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Utah Business

Managing Litigation Risk

Managing Litigation Risk

Max Bazerman, a professor at Harvard’s Business and Law Schools, and a leading authority in managerial decision making and negotiations, put the need for complete information succinctly and powerfully in a March 31st email to colleagues: Negotiating with incomplete information is like trying to thread a needle with your eyes closed.”  Allow me to rephrase that slightly.  I take Prof. Bazerman to be making the point that starting a negotiation without the best and most complete information available to you at the time is a fool’s errand.

It strikes me that Prof. Bazerman’s observation equally applies to the business decisions CEOs must make upon receipt of a lawsuit against their company. Yet I believe, in most cases, when businesses are sued,they are prone to reacting initially―and often for a long time after that― without “complete” information so understood. Worse yet, CEOs often are placed in the position of having to make fundamental decisions about litigation strategy on the basis of favorable assessments of litigation risk that are inherently biased and overly-optimistic.   

“Information bias” may be built into the risk assessment a CEO receives at the outset of litigation. This is something we know about human nature. Everyone likes to deliver good news.

Bearing bad news, by contrast, is tough for people, particularly when it may expose a mistake or error in judgment that could potentially cost the company millions of dollars.  Basically, it is near impossible for people whose conduct is questioned in a lawsuit to be objective about its merits. That means they are likely to present information to management in a light most favorable to them.  

Forgo The “Window Dressing”

Let me give you a common example: suppose your company is sued.  The Complaint is based on a contract that one of your business people negotiated and one of your in-house lawyers drafted.   Reviewing that Complaint, both the lawyer and the negotiator naturally hope that they will not see allegations that risks weren’t allocated the way they had thought. That the reps and warranties now appear to have promised too much, that critical words in the document have meanings they hadn’t contemplated, and that in the end their mistakes and errors in judgment may cost the company a lot of money.    

What do you, as the CEO, want them to do if they think the Complaint truly has a lot of merit?  You obviously want them to tell you exactly that without all of the “window dressing.”

In a perfect world, of course, you would receive exactly what you want:  “just the facts,” as Sgt. Joe Friday insisted on the old show, Dragnet.  And after that, you want an assessment that is objective, balanced and “complete.”  On that basis, you would see clearly that in a case where the odds are stacked against you, you have to consider whether the best course of action is to resolve the dispute as favorably as you can― and as fast as you can―before legal fees start to mount for either side.

You might conclude that you, as CEO, will personally contact your counterpart in the company suing you to discuss a resolution that includes future business concessions, for example.  You might conclude instead that a “bottom-up” approach makes more sense, focusing first on agreeing in principle to try to resolve the case without further litigation and corresponding expense.  Alternatively, you might conclude that you want to defend the case vigorously, among other reasons to back-up your people.

But as CEO, you also know full well that you’re not operating in a “perfect world.” People have foibles.  Your people may be first-rate in every respect, but frankly it isn’t realistic to expect human beings to be completely objective bearers of “the truth, the whole truth, and nothing but the truth.” After all, they have so many incentives―including survival―not to tell you straight up that they may have screwed this one up.  

What About Outside Counsel?

There is almost always a way to mount a defense, including defenses that may not be apparent at first glance.  Experience shows that sometimes the serious problems perceived today may not seem so serious tomorrow, next week, or even two years from now.

The most common strategy for handling high-stakes litigation is to employ outside counsel right away to handle the company’s defense.  Your people will likely recommend a lawyer, or firm, with skills and experience in this particular subject matter, with a great reputation. This is certainly the right strategy in many cases, but it is also precisely the way that expensive litigation tends to unfold.

Before deciding to engage defense counsel, you should recognize that doing so is an important decision, one which warrants consideration of the best information you can get about the case and your opponent that bears on that decision.   You should also realize that when defense counsel pitch your business, their own self-interest comes into play, and that they may convey more confidence than the case objectively deserves.

What I want to suggest here is that the best course in high-stakes litigation is almost invariably to engage outside counsel, but not to defend the company.  Rather, you should engage outside counsel to conduct the most thorough investigation they can in 30 to 60 days; and to provide you with an independent assessment of the facts, the law, and the corresponding risks the case presents to the company.

You’re probably thinking that this kind of approach allows for another legal expense. It does and it doesn’t.  If you decide on the basis of the information independent counsel provides that your best course is to resolve the case―and if you’re able to do that on terms that make sense―the cost of the independent investigation pales in contrast to the hundreds of thousands of dollars in legal fees you’re likely to spend in pursuit of weak defenses for this year, next year, and the year after that, ultimately to arrive at a result that may be no better than what’s available right now.  If you do engage defense counsel at the conclusion of the investigation, investigation counsel’s work product will be of great value to defense counsel, who will strive not to duplicate effort and expense.

Information Bias

Furthermore, the cost of independent counsel is something you can instruct your in-house lawyers to manage. You can reduce outside legal fees by having your own people support the investigation by providing any and all information that doesn’t implicate the problem of “information bias.” For example, your people can amass relevant objective facts about the company that sued you, such as its wherewithal to fund significant litigation, its propensities to fight or to settle, the nature, extent and importance of its relationship with your company, and a chronology of the facts relating to the underlying transaction.  They can also do some of the necessary legal research.

Independent counsel is certainly not needed in every case, only those where the economics and emotional impediments to objective reporting are compelling.  Furthermore, be aware that this process doesn’t afford you the benefits of formal “discovery” – that is, depositions of key people on the other side based on documents they created during or after the transaction.

In some cases, the need for more in-depth information about what actually happened from the other side’s perspective and the strengths and weaknesses of the other side’s witnesses may be so significant that your only good alternative is litigation.  The approach I’m advocating is probably the best means of maximizing and optimizing the information available to you before you have to pull that trigger. And if you don’t have to pull it, don’t.

Justice may be blind but your significant litigation decisions should not be.  

Richard Kaplan is a partner in the firm of Anderson & Karrenberg. His law practice focuses on complex commercial litigation, mediation, arbitration, and risk assessment and evaluation. He is an honors graduate of Harvard Business School and the University of Minnesota Law School, where he served as President of the Law Review.