Welcome And Why Litigation Finance

Mat Sorensen 0:08 Welcome everyone to the Directed IRA podcast. This is Matt Sorensen, and I am lucky to be joined in episode in studio with Kris Kjolberg from Pravati Capital. We’re gonna be talking about litigation finance. This is an interesting asset class. Um, I’ve got to know Kris through Alex and the people at Pravati. And I’ve been super interested in what they’ve been doing in and the success that they’ve had with their fund. So I figured we had them on today to talk about an asset class I bet you have not heard about, and that is litigation finance. So, Kris, welcome to the podcast and thanks for coming in studio.

Kris Kjolberg 0:44 Thank you, Matt.

Mat Sorensen 0:45 Pleased to be here. All right. Well, let’s dig into it. Uh obviously we have a lot of people who use their IRAs, people who invest in alternative assets. They’re familiar with the different, you know, classes, private credit, private equity, real estate, oil and gas. But I’ll bet they are not as familiar with litigation finance.

Kris Kjolberg 1:03 Certainly. I mean, it’s it’s something that uh is growing, certainly it’s becoming its own asset class in its own right, but it is growing. It’s a growing asset class, and it’s not the obvious choice, even though as an attorney, you understand that uh the legal vertical in this country is a $400 billion plus revenue annual. So it’s one of the uh one of the largest in the United States.

Mat Sorensen 1:24 Yeah, so what is litigation finance? I mean, it’s a big business, obviously, everybody knows lawyers, there’s all the TV shows about it. I’m gonna bring up the movie A Civil Action, as we’re talking about today, one of my top ten favorite movies of all time, which does have litigation finance in it. Certainly. If you’re familiar with the movie. Certainly. You guys, anybody familiar with it? Okay. All right, so let’s dig into it. So what is the income opportunity there? Like what how is litigation finance this revenue opportunity? Let’s keep it simple here.

Kris Kjolberg 1:58 Absolutely. What what I’ll do is

Two Models: Single Case Vs Portfolio

Kris Kjolberg 2:00 let for the benefit of the of your viewers, I’d like to maybe just sort of start off, talk a little bit about the big picture, what litigation finance is, and then sort of bring it forward. When you say to someone who maybe is perhaps familiar with litigation finance, automatically their mind goes to, well, I understand that. It’s when a litigation funder funds a case, the expenses for a case, and then that case can be carried forward, right? Because usually attorneys will look at this, and really it’s because of the length of the case it takes. It’s their design to make sure the case goes through, because uh attorneys may not get a fee on the case for a couple of years because of the time it takes for this. That’s traditional litigation finance. Non-recourse, very fairly long, can be seven to ten years. It’s got a binary component to it, meaning that you either win or you lose. That’s litigation finance. Law firm portfolio finance, on the other hand, is where the lender will take a look at the entirety of that law firm. They will take a look at the entirety of the law firm and lend money to the law firm based on a number of qualitative measures that really takes a look at and then has recourse on the entirety of that law firm’s cases and their receivable and perhaps even their future cases. So those are two very different things, and there’s recourse within this. So that’s the landscape as it exists right now. Okay.

Mat Sorensen 3:28 So it could be individual cases here that there’s financing for, and there is, or it’s a portfolio of that firm’s, you know, 100 cases that they might have, a thousand, whatever this could be the case is. Yeah. Um what is it? Why does that business opportunity exist though? Like, are the banks lending in this space to these lawyers and law firms? That where did that opportunity come?

Kris Kjolberg 3:56 Because Yeah, that’s interesting. That’s a great question. Post-08, really, the global financial crisis, there’s really where litigation finance in terms of what we do really came to the fore. Because prior to that, banks were were able to lend in the

Why Banks Pulled Back After 2008

Kris Kjolberg 4:10 space, but Basel IV’s banking regulation prevents banks from utilizing collateral uh for the law firm and recognizing the cases as the collateral to lend to the law firm.

Mat Sorensen 4:23 So it’s like an unsecured loan for them. Right.

Kris Kjolberg 4:24 They can’t consider it secured. Correct. So that’s why we exist because we have the specialty that knowledge base in order to assess those cases, provide a value, understand uh in terms of what you’re lending against, what you what you’re pledging and lending to uh for the firm. And it’s a variety of different things, not just are the cases uh is that the specialty of it. There’s much more there.

