Screening Legal Claims Based on Third-Party Litigation Finance Agreements and Other Signals of Quality

The advent of third-party litigation finance introduces a new gatekeeper to the legal process. Before deciding to lend money to a plaintiff, a litigation finance company will conduct at least some review and make an assessment of the quality of the case.Since litigation finance loans are generally non-recourse, a litigation finance company is likely to refuse to loan money to plaintiffs with the weakest cases. Such voluntary claim screening may improve social welfare by reducing the incidence of frivolous claims. But the volume of frivolous claims may still be higher than it would be in a world without third-party litigation finance. In particular, third-party litigation finance companies, which lend money to litigants to enable them to pursue cases, might sometimes finance claims that would have a very low probability of prevailing at trial on the assumption that such claims may encourage nuisance settlements. This danger may be greater than when a plaintiff self-finances, because the provision of outside financing may help make credible a threat to proceed to trial in the absence of a settlement. This possibility makes the social welfare consequences of alternative litigation finance an empirical question. Surely, many financed claims will be meritorious, in the probabilistic sense that if the plaintiffs were to receive financing, they would be more likely than not to win at trial. It is uncertain, however, whether the beneficial economic effects of enabling such claims outweigh the negative effects of facilitating claims that courts are highly likely to reject. The answer may vary based on the type of claim or the type of litigation finance arrangement