Manolete Partners & Insolvency Litigation Finance | In Practise

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Manolete Partners & Insolvency Litigation Finance

Former Investment Manager, Augusta Ventures LLP

Why is this interview interesting?

  • Fundamentals of insolvency litigation
  • Why Manolete's returns are so good
  • Questions to ask Manolete management
  • How to recover assets and Burford's collection strategy
  • Outlook for litigation management

Executive Bio

Former Investment Manager

Former Investment Manager, Augusta Ventures LLP

The executive is a Former Senior Investment Manager at Augusta Ventures, a leading litigation financing company. The exec has experience in investing in solvency litigation cases as well as broader litigation single and portfolio of cases and is now a practicing lawyer in Australia.Read more

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Interview Transcript

As I see it in litigation finance, are that you're working directly with a law firm or you're working with a corporate through a law firm. With insolvency, you obviously have IPs in the mix. Understanding what it’s like to work with IPs when they may be bringing you a claim, getting a signed claim versus funding a law firm at the choice of the IP and how they might think about those things, all that stuff.

When I did insolvency funding, the first big issue was recovery, which was making sure that there were assets that could be recovered against the targets. Often, it would be a claim against the directors for insolvent trading and recovering their assets. There needed to be in-depth analysis about whether, firstly, the director has assets or if he's hidden them in some other way; doing some investigation and being satisfied on that. Another issue that crops up for the IP is that they want to make some money as the litigation is running, so as a sweetener, they usually like to be paid something from the funder as the case is running. That way, they're able to build some income for the time they spend running the litigation because they're the ones providing the instructions. They’re stepping in the shoes of the company.

I think the good thing about insolvency is that if there has been a breach of the corporation's act or the company's law or company's act in the UK, it's a relatively straightforward process in terms of recovery and proving your case. It's not as difficult as a breach of contract claim or something like that; it's a bit more straightforward because it's legislated. It's more a simple stream of types of cases. Sometimes you get some complex litigation when you have multiple company structures where you're trying to pursue numerous different companies and trace where the money went. When a group of companies goes bust, it becomes more complex and expensive to run that type of litigation.

The other thing that is important to consider is the economics of each case. Yes, there is potentially a claim for, say, £2 million against this director, but what will it cost to recover that amount from this director. Then you work out the money left over and what we can realistically charge for this case. Depending on the economics, you can charge anywhere between one and three.

That seems like a really big range. If you look at Manolete, and they show their vintage tables, again, it's a bit of a different model, but they show something like 3X multiple on an 11-month duration. Part of it is they would say, well, 95% of claims settle, and this is fundamentally not a deployment model. I’m curious if you would expect multiples to be higher if you settle quickly?

It depends on how you structure the deal. We used to do staging with our cases at Augusta where you would try to 1X if we received the funds back within the first 12 months and 2X the second year, and then 3X if it took more than two years, because the risk and cost go up the longer a case goes on. So 3X in 11 months is probably unusual.

They do it in tiers, their structure is effectively, we are going to take all the costs of this claim, we might even pay you six or seven cents on the dollar, the headline value to the IP and at this level of recovery, dollar amount wise, we're going to take 50/50. If it goes over that, it ratchets up to 60, and then it ratchets up to 70 or something like that. If you look at their multiples, for some of these, they've only shelled out £5,000, and they come to the table and say, hey, they get 50 cents on the dollar. I guess under that model, is it surprising to you that they are achieving those multiples?

It does sound quite attractive as an investment. This is just my gut feeling, but they probably have these relationships with insolvency practitioners. They say show us your portfolio of cases, and we'll offer you a facility to your cases that get signed off by our lawyers. Effectively, we'll have the same deal for all of your portfolio, so then that way, the insolvency practitioner doesn't have to run around to different funders to try and find funding. They've got this facility, with Manolete, where Manolete gets a good deal, and then the insolvency practitioner gets a good deal because they can have this access to funds quite quickly.

That £5,000 example is probably a situation where they've given a loan of £5,000 on spec to do some investigations, and then it's resolved within a settlement just by luck and by chance. So it's seen as a high-risk investment from the funder's perspective, but it's also rewarded with a high return. If the investigations don't find anything, then that £5,000 will get written off by the funder. So these are probably examples where they have written off funds from investigation. If I were you, I would ask them to tell you how much funds they've written off on preliminary investigations and compare that to the risk-return ratio. They're just showing you one example where they've put £5,000 down, and they've gotten that return. If you look at it as a basket of how many of those little £5,000 loans they've made at high risk and then compare that to the actual return, that will give you a clearer picture of what they're getting back on those preliminary funding deals.