Mat Sorensen 4:50 Yeah, I mean you always you hear Jamie Diamond complaining about how their hands are always tied and all these financing situations. It’s gotta be the exact same for litigation finances. Like the bank just gets it just they get penalized really in how they’re regulated is when they lend in these areas, even though they might view it as secured and a secured asset, it’s uh I didn’t realize that for litigation finance, but you’re in that same classification. Um okay, so so there’s a lot of this non-bank lending here, I guess we could say in that space. Um, but the yields have got to be attractive, right? I mean, what’s the the yield opportunity when you’re out lending um to these law firms? I mean, this is what’s creating the income opportunity for investors on the back end, right?

Kris Kjolberg 5:35 That’s correct. I mean, the income opportunity on the law firm portfolio of finance can vary, but the stated industry sort of the industry norm can be anywhere from 16 to 24 percent compound.

Yield Potential And Who Borrows

Kris Kjolberg 5:45 Wow. Yes. Yes. And that’s that’s an important consideration because when you think when when you’re lending to a law firm and you’re thinking, wow, that’s 16 to 24 percent, that’s interesting. You have to also ask yourself you’re smoothing out the income for the law firm at that rate, and the law firm can repay that. It’s just a matter of smoothing out that income stream. Those law firms must be doing fairly well. And yes, it’s not a it’s not a sign of uh the firm is weak that they that they need the cash flow. It’s just a uh uh imbalance between when the cases are heard and then when that fee is collected by the attorney. And that’s what we do. That’s that’s what we’re solving for the law firm. But uh it’s it seems to be something which is growing. In fact, I believe it’s growing. Uh it’s projected to get to the to to about uh it’s currently right now about 30 billion in size and projected to get in the next 10 years to about 50 billion in size. So the demand is really there. Yeah for us.

Mat Sorensen 6:46 Let’s look at some of that demand. I I want to talk about the market right now. I can already hear some people that are like, wait, am I if I invest in this fund, is this fund um, you know, are they lending money to the guy on the billboard driving down the street and he’s gonna there’s they’re funding that that that plaintiff’s lawyer that I don’t like, you know? I mean, that’s that’s the question. I’m just gonna leave it at that. What’s the what’s the answer to that?

Kris Kjolberg 7:12 Well, I think it’s twofold, really. I mean, when we’re taking a look at firms, I mean, traditionally what we’re looking at is we’re looking at uh firms for the law firm portfolio finance, they happen to be some of those people that we’re talking to, right? That we’re lending to that you see on the billboard or the side of the bus or the station. Absolutely 100%. And and by nature of the way those firms operate, and the fact I said there’s a delay in collecting the fee, that’s where this is necessary for them to have.

Mat Sorensen 7:42 Yeah, I mean that that is the opportunity for the investor too, because that that plaintiff in that case, that person that’s been injured, right, they’re not gonna pay a fee up front.

Kris Kjolberg 7:54 No, it’s contingency.

Mat Sorensen 7:55 It’s all contingency success fee type work. Well, these lawyers take on these cases, and you know, they we’ve all seen the right the the the marking on this, right? They you don’t they don’t get a fee and there’s no and there’s no fee earned by the lawyer unless the client wins. So that case has got to go to trial, they gotta settle the case, right? And so the nature of that of that the way the industry is built, which is customers aren’t willing to pay up front, the lawyer needs some revenue, correct, is what’s created this income opportunity for this private lending. Correct. And so whether you like it or not, I mean my answer to my own question, which I know some of you are listening, thinking this, is that’s where the business opportunity is. Um and that’s why you can why you can have that type of yield you can get on those types of loans.

Kris Kjolberg 8:43 Absolutely correct. And and again, just to step back for a second, we just opened up by talking a little bit about the two areas in the litigation finance. We’re talking and focusing now on law firm portfolio uh lending, uh, and as well as single case. Single case, I mean, by the nature of of lending to these, these types of cases, they can have a venture capital return profile anywhere from two to 10x. But the nature of what they do, they’re usually complex commercial litigation cases. Okay, right? And we lend into that, and so that is also the element of uh of what the investor would be looking at to evaluate the merit of this investment, if it makes sense. Yeah.

