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Putting Money on Lawsuits, Investors Share in the PayoutsBy BINYAMIN
APPELBAUM<http://topics.nytimes.com/top/reference/timestopics/people/a/binyamin_appelbaum/index.html?inline=nyt-per>

Large banks, hedge funds and private investors hungry for new and lucrative
opportunities are bankrolling other people’s lawsuits, pumping hundreds of
millions of dollars into medical malpractice claims, divorce battles and
class actions against corporations — all in the hope of sharing in the
potential winnings.

The loans are propelling large and prominent cases. Lenders including Counsel
Financial <http://www.counselfin.com/>, a Buffalo company financed by
Citigroup<http://topics.nytimes.com/top/news/business/companies/citigroup_inc/index.html?inline=nyt-org>,
provided $35 million for the lawsuits brought by ground zero workers that
were settled <http://www.nytimes.com/2010/06/11/nyregion/11zero.html>tentatively
in June for $712.5 million. The lenders earned about $11 million.

Most investments are in the smaller cases that fill court dockets. Ardec
Funding, a New York lender backed by a hedge fund, lent $45,000 in June to a
Manhattan lawyer hired by the parents of a baby brain-damaged at birth. The
lawyer hired two doctors, a physical therapist and an economist to testify
at a July trial. The jury ordered the delivering doctor and hospital to pay
the baby $510,000. Ardec <http://www.ardecfunding.com/> is collecting
interest at an annual rate of 24 percent, or $900 a month, until the award
is paid.

Total investments in lawsuits at any given time now exceed $1 billion,
several industry participants estimated. Although no figures are available
on the number of lawsuits supported by lenders, public records from one
state, New York, show that over the last decade, more than 250 law firms
borrowed on pending cases, often repeatedly.

The rise of lending to plaintiffs and their lawyers is a result of the high
cost of litigation. Pursuing a civil action in federal court costs an
average of $15,000, the Federal Judicial Center reported last
year<http://www.fjc.gov/public/pdf.nsf/lookup/dissurv1.pdf/$file/dissurv1.pdf>.
Cases involving scientific evidence, like medical malpractice claims, often
cost more than $100,000. Some people cannot afford to pursue claims; others
are overwhelmed by corporate defendants with deeper pockets.

A review by The New York Times and the Center for Public
Integrity<http://www.publicintegrity.org/> shows
that the inflow of money is giving more people a day in court and arming
them with well-paid experts and elaborate evidence. It is helping to ensure
that cases are decided by merit rather than resources, echoing and expanding
a shift a century ago when lawyers started fronting money for clients’
lawsuits.

But the review shows that borrowed money also is fueling abuses, including
cases initiated and controlled by investors. A Florida judge in December
ordered an investment banker who orchestrated a shareholder lawsuit
againstFresh
Del Monte Produce<http://topics.nytimes.com/top/news/business/companies/fresh-del-monte-produce-inc/index.html?inline=nyt-org>
to
repay the company’s legal expenses, ruling that the
case<http://www.3dca.flcourts.org/opinions/3D07-3130.pdf> should
not have reached trial.

Such financing also drains money from plaintiffs. Interest rates on lawsuit
loans generally exceed 15 percent a year, and most states allow lawyers that
borrow to bill clients for the interest payments. The cost can exceed the
benefits of winning. A woman injured in a 1995 car accident outside
Philadelphia borrowed money for a suit, as did her lawyer. By the time she
won $169,125 in 2003, the lenders were owed $221,000.

Lawyers are not required to tell clients that they have borrowed money, so
the client may be unaware that there is financial pressure to resolve cases
quickly. Lenders also seek detailed information about cases, which can
jeopardize client confidentiality. A federal judge in Delaware ruled in June
that a company suing
Facebook<http://topics.nytimes.com/top/news/business/companies/facebook_inc/index.html?inline=nyt-org>
for
patent infringement had to show Facebook documents that its lawyer had
shared with a lender.

