STRATEGIC CONSIDERATIONS
In deciding whether to hire a lawyer, clients often focus on the need to manage distributive issues in an upcoming negotiation. Clients want to get the best agreement possible from the other side and fear being exploited. And, indeed, a lawyer may have a comparative advantage in tough, distributive bargaining. The lawyer may have negotiated many similar disputes or deals and may be an accomplished strategist. He may know how to counter the other side’s distributive tactics and make maximum use of his own. A client may thus go to a lawyer because the lawyer can get more—and give away less—than the client could.
But this creates a basic dilemma. If both sides hire gladiators, hoping to get ahead, bringing in the lawyers may ultimately be inefficient, particularly if the attorneys spend a lot of time arguing and running up huge bills. Clients may be left feeling stuck with expensive representation they didn’t really want but felt they couldn’t avoid. Lawyers are stuck feeling like hired guns with little to do but fight exhausting distributive battles.
The challenge is to find a way out of this dilemma. How? By using problem-solving skills to create value that would otherwise be unavailable to a client. For example, in a dispute, a lawyer may be able to reach a settlement with the other side when the client could not. Perhaps the lawyer’s role insulates him from the client’s emotions and permits constructive negotiation, whereas the client’s discussions would only deteriorate into argument. Or perhaps the lawyer can find an innovative and cost-saving way to evaluate the claims in question and come to some resolution without going to court. Similarly in deal-making, a business lawyer can structure a transaction to allocate risks and opportunities in a value-creating way.
We now turn to the special challenges of creating value in the two great legal domains: disputes and deals. Lawyers have an opportunity to create value in both contexts, but it is hardly inevitable. We conclude, in Chapter 6, by reviewing some of the psychological and cultural factors that complicate the lawyer’s task.
4
The Challenges of Dispute Resolution
Tom Mazetta owns and operates Spreads, Inc., a small laundry and dry-cleaning company that serves a few New York hotels by picking up, cleaning, and returning linens and towels daily. One day, as Tom is unloading stacks of freshly cleaned sheets at the Big Apple Hotel, he loses his balance and falls off the loading dock, breaking his arm and knocking his head on the concrete pavement. Tom is taken to the hospital, where they set his arm and tell him that he has suffered a mild concussion. He is kept overnight for observation and released the next day. He stops working for a month. Although his son fills in for him, business drops off significantly. When Tom returns to work, his arm is not completely healed. Moreover, he is having some trouble focusing his eyes and now has occasional but severe headaches. His doctor is unsure whether Tom’s neurological symptoms will improve over time or become permanent. Spreads, Inc. has no disability plan or disability insurance.
Tom thinks he slipped on a newspaper that someone left on the loading dock. Hotel employees often eat their lunch there, and Tom has long been annoyed by their habit of leaving trash and newspapers scattered around. In fact, Tom almost lost his footing once before on a discarded newspaper, and he spoke with the hotel manager twice about the hazard on the loading dock. Each time, the manager assured Tom that he was aware of the problem and would “take care of it.” Nothing appeared to change, however, and Tom recalls that on the day of his accident the loading dock looked particularly messy.
Shortly after returning to work, Tom calls Jennifer Savin, a lawyer who was highly recommended by a family friend. Tom is angry about the damage to his business and worried about the long-term effects of his injuries, which he blames entirely on the hotel’s failure to maintain the loading dock properly. Not only should the trash have been removed daily, he believes, but the loading area should have had safety railings, at least on the stairs. Jennifer listens and asks questions. Who saw the accident happen? When did he complain to the hotel manager and what was the manager’s name? What have his out-of-pocket medical expenses been? What were his lost profits and earnings? Who were his doctors? Jennifer explains that although it is clear that Tom has sustained injuries, the case will turn on whether the hotel’s negligence caused those injuries.
After reviewing his records, Jennifer agrees to represent Tom on a one-third contingent fee. Although her legal fees will only be paid out of any recovery, she explains that Tom will be responsible for out-of-pocket costs, such as court fees, expert witness fees, discovery expenses, and so on. She provides him with preliminary advice about the strength of his potential lawsuit, the probable costs of the litigation, and how she proposes to approach the case. Jennifer writes to the hotel, threatening to file suit and asking for a meeting to discuss “Tom Mazetta’s injuries and his potential claim.” She suggests that his claim may be worth up to $150,000. The hotel refers the case to its insurance company. The insurance carrier appoints an adjuster to conduct a preliminary assessment of the value of the claim. The adjuster interviews the hotel manager who was on duty the day of the accident and reviews the accident report the manager filled out after Tom’s injury. The adjuster contacts Jennifer and asks permission to have a doctor examine Tom and review his medical records to determine what injuries he has sustained.
The adjuster then files a report with the insurance company describing the situation and recommending a reserve for the case—the amount of funds the company should set aside to cover the likely expenses of settlement or trial. Jennifer and Tom, of course, do not know what this reserve amount is. Tom and Jennifer then receive the following letter from the insurance company’s attorney:
Our review of Mr. Mazetta’s medical condition and records fails to show that his alleged injuries are as serious as you claimed in your letter. According to the assessment of our medical expert, Dr. Henry Huo, Mr. Mazetta’s eyesight is not impaired and there is no medical evidence of a permanent injury of any sort. Moreover, we see nothing to suggest that a court would hold the hotel liable.