Mat Sorensen 9:20 I mean, I see I’m my guess is like those the loan amounts need to be enough to make it worth it, whether it is that that complex commercial litigation that’s that’s a big deal type case, they’re not set settling the those cases are not tens or hundreds of thousands of dollar cases, those are million-dollar cases, right? Yes. Or you’ve got the law firm portfolio, which has got the hundred cases, and there might be some million-dollar cases, some hundred thousand dollar cases, some thousand dollar cases, but but the the lending opportunity needs to be enough to make it worth your while, I presume, where you’re going in lend.

Kris Kjolberg 9:52 It does. And we’ve historically uh that that’s a key consideration. It really needs to be enough to make it to make it worthwhile. But you have to understand, too, a lot of these firms that basically take on these accounts, their cases turn on a regular basis. So it’s an ongoing need for this.

Mat Sorensen 10:09 So it’s almost like a revolving line almost like it’s a revolver.

Kris Kjolberg 10:12 And so in in a sense, so it’s longer-term relationships as the as the firm grows, they grow with you. And you’re providing a uh bespoke access to capital because of the nature of what we’ve been talking about, the contingency element of this.

Mat Sorensen 10:26 Yeah. Um what are you seeing right now? And why why are you because you guys have had you’ve grown, you’ve been, and you’re also like not new to this. No, right? You guys have experience, you’ve been doing this for a while. Um what

Growth Trends And Non-Correlation

Mat Sorensen 10:40 what’s happening right now, and what are you guys excited about right now in this industry?

Kris Kjolberg 10:44 Well, we think a couple of things here that really excite us, but just to give you a little sense, and thanks for that, a little sense of our background. The firm’s been around since 2013, Pravati Capital. Our founder and CEO, Alex Shukri, has been in this business since 2003. So we’ve really seen a lot from just funding individuals now to, as it states, starting to fund into these mass tort cases to evolve and go into this where we see it now, uh uh where it’s uh law firm portfolio finance. The elements that we really get excited about are twofold. It’s the growing need for this, the awareness of looking at this as a true alternative, becoming an asset class, I would suggest to you. And then also as we sort of, as we sort of grow, it’s this non-correlation which keeps coming up, right? Doesn’t mean it’s not without risk. Yeah. It just means it’s not really correlated to what we see. The Fed says something they’re gonna raise or lower interest rates, hopefully lower, but raise interest rates, not affect it. Stock market goes up or down, not affected. Yeah, right. So it’s that element of non-correlation which people are sort of looking to to round out and complement their other existing uh alternative investment portfolios.

Mat Sorensen 11:56 Yeah. So walk me through like the underwriting process and like how you guys are deciding on where to lend the money. I presume you’ve learned a lot

Underwriting Standards And Deal Selection

Mat Sorensen 12:05 over the years. 100%. And like what does that look like when you’re evaluating to make these loans? Because you guys are the ones in your team. I presume there’s like, you know, people with expertise even within your guys’ team that do this. Um, how does that look? Because I think anybody investing in the fund like this, you guys are out sourcing these opportunities, putting the capital to work and making those decisions on the deals you’re funding, the firm portfolios you’re funding or not. Like, what are you guys looking for on that? What’s the underwriting look like?

Kris Kjolberg 12:37 Great question. I mean, it really comes down to whether we’re looking at just the single case events or law firm portfolio finance, it really comes down to understanding it within Pravati Capital, speaking just internally, we are vertically integrated. So we’re underwriting’s in-house, uh, we have attorneys on staff, paralegal’s on staff, our asset management’s in-house. Uh Alex Shukri, I say is very long-dated in terms of his experience in this space. We’ve done over 8,000 transactions, so we have a very robust data set to look at. So some of the characteristics you look at if you’re looking at a law firm, you want to make sure that we particularly at Pravati, we don’t work with startups. So you’re gonna have to have some metrics established. We’re gonna have it have at least three plus attorneys, typically three to ten attorneys is a minimum bar we’re gonna take a look at. The attorney’s gonna have to in have in-house legal or in-house accounting, excuse me. You’re gonna have to take a look at the law firm, not just from the firm, in terms of what has happened, what are the attorneys doing, what are their core competencies? You’re taking a look at them personally, in terms of what they’re doing personally. You want to make sure that how is the cadence settling? How are they at settling these cases, right? Is there concentration risk? It’s very important, right? And how are you managing duration? And then ultimately, what is the actual strength of the underlying business itself? So those are all key considerations that we look at. We get an awful lot of inbound requests. We’re very fortunate, our time in the market allows us. We get about 200 inbound inquiries a month. So just from attending a lot of the conferences, being in the legal space for so long, being a known. Uh, but again, uh, we’re very picky in terms of our underwriting. So we basically would probably fund of all the inquiries we get, we fund about 1% of those inquiries. But it’s uh it’s growing, it’s robust, and and uh you have to be careful, you have to know. Yeah.

