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Taming the Litigation Beast (Business Week)

When the going gets tough, Americans litigate. More than the citizens of any other country on the planet or any civilization in history, Americans seek to resolve their disputes in the courtroom. While issues of national significance are resolved in the U.S. Supreme Court, minor disputes are argued every day before small-claims courts in towns and cities across the country. Whether it's a matter of national security or just a minor dispute among neighbors, we know that a court can ultimately resolve the case, and that we have a right to our day in court.

Of course, it was not always this way. In fact, one of the reasons why the colonists declared independence from England was because they were often denied their right to judicial redress. When it came time to craft a constitution for the new nation, it was no surprise that trial by a jury of our peers became a constitutionally protected right. To ensure this right, an independent and equal judiciary was established alongside the executive and legislative branches of our new government. While our right to seek justice is sacrosanct, like all of our rights, it is not free.

Although cases such as Brown v. Board of Education of Topeka, Miranda v. Arizona, and Roe v. Wade dominate the news and the history books, in everyday life American judges and juries dispense justice and protect our rights in a way that would make the Founders proud. But the process comes at a cost. The expense is not just one of time and money, but also the effort necessary to navigate through the judicial system.

Opportunity Cost

For businesses, these costs are massive. Each year litigation, and the threat of litigation, adds trillions in costs to businesses large and small. According to a report by consultant Towers Perrin, the direct financial cost of the U.S. tort system was $254.7 billion, or $836 per person in 2008. These costs are essentially borne by consumers through increased prices. Beyond the actual cost of litigation are the business opportunities forgone because of the risk of potential litigation. Because of the potential for litigation, businesses add disclaimers to nearly everything and some businesses even forgo launching new products that might attract litigation.

Every year brings new stories of outrageous jury verdicts. In fact, the Stella Awards are given to focus attention on ridiculous jury awards. The Stella Awards are named in honor of Stella Liebeck, the New Mexico woman awarded $2.9 million in damages from McDonald's (MCD) after she was burned by spilling coffee from one of the chain's restaurants on herself. (The jury award was later reduced.) Frivolous and trivial lawsuits clog the trial dockets of most courthouses, delaying justice for other, more worthy litigants.

While businesses correctly argue that tort reform is necessary, many companies have taken a proactive approach to resolving disputes and reducing litigation costs. Under the leadership of the current and former general counsels of many of the top multinational corporations, the International Institute for Conflict Prevention & Resolution (CPR) has pioneered new and inventive approaches to the prevention and resolution of business disputes.

Dispute Resolution: Two Key Elements

In many ways it is simply easier to file a lawsuit and let the judicial process take its well-defined course. Businesses adopting an alternative approach to dispute resolution find that it requires new and different resources. The approach must not only have the support of the legal department; it must also have the full backing of senior management.

While no two programs are the same, two key elements are found in the most successful ones. First is early case assessment—evaluating all aspects of potential claims soon after they appear on the horizon. This allows the company to determine whether there is a valid claim and, if so, how best to resolve it. Second is selecting a forum, other than a courtroom, to resolve the claim. More times than not, that alternative forum will be mediation or arbitration. Given the ready availability of neutrals—for example, a disinterested professional serving as mediator or arbitrator—from CPR, American Arbitration Assn., and other similar organizations, finding an acceptable alternative forum is not difficult.

An early and effective adopter of CPR's principles is paper and building-products giant Georgia-Pacific. Through an aggressive use of early case assessment and alternative dispute resolution, Georgia-Pacific estimates that it has saved millions of dollars through reduced litigation costs. While businesses may be giving up their "win at any cost" mentality, most find that they actually have much more to gain. In the 10-year period from 1997 through 2006, Georgia-Pacific estimates that it saved at least $42 million—a meaningful amount even for a company with billions in annual revenues.

Deterring Frivolous Claims

One concern expressed by many businesses is that if they adopt an alternative approach to conflict prevention and resolution, their company will be seen as weak and open to settlement of frivolous claims. This is not a problem when companies, such as Georgia-Pacific, take the view that they will actively litigate whenever necessary. By making it clear that it will only seek to resolve legitimate claims and will vigorously defend against frivolous claims, a business may actually deter such disputes.

Dispute resolution through negotiation, mediation, and arbitration is clearly preferable to all-out litigation, but dispute prevention is an even better approach. As we were all told as children, "An ounce of prevention is worth a pound of cure." Businesses can prevent disputes if they are committed to doing so. Of course, that is easier said than done. However, companies that have made a concerted effort to proactively address potential conflicts as they occur and keep them from escalating have found that fewer minor issues become big disputes. While in any particular situation the effort may not seem justified, a systematic approach to eliminating sources of conflict can and does yield significant benefits to all parties.

While litigation and its associated expenses cannot be easily eliminated, businesses that take active and thoughtful steps to address potential issues and resolve disputes will almost always be able to reduce the need for going to court. As businesses look to reduce their costs, clearly this is an area worth exploring.

No matter what the cost, America has a judicial system that is the envy of the world. We should relish and protect the system, but we must also find creative ways of resolving disputes outside the courtroom. If that happens, we will all win in the long run.

Aquila is a partner in the Mergers & Acquisitions Group of Sullivan & Cromwell LLP.

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