. Nonetheless, there are several fundamental rules that are typically applicable. With a few exceptions, the Funder usually recoups at least their initial investment as preferred return from
any earnings.


This initial stage of the Litigation Funding process is a sophisticated and varied practice that extends far beyond just providing financial support for legal claims. It dives into numerous essential issues that need a careful balance of different factors, such as financial acumen, legal experience, and strategic insight. It emphasises the significance of due diligence, strategic considerations, and risk assessment in establishing a mutually beneficial partnership between investors and claimants.

A significant element in this case is the alignment of interests. The Litigation Funding process motivates investors to support cases they believe will succeed by linking funders’ compensation to the perceived risk of the investment through methods such as success fees and MOIC. This fosters a shared goal of achieving favourable outcomes and contributes to the fairness and equity of settlements.

In essence, this first phase represents a dynamic and changing practice that plays an important part in current judicial and arbitral proceedings.

This article is published as part of the collaboration between Citizen Avocats and the Club de l’arbitrage.

  1. See S. SEIDEL, “Third-party investing in international arbitration claims: To invest or not to invest? A daunting question” in B. CREMADES and A. DIMOLITSA (eds.), Dossier X: Third-party Funding in International Arbitration, Paris, ICC Publishing S.A., [2013].
    Also, M. SCHERER, A. GOLDSMITH and C. FLÉCHET, “Third Party Funding in International Arbitration in Europe: Part 1 – Funders’ Perspectives”, RDAI/IBLJ [2012]. ↩︎
  2. In many cases, external professionals may conduct this due diligence, brining specialized knowledge and skills to scrutinize the case from various angles, such as legal, financial, technical, or industry-specific perspectives. Their involvement ensures an objective and impartial evaluation of the intricate technical aspects involved in the case. This collaborative approach enhances the overall diligence process, minimizing potential biases and contributing to a more robust evaluation. ↩︎
  3. See International Council for Commercial Arbitration, ‘Report of the ICCA-Queen Mary Task Force on Third Party Funding in International Arbitration’ (The ICCA Reports No. 4, International Council for Commercial Arbitration), (April 2018), pp 25-26. The Report is accessible at ↩︎
  4. Litigation funders typically invest millions in high-value litigation and arbitration, with a minimum commitment of $2 million per transaction. Data from Westfleet Advisors’ 2022 Litigation Finance Market Report indicates an average deployment of $2.3 million per single-case agreement and $4.5 million per portfolio agreement over the last 5 years. In 2021, the average value of new single-case arrangements for commercial funders was $3.5 million, while portfolio arrangements averaged $8.5 million.
    The report is available at ↩︎
  5. B. GUVEN & L. JOHNSON, “The Policy Implications of Third-Party Funding in Investor-State Dispute Settlement”,
    [2019], available at ↩︎
  6. It is paramount that the client assumes a role of utmost transparency and forthrightness, undertaking the responsibility of affirming and guaranteeing that every piece of information associated with the claim has been duly disclosed to the Funder. This information, beyond being comprehensive, should be marked by its accuracy and truthfulness. The accuracy and comprehensiveness of the disclosed information are not merely procedural requisites but substantive determinants of the case’s viability, as the divulged information holds a pivotal role in shaping the terms and conditions of the Funding Agreement. ↩︎
  7. A waterfall of payments sets out the order of payment, namely how -eventual- proceeds of the claim will be divided. In line with the “first money out” payment structure, generally, the claim holder will receive his shares of the proceeds after the funder and, in case of contingency fees being allowed, the counsel. See M. Steinitz, ‘The Litigation Finance Contract’ (2012) 54 WM. & MARY L. REV. 455, 467-471. ↩︎
  8. The client’s risk tolerance and their evaluation of the expected recovery determine which model to choose. The fixed multiple strategy may be preferred in cases with high recoveries since the customer keeps more upside. In low-recovery conditions, the fixed multiple may be less advantageous. The percentage of profits strategy can guard against negative risks, but in high-recovery scenarios, it may need sharing more upside. Hybrid models provide a solution that appeals to both parties by spreading risk and reward equitably across diverse circumstances. See T. Healey, M.B. McDonald, and T.S. Haley, ‘Litigation Finance Investing: Alternative Investment Returns in the Presence of Information Asymmetry’ [2022] 24(4) The Journal of Alternative Investments 110-122. ↩︎
  9. For more on this subject see R. Korok, ‘Third-Party Funding of Patent Litigation: Problems and Solutions’ (June 1, 2022). Available at ↩︎
  10. The structure of the LFA is influenced by several factors, including the type of investor involved, whether they are ad hoc institutional investors like hedge funds or banks, or specialized institutional investors, the specific requirements and needs of the funder, regulatory or ethical constraints that may apply, and tax implications and considerations. See M. Steinitz, ‘The Litigation Finance Contract’ (2012) 54, William & Mary Law Issue 2, Article 4. ↩︎
  11. In the absence of specific regulations governing third-party funding, veto rights are determined by the contractual agreements of the involved parties. It is customary to incorporate within the LFA a provision granting the funder the right to be consulted concerning potential settlements. In doing so, the parties often establish predefined limits, both minimum and maximum amounts, which circumscribe the funder’s authority to veto. Simultaneously, these funding agreements typically outline an exit mechanism to be activated if the claimant and the funder cannot come to a consensus on a particular settlement. In this context, it must always be born in mind that, in light of the independence of the claimant’s lawyer from the third-party litigation funder, a direct approach of the funder in order to instruct the lawyer during the proceedings is not permissible.
    See Z. D KRUG, C. MORRIS, H. EATOCK et al. ‘Litigation Funding’ 2022, eds. Steven Friel and Jonathan Barnes (London, UK: Law Business Research, Nov. 2019), The publication is consultable at ↩︎
  12. M. Harwood, S. Batifort, and C. Trahanas, ‘Third-Party Funding: Security for Costs and Other Key Issues’ in Barton Legum (ed), ‘The Investment Treaty Arbitration Review’ (Law Business Research, 2017) 2, 103. ↩︎
  13. MOIC is a popular term for evaluating the performance of private equity firms, and it is regarded for its emphasis on the absolute performance of a fund. However, it is important to highlight that it only examines an investment’s absolute profitability without respect for the investment’s time span. For this reason, it is important to carefully estimate the length of the proceedings, in order to distribute the MOIC accordingly. ↩︎
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