Citing these issues, critics of lending for lawsuits say the practice should
be banned.

“It sends shivers down the spines of general counsels all across the globe,”
said Lisa A. Rickard of the Institute for Legal
Reform<http://www.instituteforlegalreform.com/>,
an arm of the United States Chamber of
Commerce<http://topics.nytimes.com/top/reference/timestopics/organizations/c/chamber_of_commerce_us/index.html?inline=nyt-org>
.

But proponents, who argue that people often need help to fight corporations,
have won a series of victories in state courts and legislatures in recent
years, overturning old laws that prohibited investments in lawsuits.

“If you want to use the civil justice system, you have to have money,” said
Alan Zimmerman, who founded one of the first litigation finance companies in
1994, in San Francisco, now called the LawFinance
Group<http://www.lawfinance.com/>.
“If there’s less money, you’d have less litigation. But then you’d also have
less justice.”

*A Case in Point*

A legal battle between residents of a faded Texas factory town and the BNSF
Railway, the nation’s second-largest railroad company, highlights what some
see as the benefits and others see as the excesses of lawsuits driven by
borrowed money.

Somerville, Tex., 80 miles northwest of Houston, has hosted the noxious work
of treating wood to make railroad ties for more than a century. The railroad
runs through the town, dividing a small grid of residential streets from the
lumber yard and treatment plant where stacks of wood are soaked in
preservatives.

Dennis L. Krueger crossed the tracks to begin work at the factory the week
after he graduated from the local high school, in 1974. Three decades later,
he was found to have a malignant skin cancer that his doctor said was most
likely caused by prolonged exposure to creosote, the tar oil in which the
ties are soaked.

Mr. Krueger, who is 54 but looks much older, reduced by manual labor and
medical treatment, is suing the railroad for damages, claiming that BNSF
failed to provide basic safety equipment or to warn workers that the federal
government had linked creosote with skin cancer. He recalled cleaning the
inside of the treatment tanks wearing no safety gear except steel-toed boots
and mule-skin gloves.

“I got so high off that stuff I’d be laughing one minute and crying the next
minute,” said Mr. Krueger, sitting at the local Dairy Queen beneath old
photographs of factory workers. “I’ve got a 2-year-old grandson. My goal was
to live to 101. What I’d like is a fair shake from the railroad for missing
out.”

Mr. Krueger’s lawsuit is financed by investors he has never met. His lawyer
from Houston, Jared R. Woodfill, has borrowed more than $3.5 million from a
New York hedge fund run by Stillwater Capital
Partners<http://www.stillwatercapital.com/>,
in a deal arranged by the litigation finance specialist Oxbridge Financial
Group <http://www.oxbridgefg.com/>, also based in New York.

Mr. Woodfill first drove to Somerville in 2000 to meet with a former factory
worker who has since died of skin cancer. He said that his work on that
worker’s case, which BNSF agreed to settle in 2003, convinced him that toxic
emissions from the factory had poisoned the town’s air, water and land.

Mr. Woodfill, who is 42 and the chairman of the Republican
Party<http://topics.nytimes.com/top/reference/timestopics/organizations/r/republican_party/index.html?inline=nyt-org>
in
Harris County, is empathetic and well-spoken. He found a ready audience in
Somerville, which has declined with the railroad industry. The population
peaked in the 1930s. About 1,700 people still live in the timeworn
residential section, but automation has further reduced employment at the
factory, and a quarter of the households now live in poverty. Residents with
a wide range of health problems embraced the idea that the factory was
responsible.

Mr. Woodfill signed up workers with skin cancer, like Mr. Krueger, and those
with gastrointestinal cancers that he says can be caused by the chemicals
used at the factory. He also signed up Somerville residents who never worked
at the factory but had developed cancers. And he signed up property owners
with no health problems, arguing that the value of their property had
suffered.

About 400 people sued the railroad — almost a quarter of the town’s
residents.

