Litigation typically ensures when both parties agree that the benefits to be gained from suit substantially outweigh its cost.  Both sides base their decision on an analysis of the merits of the claim and the cost of proving (or disproving) it.

But we know that over 98% of all commercial litigation settles prior to trial.  Thus, at some point in virtually every case, both sides conclude that further litigation is in neither party’s interest, and that settlement is a better alternative.  A settlement can be achieved only when this occurs.

Query why this realization is so often delayed?  The most common reasons are faulty risk assessment concerning the merits of the claim, and a failure to consider the true costs of the litigation, both direct and indirect.

Litigators frequently advise clients they have “the better case”, or  “a good chance” to prevail; i.e., that there is about a 60-40% probability of success.  But to win any litigation, a party typically has to prevail on several different layers.  For example, a plaintiff may have to prove: a) an enforceable contract was formed, b) a breach by defendant, and c) provable damages flowing from that breach.  If the probability of winning on each of the three layers is 60%, the actual likelihood of a plaintiff victory in the case is only .216% (.6x .6x .6.). The analysis further fragments when the potential damages can vary widely, depending, for example, on whether consequential, punitive, or treble damages may be recoverable in a particular case.  If there is only a 25% chance of recovering anything other than direct damages, that risk too has to be taken into account in assessing the value of a case. The result of this more nuanced analysis is very different than the term “more likely than not” would imply.

Proper risk analysis also requires an accurate assessment of what the litigation will cost.  Let’s assume legal and expert fees will approximate $500,000 in a case where recoverable damages can vary from $1 to 3 million dollars, with the probability of winning on the larger consequential damage amount 25%.  If we engage in the three-layered analysis described above, in which the probability of winning on all three levels is 60% (e.g., enforceable contract, breach, and provable consequential damages), the likelihood of a 3 million dollar verdict is only .09%.  The true decision then is whether it is prudent to spend $500,000 in fees for only a 9% chance at a three million dollar judgment.

The same analysis must, or course, be performed from the defendant’s perspective in assessing the risks of litigation.  In some cases, liability is relatively clear (say 80%), but the recovery of consequential damages is uncertain (say, a 50% chance of losing on a 5-million-dollar damage claim).  The probability of that $5 million consequential damage loss is 40%. [efn_note]The simple examples used here are meant to be illustrative, and in practice, the risk analysis must be even more advanced. See, e.g., Keet, Litigation Risk Assessment: A Tool to Enhance Negotiation, 19 Caroozo J. of Conflict Resolution 17 (2018); Schaffer and Baeforth, Introduction to Risk Analysis in Litigation (2015), www.Dentons.com [/efn_note]

The foregoing examples underscore the need for a realistic assessment of both liability and damages not only at the outset of the case, but also as the case develops, and a fuller fact record is developed.  As I told one plaintiff who had a closely contested case with limited damages, in lieu of continued litigation, a better course might be to take its estimated future legal fees and simply bet black or red at a roulette table.  It’s over quickly, ends the burden on management, and the odds of a favorable result were about the same.

Finally, there is another layer of litigation cost that is more difficult to quantify, but in some cases, it can dwarf legal expense in significance.  Litigation diverts management resources. Instead of concentrating on the economics of their business, executives are distracted by the burdens of providing documents, preparing for depositions, teaching their lawyers their business, assisting them in case of preparation, working with experts, and ultimately, testifying at trial.  There is also an emotional element, with the executives who participated in the transactions being litigated, often concerned about their job security or company status if they are found to be at fault. When confronted with a “break the company” case, the owners are properly consumed with the potential consequences of a loss. On a human level, in 46 years of practice, I have yet to meet a witness who slept soundly the night before giving testimony under oath in deposition or at trial.  In many cases, there is also a risk that an adverse decision, or even the continued pendency of a lawsuit, will generate publicity that will injure the company’s brand or reputation., and perhaps even encourage copycat claims by other potential plaintiffs. To complete a proper case assessment, these indirect costs, which are not as easy to quantify into a percentage, must be taken into account and given their proper weight.

Mediation is designed to examine whether the risk assessment on both sides is appropriate, given the current status of the case, and how the record has developed after discovery.  As a result, it is an effective method of helping parties realize when a matter has reached the tipping point at which settlement becomes the preferred and sensible alternative.

Joe DiBenedetto recently retired from Winston & Strawn LLP, after spending 46 years in its Manhattan office as a capital partner specializing in commercial litigation. He formed JDB Mediation LLC to further develop his mediation and arbitration practice, which is centered in Manhattan and its surrounding counties (including Westchester, Nassau, and Suffolk). Joe DiBenedetto’s experience, training, and other credentials are more fully described at www.JDBMediation.com