The COVID-19 pandemic is forcing business leaders across all industries to rethink much of their strategic approaches, from serving their clients to financial planning. The predicament is much the same for contingency fee law firms seeking to navigate the new normal. Law firm financing is perhaps more challenging than it has ever been as a result of intakes being down due to stay-at-home orders and cases taking longer to resolve due to court closures. In today’s economic environment, it is more critical than ever that law firms choose the best financial solutions to ensure they can achieve the best results for their clients while running a successful business.
Even in the best of times it can be challenging to juggle the daily demands of representing many individuals in their times of need, while also managing the finances of a business with unpredictable, irregular cash flow, and paying for the case costs necessary to achieve justice. The ebbs and flows of a contingency fee law firm’s cash flow, the unpredictable timelines for settlements and verdicts, coupled with the daunting prospect of rising, expensive case costs –make financial planning critical.
The good news is contingency fee law firms have alternatives when it comes to paying for the case costs. One approach is to pay for case costs out of pocket: also known as being self-financed. While this approach saves a firm from taking on debt, it’s also limiting as the amount of new cases a firm can pursue is potentially restricted by the financing that can be self- provided. Further, self-financed law firms are essentially giving their clients interest-free loans in the form of cases costs. To make matter worse, these firms are using their after-tax dollars to provide these interest free loans. This occurs when law firms earn their fees, pay their taxes and then use a portion of those after-tax dollars to pay for their clients’ case costs. This is not a business model that makes sound business sense in the best of economies, let alone in the current recession when liquidity is so important. Moreover, there are so many better uses for a law firm’s after-tax dollars than sitting in their cases depreciating over time. Law firms that pay for case costs out of pocket are counselors and creditors to their clients. This can make for difficult, sometime conflicting financial decisions when it comes to accepting new cases or hiring the team of experts that may be necessary to achieve to most compensation for an inventory of clients. Ultimately, it can stunt the potential growth of a firm and/or limit the amounts firms can invest in their cases.
Another option available to contingency fee law firms is to obtain a loan or a line of credit from a bank. This financing method opens the door to expanding a firm’s ability to take on new cases and fund current cases to the fullest extent possible – a goal virtually all firms strive to accomplish. It also reduces a lawyer’s personal exposure to risk by negating the need to use individual assets. However, traditional banks’ struggle to appreciate the unique financial structure that contingency fee law firms have as compared to other customers with more typical revenues and predictable cash flow such as a manufacturing company. Additionally, traditional banks typically have annual clean-up provisions, restrictive lending requirements, and other constraints that simply do not sync well with a typical contingency firm’s irregular revenue, unpredictable cash flow and resulting unique financial needs.
Law firm lending requires bankers to go beyond a traditional view and to look forward, not just backwards, when analyzing a law firm’s assets and understanding a law firm’s credit needs. Instead of making credit decisions solely based upon a law firm’s financials and tax returns (which represent what the law firm has generated in revenue in the past) they also need to appreciate the value of the law firm’s case inventory and the unique nature of the law firm’s underlying case costs. The firm’s projected fees in the future and the case costs expended and needed to prosecute those cases should be viewed as assets that have real value and can be lent against. This would generally allow banks to extend law firms more credit that could benefit the law firm’s clients and potentially be used for business development.
Various case cost financing solutions provide a range of options for law firms and their litigation funding needs. By offering a master line of credit specifically for case costs, and providing tools to monitor, track and manage the related financial accounting, all provided with single digit bank rates, case cost financing from a bank provides a tremendous opportunity that derives benefits to law firms looking for staying power or growth and their clients alike.