Oxbridge spent several months reviewing the cases before agreeing to arrange
the financing, sending lawyers to Texas to look at documents and to question
Mr. Woodfill and his partners. Stillwater Capital is charging about 16
percent annual interest.

“But for a hedge fund, I couldn’t afford to take on a railroad,” Mr.
Woodfill said.

BNSF’s general counsel, Charles Shewmake, said the company had carefully
reviewed claims <http://www.somervillefacts.com/> brought by its former
workers and decided they had no merit. He said the claims by Somerville
residents who did not work at the factory were “physically impossible and
without any scientific basis.”

Company executives were outraged when they learned that a hedge fund was
backing the lawsuits, Mr. Shewmake said. He said that BNSF had been forced
to spend millions of dollars mounting its courtroom defense and defending
its reputation.

“They’re stirring up cases that don’t need to be in the courthouses,” he
said.

*An Opportunity for Lenders*

Lawsuit lending is a child of the subprime revolution, the mainstream
embrace of high-risk lending at high interest rates that began in the early
1990s.

Mr. Zimmerman, the founder of the LawFinance Group, practiced law for more
than two decades before moving into finance in California in 1992. A lawyer
friend called to ask if he would lend to a client who had won a sexual
harassment lawsuit. The woman’s former employer had appealed, and she needed
money for living expenses or she would be forced to take a smaller
settlement.

Mr. Zimmerman invested $30,000 in the case; the former employer almost
immediately dropped the appeal and paid out the verdict. Mr. Zimmerman made
$20,000.

“I said: ‘That’s an interesting way to make money. Is there a way to turn
that into a business?’ ” he recalled. The company he created has since
invested more than $350 million in litigation.

Others in the lending business saw the same opportunity at about the same
time, including a mortgage salesman in Buffalo; a subprime auto lender from
Nashville; and a Las Vegas man who had been convicted of threatening
borrowers who failed to repay his previous business, Wild West Funding.

By the late 1990s, several of those companies were also making loans to
lawyers. Plaintiffs needed small sums for living expenses; their lawyers
needed much larger sums to mount cases, and they had few other options.
Banks make loans against assets, and law firms generally have little
property to pledge as collateral.

The new lenders jumped into the void. LawFinance’s slogan is “We do what
banks won’t.”

The industry’s great innovation, and still its defining trait, is the
willingness to lend based on the potential value of unresolved cases.

The roughly one dozen major lenders tend to cultivate an image of
conservative prudence. Counsel Financial, which bills itself as the largest,
with more than $200 million in outstanding loans to law firms, shares a
suburban office building outside Buffalo with an insurance firm.

But the work sits somewhere between banking and gambling. Lenders employ
experienced lawyers to judge the strength of cases. They consult databases
showing the results of similar lawsuits, just as appraisers value homes
based on recent sales. A corporate defendant may have a history of battling
personal injury claims; or juries in a specific county may have a history of
siding with local employers. Then they place their bets. Counsel will invest
up to $10 million in a law firm.

The returns can be lucrative. Counsel Financial charges 18 percent annual
interest. “If firms have access to lower-cost financing, our first comment
back to them is that you really shouldn’t be talking to us,” said Paul R.
Cody, president of Counsel Financial. “We’re not going to be competitive”
with the interest rates charged by banks.

Law firms are generally obligated to repay loans even if they lose. In
reality, however, firms that make less than expected often struggle to make
the required payments, and a number of firms that borrowed from Counsel
Financial have filed for bankruptcy protection.

Increasingly, banks are making lawsuit loans, too. During the lending boom
of the last decade, companies including Citigroup, Commerce Bank of New
Jersey and Credit
Suisse<http://topics.nytimes.com/top/news/business/companies/credit_suisse_group/index.html?inline=nyt-org>
provided
financing for lawsuit lenders. More recently, some banks have started
cutting out the middlemen. Deutsche
Bank<http://topics.nytimes.com/top/news/business/companies/deutsche_bank_ag/index.html?inline=nyt-org>
recently
refinanced one of Counsel’s largest clients, the New York firm Napoli Bern
Ripka. TD Bank, which absorbed Commerce, lends to lawyers and plaintiffs.