Mat Sorensen 14:28 So obviously the income opportunities there, the kind of the yields we talked about earlier, that’s 16 to 24 percent. But you want to you’re gonna minimize that risk on the downside by some good underwriting here. Um and it seems like those are a lot of principles, no matter what the asset class is, you’re gonna do. Um, but all right, so there is kind of a secured interest, though. I know like, you know, the banks aren’t getting credit for it here, but in the sense that there’s like a security interest on the case itself and the fee earned on the case. Right. Um, are you and this is funny? I the Civil Action is one of my favorite movies. I I even just reread the book just recently. John Travolta’s stars in it. Um, and there is actually a litigation financer in it. I think they call him the banker, you know, in the show. I don’t I don’t know the real story of it. This is the movie, of course. Um, but it’s based on a true story. Um, but he had the lien, he had the mortgages on the houses of the lawyers. They had personal lines of they had personal guarantees. Uh, how far do you guys go on that? Do you is it do you stick it, keep it at the business level or do you go just curious.

Kris Kjolberg 15:35 Well, no, that’s a good question. I mean, uh what we do at Pravati’s, we’re very careful about this, right? Over the entirety

Liens, Guarantees And Fund Structure

Kris Kjolberg 15:40 of Pravati, we’ve been doing this. We’re on, we’re actually just uh launching our seventh fund as we speak. Uh, with all of this, all the underwriting, everything we’re talking about, all are being careful. We’re sub-2% lost capital over that time. So, what we do in terms to get recourse is we’re gonna have a first-lien position on all of the receivables and cases of that firm. We’re gonna have first-lien position on all future cases of that firm. And we’re gonna have in a lot of cases personal guarantees of the partners. So we’re very, very careful about underwriting, and I said, wanting to make sure you lend money, but you get your money back.

Mat Sorensen 16:19 How does the fund look? So that’s what the fund’s out doing. I mean, are you what fund are you in? You’ve had multiple funds in the space?

Kris Kjolberg 16:26 Yes, we have. This is our we we this is our seventh fund. Okay. So we’re currently offering our seventh fund.

Mat Sorensen 16:31 All right. And what’s the amount you’re trying to raise in that? And and just curious, like the investor opportunity for that. And what kind of dig in specifically to the fund?

Kris Kjolberg 16:39 Yeah, absolutely. Well, we’re currently right now we’re looking to raise $250 to $350 million with a hard cap at $400 million. And really, this is uh uh what we’re looking to do, and it’s a five-year structure, so a drawdown structure product. Okay. So the first two years were capital raise, right? We’re raising capital for the fund, and then there’s the last there’s a recycling period in the third year, and then the harvest begins in the fourth and fifth year. So that’s really what it looks like. For clients, what an expectation would be for an investment like this, given the given the elements of what we talked about, it’s a low mid-team return profile. Right. So anywhere low mid-team return profile, uncorrelated to these other asset classes, uh, very stout, uh strong underwriting cadence, understanding the 8,000 transactions that we have, our time and market, really understanding what’s out there in the space and being able then to grow with the space as well. Um that’s really that’s really what we’re is that return profile?

Mat Sorensen 17:38 Is that kind of based on what you’ve had in prior funds and kind of the projections that you’ve made?

Unknown Speaker 17:44 Yeah.

Mat Sorensen 17:44 Like um, I guess the you know, the rates you can charge, I you know, being 16 to 24, that could be a big difference on what you’re getting there, I guess, is um like how did what’s the how how is that? Like, is this track record based? Like what is the on how you get to that? Because it’s a great return, right?