Another thing about that is they’ve got maybe 10 in-house lawyers, and those multiples don't take into account if you were to capitalize the in-house lawyer costs. If you were to capitalize those into the vintage at cost, then they would be quite different numbers.

They’re probably showing you gross returns, not net returns, by case. So it would be good to understand what their break-even point is on an annual basis. What does it cost to run the firm on a yearly basis, and then average that out between the number of cases they've funded? That will give you a new idea of the break-even point.

In insolvency or, across most cases, one of the things that they say is that their average claim value is £500,000, so it's quite small. Is that something that you all would have been competing for if it was a, let's say, £300,000 claim?

Once funders get to a certain size, they start turning their nose up at smaller claims because the return isn't as attractive as the larger claims. At Augusta, we started small when we first started the fund, and the maximum we could lend at the beginning was around £250,000 in a case. That gradually increased as we grew because we had a debt wrapper policy. Hence, the initial investor got a back-to-back insurance policy with a large insurer that does ATE insurance in the UK. We had to pay a premium to the insurer for every pound that we loaned out so that the investor wasn't taking a risk for the first five years. If the fund didn't profit within five years, then the insurer would have had to pay that loss to the initial investor. I'm not sure; you should ask Manolete if they have a debt wrapper insurance policy to cover investors.

On the topic of insurance, one of the things that is part of their pitch to IPs is that they like to take assignments of claims, even though they still have some profit-sharing metric, even though they take full assignment of it, and then they fully cover ATE in house. They don't use ATE; they basically self-insure. One of their points is that the market is structurally moving away from the CFA-ATE model to a funding model. Because of that, a considerable portion of the market that is not tapped yet for funders is going to become tapped. A big reason why that shift is happening, as they say, is because of the Jackson Reforms, with now ATE and uplift only being recoverable from the damages. They are saying that funding is now a whole lot more attractive on a relative basis when you factor in taking ATE and uplift out of the damages versus before. How do you assess all of that?

That would make the economics tighter, so I imagine the smaller cases may not work for funders anymore. They would probably need to have more of a buffer on their cases to consider the fact that you can't recover those costs from the other side, and they have to be recovered from the pool of funds from the damages. The only costs you can recover, I guess, are your legal costs, so they would still be recoverable. But bear in mind you don't recover all of your legal costs. Usually, you recover somewhere between 60% to 75%, at best, of your legal costs from the other side, even if you win.

Why is that?

It’s because there’s a concept called solicitor-client costs and party-party costs. So the costs you incur in receiving advice directly from your lawyer are usually not covered. Still, any costs involved in running the case or writing to the other side, or doing any investigations are recoverable. Usually, the court applies a 30% to 25% discount on your total cost to reflect the solicitor-client component of the cost. So we usually just assume 70% of costs are recovered. If a matter goes when we're doing the economics and if it settles early, we will lower that dramatically. If a matter settles early, it's usually settled on a global, all-in basis, and the cost you recover is much lower if you settle on a compromise.

Sometimes, it's like you don't recover any costs because you're compromising the total value of the claim to settle early, but at least you get your funds earlier without the risk of going to trial. But in my opinion, insolvency cases are less risky than commercial litigation in general because it's mandated in the corporation's act. If certain things are satisfied, then the liability arises, so it's enshrined in statute. You don't need to rely on the common law – which can sometimes be gray – to get a recovery.

Even if you do capitalize the internal costs, the vintage numbers – including the cases they just completely walk away from and write off the costs – are quite attractive. Assuming you capitalize all employee costs, which is like 5.5 million a year, it's something like 2X multiples on costs on total, all-in costs, over 12 months. How is that possible?

Like I said, my gut feeling is you need to ask them if they have an exclusive deal with these insolvency practitioners to fund their cases on a portfolio basis. That’s probably what's going on, but you won't know until you ask them the question. And it's definitely possible. As long as the liquidator and the creditors approve the funding, then it goes ahead. The threat that I can see in this is there could be someone else in the market that wants to specialize in insolvency. They come up with cheaper funding which ends up being more attractive to insolvency practitioners and creditors, or they offer a sweeter deal with insolvency practitioners to set up. They go with them and fund some of their fees.

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