We have conducted a thorough investigation of the facts surrounding the incident at the Big Apple Hotel. We are confident that Mr. Mazetta’s injuries were caused by his own failure to use due care in unloading his goods at the hotel, in particular his decision to carry tall stacks of pressed laundry himself rather than follow the usual practice of having an assistant help him. We find nothing to indicate that the hotel is responsible for his injuries. Although Mr. Mazetta claims that he slipped on a newspaper that an unnamed hotel employee left on the loading dock, we find no evidence to support this claim.
The insurance company offers to pay “unreimbursed medical expenses up to $5,000 as a good-faith gesture to resolve this matter.” Outraged by the insurance company’s offer, Tom schedules a meeting with Jennifer to discuss what to do next.
A DEFINITION OF LEGAL DISPUTES
Tom’s dispute is a classic tort action in the making. He has sustained injuries that he believes were caused by the hotel’s negligence, and he wants compensation. The hotel doesn’t want to talk about it. Their insurance company offers a pittance. Tom has hired a lawyer, who prepares to file litigation against the hotel if it refuses to acknowledge responsibility for Tom’s losses.
Disputes proceed in stages from the moment a grievance is perceived, through the initial communication between the parties about that grievance, to a resolution of some sort.1 Many conflicts do not rise (or sink, depending on your point of view) to the level of legal disputes for the simple reason that neither party has any possibility of asserting a legally cognizable claim against the other. Some disputes are too trivial to fall within a court’s purview. An angry spouse cannot invoke a court’s jurisdiction to resolve an argument over who should wash the dishes or walk the dog. Other disputes, such as those between countries, are far from trivial but do not result in a legal claim because no court could easily assert jurisdiction.
These are not the sort of disputes we
are concerned with here. Instead, we focus on those situations in which at least one party believes that it has a legal claim to relief. But even within this narrower set of disputes, many cases never wind up in the formal legal system. When someone accidentally knocks over his neighbor’s mailbox while backing out of his driveway, he may negotiate briefly about whether to repair or replace it and then settle on how best to make his neighbor whole. Neither side files a legal claim or even contemplates one, even though such a claim might be made.
Of all the grievances that turn into disputes, therefore, only a fraction involve a legally cognizable claim, and only a fraction of a fraction result in a formal complaint being filed. Furthermore, only a fraction of a fraction of a fraction are ever actually tried in court. How likely is it, then, that Tom’s case will ultimately be decided by a judge and jury in a fullblown civil court proceeding? Not very. In most jurisdictions, for most sorts of civil cases, at least 80 percent of cases filed—and often 95 percent or more—are resolved without adjudication.2
Given that so many cases settle, what is the challenge? One problem, although comparatively unusual, is that some cases do not settle that should. A more common problem is that cases settle late—with unnecessarily high transaction costs. In extreme cases, litigation may turn into a lose-lose proposition.
One striking example of a dispute run amok involves Art Buchwald—the writer and Hollywood producer. The story starts when Buchwald wrote a two-and-a-half-page treatment for a story called “King for a Day.” Buchwald and his partner, Alain Bernheim, submitted the treatment to Paramount Pictures pursuant to contracts providing that Buch-wald would produce any film based on the story idea and that Buchwald and Bernheim would share the profits.
In 1989 Buchwald and Bernheim sued Paramount for breach of contract. They claimed that the studio had based Eddie Murphy’s film Coming to America on their treatment but had failed to pay them. After three years of litigation, a trial judge awarded Buchwald $150,000 and Bernheim $750,000. Both sides claimed victory. The plaintiffs argued that they had won a respectable judgment—nearly $1 million—against Paramount, which had spent nearly $3 million defending the suit. Paramount claimed that the $900,000 judgment was only a fraction of the plaintiffs’ original demand of $6.2 million. Moreover, although Buchwald had been awarded $150,000, his legal fees exceeded $2.5 million. In the end, Buchwald and Bernheim did not have to pay the full amount of their legal fees because their lawyer was paid on a contingency basis. But because Buchwald’s out-of-pocket expenses exceeded $200,000, he had no net recovery.
In reality, of course, both parties lost. Their process for resolving their dispute was so inefficient that fighting the battle cost six times more than the amount awarded. As Buchwald has written, “When I got involved, I expected to be in a business dispute that I assumed would be resolved early in the game for a minimal sum of money and, hopefully, an apology . . . One of the discoveries of a suit such as this is that it makes you hurt deeply, and you don’t forgive easily . . . Do not count on any money in a lawsuit—this is as true if you win as if you lose.”3
WHY MOST CASES SETTLE
Fortunately, the Buchwald case is hardly typical. In most circumstances, powerful economic incentives operating on the litigants are sufficient to motivate settlement. If lawyers on both sides can help their clients understand the opportunities and risks of litigation, a very basic model demonstrates why settlement usually makes sense.