Kris Kjolberg 18:00 Yeah, I mean the track record base, if you look at us, we have a third-party due diligence report uh done on the firm at large, and they took a look and unpacked really all of this. If you took a look at all of the vintages that we’ve offered, right? We’re a little over 13% net IRR. Okay. And a multiple on invested capital system. And that’s track record performance. Yes, that’s track record performance. Now, the the statistical information that people look at is what is the multiple on what I made? Like what’s the multiple on the invested capital? Well, with us, it’s 1.51. So if you rank that in terms of characteristics, it’s a very strong private credit offer right now. Very strong

Track Record Plus Key Risks

Kris Kjolberg 18:35 in terms of the uh asset back lending space as well. But I would touch upon it, this is not without the risks, and I hope we could touch upon a little bit of the what the investor needs to be aware of, what can go up or down within this space. First of all, if you take a look at what they’re doing, they’re hearing cases, you’re funding these matters, making sure these cases go through. Anything that would interrupt the calendar of the court would be an impact. And we experienced that. COVID, yeah. COVID really impacted this in terms of in terms of extension of these cases. So COVID stopped these for about two years.

Mat Sorensen 19:15 Yeah, nobody could go to trial. I mean, I think in a lot of those cases, that’s your ultimate tool of negotiation is a trial date. And if you couldn’t get a trial date, you’re cooked.

Kris Kjolberg 19:25 You’re cooked. So what that does, what that does to a fund is that creates what’s known as an extension risk, right? And we’ve had that and we’ve experienced that, so we know what that looks and feels like. So instead of getting uh instead of getting a 13%, you can go down to get a 10-11%, just due to the fact of the time. Yep. Another aspect that you’d want to take a look at, and we’ve had this experience, is we’ve financed over 250 law firms in our history, and we’ve had very good experience. In fact, a lot of these law firms, we’ve seen them grow, they’re repeat clients of our very good, strong. We look at them, view them as partners. Time to time, you may get an attorney who is less than uh wanting to pay you back. It’s never really a question of ability to pay, it’s willingness to pay. And in all of these cases, we’ve had to deal with this only four times. Yeah. But it’s consuming, it takes a lot of your time. So we’re very prepared when that happens. We simply don’t write it off. Yeah. We go after and put those uh uh recuperation methods, uh litigation.

Mat Sorensen 20:31 Recuperation methods, yeah.

Kris Kjolberg 20:33 Right, right. To make sure the investors, to make sure we’re getting paid back. And so when I say loss of capital, it’s not permanent loss of capital, it’s just basically renegotiating out uh when uh when that attorney and we’ve taken tur these few attorneys, we’ve taken them to task and and and and and had our cases and and uh sued them, right? And and we haven’t lost a case. Yeah.

Mat Sorensen 20:55 Um let’s go through what this does look like to invest. You hit on some of the risk factors there, the the the court system, anything that kind of disrupts that and delays that that can cause it, it will eat into your returns. You know, you nobody bats a thousand, you’re gonna have some of the lawyers that go bad. This is just like, you know, the multifamily deal with the tenants you got to evict, right? It’s it’s a numbers game. You got you have more winners than losers, and you you your your numbers still work out well. Um anything else on the risk side? I kind of want to get to some of the documents here and what it what it looks like, but that you’d want to highlight.

Kris Kjolberg 21:29 Yeah, I think you also have to be cognizant of regulatory risk, right? There are a few states out there right now that maybe have some regulatory issues around the nature of litigation finance or uh broadly speaking, and then you need to be able to adapt to what the regulatory environment looks like. We’re not we’re not simply looking just within Arizona or the Southwest. We’re we’re have a national footprint. Okay. Right. So we’re able to adapt to whatever regulatory situation comes up. We have that ability. Um, so that’s another thing I think investors need to be looking at.

Mat Sorensen 21:58 Cool. Um All right, let’s dig into what this looks like. I mean, what are the fund minimums? Um, and what’s that

Minimums, Due Diligence And How To Reach Us

Mat Sorensen 22:05 doc that process when someone’s like, I don’t want to learn more about litigation finance? This sounds like an interesting asset class. Um, I my guess is most people be new to it. I mean, there are other funds out there, um, but uh what’s that process look to get educated on this? And also what does that document and investment process look like for new investors?