The founders of LawCash <http://www.lawcash.net/>, a Brooklyn lender, won a
charter from New York in 2006 to establish Esquire
Bank<http://www.esquirebank.com/>,
the first American bank to specialize in the business of financing lawyers
and lawsuits.

*Defendants on the Defensive*

A recent Nevada case illustrates one reason many companies are troubled by
the rise of financing: They fear that investors will move from supporting to
producing lawsuits.

Steven and Roz Flans left Los Angeles in 2004 for Sun City Anthem, a
sprawling retirement community of 7,000 one-story homes, from ranches to
mansions, at the edge of the Las Vegas basin. When the gas fireplace stopped
working during their third winter in the desert, the couple contacted their
home builder, Del Webb.

“We called and said, ‘We have a minor problem,’ ” Mr. Flans recalled. “And
they said: ‘We can’t talk to you. You’re suing us!’ ”

It emerged that the Flanses had accepted a free home inspection the previous
year from a company, MC Mojave Construction, that had papered their
neighborhood with brochures. They said they did not realize that the forms
they signed authorized MC Mojave to sue Del Webb on their behalf for the
money to correct any problems.

By 2008, MC Mojave had initiated more than 500 lawsuits against Del Webb.
The company acted as an investor, providing inspection reports to the Las
Vegas law firm that handled the cases in exchange for a share of any
winnings.

Del Webb sued MC Mojave, arguing that Nevada law prohibited fomenting and
investing in lawsuits. Jacque Petroulakis, a company spokeswoman, said that
Del Webb would have fixed legitimate problems under its warranty policy, and
that the lawsuits served solely to make money for MC Mojave and the law
firm.

“They were throwing people into litigation that many of them never
anticipated or wanted,” Ms. Petroulakis said.

MC Mojave did not return calls for comment, but in court filings, it called
the Nevada law “medieval” and said it should not be enforced. The company
said it was providing a service at the request of the homeowners.

This year, a federal judge
barred<http://docs.justia.com/cases/federal/district-courts/nevada/nvdce/2:2008cv00571/59847/89/>
MC
Mojave from initiating further lawsuits, ruling that Nevada law indeed
prohibits such investments.

But a growing number of states have eliminated similar laws.

The Massachusetts Supreme Judicial Court started the
trend<http://caselaw.findlaw.com/ma-supreme-judicial-court/1089373.html>
in
1997, citing a “fundamental change in society’s view of litigation — from a
social ill, which, like other disputes and quarrels, should be minimized, to
a socially useful way to resolve disputes.”

South Carolina, Texas and Ohio are among the states that have followed.

Stephen C. Yeazell, a law professor at the University of California, Los
Angeles<http://topics.nytimes.com/topics/reference/timestopics/organizations/u/university_of_california/index.html?inline=nyt-org>,
and a leading historian of the civil justice system, said the trend was
likely to continue. He said there was little legal justification for
allowing lawyers to pay for cases but barring third parties from doing so.
“This is another step in leveling the playing field between plaintiffs and
defendants,” Mr. Yeazell said.

*Gathering Plaintiffs*

Anthony Flammia, a former New York City police officer who spent three
months working in the wreckage of the World Trade Center, did not learn that
his lawyers had borrowed money to pursue his claim of compensation for
health problems until he received a bill for $828.93 in interest charges.

Mr. Flammia left ground zero at the end of 2001 for a job with a suburban
police department. A few years later, a passer-by found him asleep in his
patrol car. His health had been deteriorating, and the episode prompted him
to visit a free clinic established to treat ground zero workers for the
consequences of inhaling dust. He was found to have sleep apnea and scarring
in his lungs. In 2007, he passed out after inhaling smoke at a house fire
and was forced to retire.