Evaluating the Case: the Lawyer’s Role
At the most basic level, Tom and the hotel—like Buchwald and Paramount—are arguing about legal rights and obligations. When parties negotiate over these sorts of issues, they do so knowing that if the negotiations fail, the aggrieved party can ask a court to vindicate his legal rights and to force the other party to live up to his legal obligations. Tom and Jennifer believe that the hotel has failed to take due care and that as a result Tom was injured. The insurance company asserts that Tom contributed to his own injuries by acting carelessly. Each has expectations about what would happen in court if they ended up there. But how do those forecasts affect their negotiations outside of court? How does the law factor into their informal negotiations?
At this point, the hotel’s insurance company has offered only $5,000 to Tom. Tom’s decision to litigate or settle requires that he compare the value of any proposed settlement to the expected value of having his case adjudicated in court.
Lawyers spend much of their time and energy helping their clients make such comparisons: it is a primary reason why disputants hire lawyers. To help Tom decide whether to litigate or settle, Jennifer will have to assess, and presumably discuss with Tom, four basic issues:
• Substantive endowments: What laws apply to the case, and how do they affect the value of proceeding with litigation?
• Procedural endowments: What legal procedures apply, and how are they likely to affect the value of litigation?
• Transaction costs: What expenses will Tom and the hotel incur if they pursue litigation, and how should that affect their decision to settle?
• Risk preferences: What are the client’s risk preferences, and how will these affect the decision to litigate or settle?4
SUBSTANTIVE ENDOWMENTS
Every negotiation over a legal dispute turns in part on the substantive rights that underlie the parties’ claims. The law determines whether Tom has a cause of action against the hotel for negligent construction or maintenance of the loading dock, and legal rules define what Tom must prove to prevail on such a claim. This is true in any dispute. If, for example, a reporter and a football player are alone in the locker room after a game and the reporter falsely accuses the player of accepting a bribe to throw the game, the football player cannot sue. But if that same reporter falsely accuses the football player of the same act in an article published on the front page of the city newspaper, the player may have a defamation case.
In Tom’s case, tort law provides the basic legal standards that a court would apply to accidental injury. In New York, a plaintiff in a slip-and-fall case must establish that the property owner either created the condition that caused the accident or had actual or constructive notice of the condition. Here, Tom claims that the hotel’s employees caused his injuries by leaving behind a newspaper and that the hotel had notice of the trash because of his conversations with the manager.
But, as all first-year law students quickly learn, Tom’s own actions may compromise his claim. Jurisdictions differ in how they treat behavior by a plaintiff that could have contributed to his injuries. In some states, even if a defendant is proven negligent, a plaintiff may be barred from recovering any losses whatsoever if the plaintiff was “contributorily negligent”—that is, if he too acted without sufficient care. In many states, including New York, this rule has been replaced with the doctrine of comparative negligence—a plaintiff’s recovery is reduced in proportion to his own fault.5
The insurance company’s letter indicates that the Big Apple Hotel blames Tom for carrying too many sheets by himself, which caused him to lose his balance. Tom sees it differently. He does not always use an assistant; he thought he was acting reasonably on the day in question; and he believes that there should have been a railing to break his fall. Obviously, Jennifer will need to draw on her understanding of the facts and her knowledge of the applicable legal rules to assess the value of Tom’s claim.
In addition to her knowledge of the law and legal procedures, Jennifer will be able to fill Tom in on how legal norms and processes are usually translated into actual practice in a given jurisdiction—how the “law in action” typically works. For example, Jennifer may know the range of local verdicts in similar cases, how the big insurance companies in New York operate, and the settlement practices of the hotel’s insurance company. She may know how insurance companies set the amount of their reserves, and she may have a fair guess as to how the insurance adjuster evaluated Tom’s case. Such knowledge will be of great value to Tom as he c
onsiders whether to litigate or settle.
PROCEDURAL ENDOWMENTS
The law that a judge would apply is not the only factor that will affect Tom’s negotiation. The likely trial outcome also depends on the court’s rules of procedure, which govern how litigation unfolds. At trial, for example, procedural questions—such as which party has the burden of proving damages, causation, or negligence—can greatly affect the outcome. Rules of evidence similarly can affect the expected outcome by making particular kinds of proof relevant or irrelevant. Rules governing pretrial procedure such as discovery, pretrial motions, and pleas can also make a significant difference. If a plaintiff has the right to engage in extensive discovery, his attorney might uncover information to bolster an otherwise weak case. Without such procedural rights, even a deserving plaintiff may be unable to satisfy the requirements for proceeding to trial.
These different procedural endowments, and their likely effect on what would happen in court, must be factored into Tom’s negotiation with the hotel. Jennifer knows that, as the plaintiff, Tom will have the burden of proving the hotel’s negligence, and Jennifer will be concerned with how she can meet that burden. Obviously, Tom can testify. But who else witnessed the accident? Who might testify about the condition of the loading dock? Will the hotel manager confirm that Tom had made previous complaints? Are there any records to that effect? Jennifer explains that the hotel will have the burden of demonstrating Tom’s comparative negligence. What records are there suggesting how big Tom’s load was on that day? What evidence might she develop to rebut the claim that Tom was negligent?
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