Kris Kjolberg 22:24 Certainly. Well, we have uh uh when people engage us, they really want to get educated, they want to come in, and that’s sort of the first engagement we talk to them. I typically talk to them, we have a couple of other folks on our team, we basically educate them in terms of what they’re trying to accomplish, talk a little bit about the space, educate them, talk about what we do, uh, and and then and then engage them. If they want to look further at that, then basically we would have them sign an NDA and then we’d open up our data room to that, and then really have we have a lot of detailed information, uh summaries and and uh the the DDQs you might expect uh uh for investors to have. We really have a very robust uh data room that we put together for investors so we can get them comfortable in terms of having enough information where they can really are in a situation where they can make a decision now. In terms of the fund minimums and how that works, currently right now we have a million dollar minimum. However, we have GP discretion on that. So people can come in to uh with what we do at about $250,000. Um and then we are also um have that ability uh in terms of executing in terms of a lot of what we can through through DocuSign. And certainly uh we want to encourage folks to to utilize your services as well in terms of where people come in to us to get to know us.

Mat Sorensen 23:39 Yeah. So and I think our as many of you know with your self-directed IRA, if you know, you’re listening to a lot of directed directed IRA resources or through through my channel is you know, our role is just to process transactions. Your job is to find the investments, conduct your own due diligence, of course. Um, we don’t endorse any investments or or like, you know, uh we’re not giving invest telling you what to invest in or what not to, but we want to give a lot of education about what you can do. And that’s why I want to have Kris in here um and Pravati talk about this because it’s an interesting asset class. I think a lot of people talk about the riches are in the niches, and and sometimes you find these opportunities that are super interesting and compelling, and they can be great income opportunities. And as I talked to Alex and we met, I was like, man, I know you guys typically raise from institutional investors or it’s million-dollar checks, but what about the individual that wants to get their head around this? Um, they need to be accredited, correct? But they don’t have to be a qualified purchaser.

Kris Kjolberg 24:38 Well, we accept both, but actually you can be accredited.

Mat Sorensen 24:40 Okay, so if you’re at least accredited, qualified, you have to have five million of investable assets, but um accredited because 200,000 net worth or sorry, 200,000 annual income single, 300,000 married, um, or uh a million dollars net worth not excluding your home, either one. I think a lot of people fall into that, of course, yes nowadays. So um, but they could be eligible to invest in this and the minimums discretion you guys go down to 250 for certain individuals.

Kris Kjolberg 25:06 Certainly. Yeah, we have that discretion in terms of what we see fit in terms of uh our minimums. Okay.

Mat Sorensen 25:11 Um, where can people learn more? Is there a site or anywhere I should send them to just learn more about you or where they could reach out to contact you guys?

Kris Kjolberg 25:18 Certainly, you can reach out to me uh directly, uh Kris at PravatiCapital.com. You can visit our website, PravatiCapital.com. Uh you certainly could reach out to me directly if you’d like. Give me a phone number if you’d like.

Mat Sorensen 25:32 Yeah, dude. Like I like it old school. We’ll but we’ll put this all in the description below. But just for anybody listening on the podcast, driving down the side of the road, you know, just know it’s down in the description. Certainly. Throw the number out, though.

Kris Kjolberg 25:43 You can reach me 623-521-7343.

Mat Sorensen 25:46 Does that ring directly to you, Kris? It goes directly to me. I love it. Okay. Wow. You guys you got the direct number. I like it. Um, well, thanks so much for coming in to talk about litigation finance today and what you guys are up to at Pravati. Um, we’ll have the slides. We did actually have some slides we were referencing through here. Um, they’ll be in the descriptions

Alt Asset Summit And Closing

Mat Sorensen 26:05 below, as well as some um links, emails, and direct phone numbers for Kris and Pravati where you can reach out to learn more about them. And remember, our Alt Asset Summit is coming up October 22nd and 23rd. That’ll be in Costa Mesa, California. Uh, please get signed up for that. We’d love to see you there. There’s always a few hundred attendees there, a few hundred on the live stream. We’re gonna have two days of learning about alternative assets. So get to altassetsummit.com. We’d love to see you guys there as well. And make sure you are subscribed to the newsletter so you get updates on this. You know what’s going on at directed IRA. You can get that at directedira.com. We will see you next time. Until then, stay calm, self direct on.