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Something to Chew on Before Biting into a Settlement

Before negotiating a settlement, it is worthwhile to think about the client’s purpose in settling. Is it to right a wrong? To avoid litigation at whatever expense? To protect the client’s reputation or ensure confidentiality? Is it a combination of purposes? There are many valid reasons to settle a case, but they should be pursued only after counsel and client have considered a more fundamental purpose.

At the most basic level, the purpose of settlement should be to place your client in a position that is superior to his next-best option—typically litigation—factoring in both the pros and cons of that option. For settlement to make sense, it should not be merely an alternative to litigation, it should be a better alternative.

For example, if a court victory would set a precedent favorable to your client in future cases, settlement is in your client’s interest only if it yields more than the value of the favorable precedent and ancillary benefits minus the combined value of the attorney fees, costs, time required to litigate, possible enforcement problems, risk of an adverse judgment, and other possible disadvantages of pursuing the favorable precedent. By the same token, if your client was clearly not at fault but the costs of defending the lawsuit would be enormous, it will be reasonable to settle for any amount less than what your client would expect to pay to be exonerated in court (factoring in the value to the client of having a day in court, the consequences of a settlement in future cases against the same or other plaintiffs, etc.). This is true even though it is clearly undesirable to pay even a penny to fend off a frivolous lawsuit.

When determining whether a particular settlement offer is superior to the result that can be achieved through litigation, attorneys sometimes fail to fully evaluate the advantages and disadvantages of both options. Do not simply compare a settlement offer with your prediction of success on the merits or the outcome of litigation. Factor in the following additional considerations:

  • The financial costs (including lost-opportunity costs) of settlement versus litigation.
  • The ability to settle the case immediately versus the time it will take to prosecute or defend a lawsuit, including delays, appeals, possible remands, posttrial motions and, if you represent the plaintiff, the time it will take to enforce a favorable judgment.
  • If you represent the plaintiff, the ability to walk away with money in hand versus the uncertainty of executing a favorable judgment.
  • The subjective costs of settlement versus litigation. Litigation may involve intrusive discovery, appearances at depositions and in court, and other stresses associated with the adversarial process. But it may also afford the client a “day in court” or the satisfaction of vindicating a claim or defense.
  • The ability to tailor a process and an outcome through a negotiated settlement versus the procedural straitjacket of litigation and the limited set of remedies awardable by a court of law.
  • The privacy of settlement versus public adjudication, including the possibility of obtaining a published precedent that can be used in other cases.
  • The goals and needs of your client and whether they are better served by litigation or settlement.

EXAMPLE Your client sues Acme Corp. for fraud, seeking $1 million. Factoring in the strength of Acme Corp.’s defenses, you believe there is a 70 percent chance that your client will prevail in the lawsuit. You expect the litigation to take at least two years, and for your client to incur $200,000 in attorney fees and discovery and court costs (none of which is reimbursable by law). Factoring in the risks of litigation and fees and costs, the net value of the litigation thus far is approximately $500,000 ($1 million × 70% = $700,000; $700,000 − $200,000 = $500,000). There may be other risks or drawbacks to the litigation for your client: Is there a risk that a favorable judgment would be unenforceable and, if so, how much would your client be willing to pay to eliminate that risk? How much would your client be willing to pay to avoid a two-year wait until judgment? How much would your client be willing to pay to avoid the stress, frustration, and other subjective costs of litigation? Assume the total of all of these additional factors is worth $100,000, bringing the net value of the litigation option down to $400,000. If your client is to settle at all, it should be to improve on the litigation option—in this case, $400,000. Thus, it is not in your client’s interest to settle for $300,000, because the litigation option is better. At the same time, you would be hedging your bets in a negotiation by claiming “$700,000 or no deal.” Although $700,000 reflects your assessment of the chances of success on the merits, it does not incorporate other litigation-related costs to your client. If you can settle for $700,000, all the better; however, keep in mind that any amount greater than $400,000 represents a good settlement outcome here because it makes your client better off than the alternative of going to court.

Because it takes two to reach an out-of-court agreement, you are unlikely to settle the case unless your counterpart’s client is also better off settling than continuing to litigate. Thus, the overarching purpose of settlement may be expressed as follows: to find a result that places both clients in a better position than the one they could achieve through their next-best alternative (typically litigation), factoring in the various risks and transaction costs associated with that alternative.

In contrast to the approach described above, litigators typically seek results that reflect the “value” of the case, measured by their predictions about the likelihood of success on the merits. In some cases they view the purpose of settlement as convincing the other side that it has no case. The trouble with these approaches is that when both sides take them, the negotiation quickly devolves into a contest about who is right and who is wrong, either about the legal merits or about what happened between the parties. Each side works against the other to assert its point of view, yet there is no neutral third party to render a binding decision.

You and your counterpart are better off shifting your attention away from arguing about right and wrong and toward the more pragmatic exercise of determining whether and how both parties can achieve superior results through a negotiated settlement. Instead of approaching settlement from inside the dispute (i.e., who did what to whom, the relative strengths of each side’s argument), look outside the dispute (i.e., how does a particular settlement proposal compare with the next-best alternative if no agreement is reached?). Try not to think in terms of how your client can “win” in a contest with the other side, but rather how both clients can win relative to their default option of litigation.

Another way of framing the underlying purpose of settlement is to think of converting the dispute into a transaction or deal. Your counterpart may not appreciate this approach, but his business-minded client probably will. Settlement should be a constructive, forward-looking process—an opportunity for both sides to improve the status quo, not a way to play out the litigation in an abbreviated format. If your efforts at negotiation fail, you always have litigation as a backup. Meanwhile, however, you need to garner the other side’s cooperation and interest if you want a stipulated dismissal of the lawsuit.

CEB has you covered on all aspects of case settlement in California Civil Procedure Before Trial, chaps 46, 49-50.

© The Regents of the University of California, 2010. Unauthorized use and/or duplication of this material without express and written permission from this blog’s author and/or owner is strictly prohibited.

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  1. […] Something to Chew on Before Biting into a Settlement […]

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