Lawyers led by Napoli Bern Ripka sued the City of New York and a host of
agencies and companies on behalf of more than 9,000 ground zero workers.
When Mr. Flammia signed up as a client, the paperwork included a general
notice that the lawyers might borrow money to pursue the case, and that they
might bill clients for the interest.

Mr. Flammia said he did not see the general warning, and there was no
further notice as the lawyers borrowed more than $35 million.

In June, the city and other defendants agreed to settle the case for up to
$712.5 million. The workers have until Tuesday to approve the settlement.
Workers received letters detailing how much they would receive, and how much
the lawyers would keep to cover the costs of pursuing the case.

Among the costs billed to clients was $6.1 million of the $11 million in
total interest payments, which the law firms said reflected the share of the
borrowed money covering the workers’ expenses.

Lawsuit lenders, including Counsel Financial, encourage lawyers to bill
clients. They advertise in trade magazines that lawyers can borrow money
free if the client is paying the interest. Bar associations in most states,
including New York, condone the practice.

Paul J. Napoli, one of the lead lawyers representing the ground zero
workers, said that the firm needed money to pursue the case, that the loans
were taken at the lowest available interest rates and that clients were
properly notified.

“We followed the rules. Do people want to have it sky-written over their
house every day?” Mr. Napoli asked. “They didn’t read it. Or maybe they
didn’t care at the time. At what point do people have a self-responsibility
to read something and be bound by it?”

But Mr. Flammia and other workers said they had not agreed that the law firm
could pay for its work by borrowing money at their expense.

“If I’m ever involved in a lawsuit again, I’m going to be very careful and
read every document line by line,” Mr. Flammia said. “I’m also going to find
a lawyer who is acting on my behalf and not to line their own pockets.”

The judge overseeing the case, Alvin K.
Hellerstein<http://topics.nytimes.com/top/reference/timestopics/people/h/alvin_k_hellerstein/index.html?inline=nyt-per>
of
the Federal District Court of Manhattan, ordered the lawyers to swallow the
cost.

Judge Hellerstein acknowledged that the charges were legal, but said that
the lawyers already were earning enough from the case. He said that it was
not clear that clients had understood or approved the decision to borrow,
and that it was clear that clients had no control over how the money was
spent.

The workers, Judge Hellerstein said, “want to have the fruits of this
settlement not diminished by an effort of lawyers to finance much of the way
that they work this case.”

*A War of Attrition*

The residents of Somerville, Tex., have yet to win a trial.

The case of Linda Faust, who never worked at the railroad plant, was the
first to reach court, in 2008. She had stomach cancer.

The jury deliberated three days before deciding that BNSF was not
responsible.

The following year, a jury ruled against Dennis Davis, a former worker at
the factory with pancreatic cancer.

Mr. Woodfill’s nine-lawyer firm, Woodfill & Pressler, has spent more on the
Somerville cases than any of its previous litigation. Win or lose, it must
repay Stillwater, the hedge fund that is bankrolling the cases. Mr. Woodfill
said he remained confident that the cases could be won. He is appealing the
two losses and preparing for a third trial next year.

He drove through Somerville recently on his way to meet with clients,
rolling down the windows so the smell of the factory came into the car.
“They’re hoping to spend us into the ground and make us go away, but we’re
not giving up,” he said.

Mr. Shewmake of BNSF said the company was braced to continue fighting the
cases until Stillwater ran out of patience.

“Right now,” he said, “I’d say it’s starting to look like a bad investment
decision.”

This project was initiated by the Center for Public Integrity, a nonprofit
investigative news organization in Washington. It is based on reporting by
Ben Hallman of the center and Binyamin Appelbaum of The Times, and was
written by Mr. Appelbaum.

--
Eric D. Schwerin
Rosemont Seneca Partners
(202) 333-1880
eschwerin@rosemontseneca.co