No company goes out of its way to be involved in litigation; however if you find yourself in this position, you will want to explore the ways you might pay for the process. Let’s look at four ways companies can approach this decision.
Remember that money spent on litigation is not capitalised; instead, it flows into the profit and loss sheet and does not appear as a balance sheet asset.
1. Cash reserves
If you are cash-rich, you may be tempted to use reserves to finance any litigation; however, there are costs attached, as you are taking funds away from other potential investments in the company such as research and development or upgrading IT systems. You have to balance this against the potential funds that may result from litigation.
2. Debt financing
Debt is not an uncommon way of funding operational costs, which can include legal expenses, but look out for any tax consequences of funding raised in this way. You also have to recognise that interest rates are currently volatile. If your litigation is successful, you could pay part or all of the debt off; however, CFOs will know how long litigation can take and have no way of guaranteeing when any debt can be reduced.
3. Investor capital
You could always ask existing investors to add to their interest in the company, with SMEs ideally positioned for this option. An existing investor may be well-positioned to judge the value of the claim and is probably already aligned with the company; however, remember that investors’ funds may be limited.
4. Litigation funding
External litigation funding can help companies avoid any adverse impact on their accounts from litigation. You will find plenty of options for litigation funding online from specialists such as Novo Modo.
Using a litigation company means the expense does not flow through P&L, cash flow is not diverted, and asset value is not affected. If access to cash to fund litigation is difficult, this option can make the difference between pursuing a legitimate claim and abandoning it.