improving litigation decision-making &managing litigation costs byacknowledging risk
DESCRIPTION
Using litigation decision tree analysis to better understand and manage the risk of litigation and, additionally, control costs.TRANSCRIPT
34 Coquito Court, Menlo Park • California 94028 • Phone 650.854.1914 • www.litigationriskmanagement.com • [email protected]
LitigationRisk Management
Institute
Bruce Beron, Ph.D., President
Improving Litigation Decision-Making &Managing Litigation Costs byAcknowledging Risk
Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
Management–the act, art, or manner of managing, or handling, controlling, directing, etc.
Decisionmaking
Implementation
Most of us are taught implementation (how to take a deposition or write a brief). If we are really good at it, we get promoted to decision-making, which is a different set of skills.
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
Strategic decision-making requires a different mind-set / perspective from operational decision-making.
For strategic decision-making, we need to focus on those uncertainties that can change the decision.Most operational/implementation issues are unimportant for strategic decision-making.These operational/implementation “details” may be very important and must be taken into account once the decision has been made and is being implemented.
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
Risk — the chance of injury, damage, or loss; dangerous chance
The art of business-like decision-making is the art of balancing risk and reward.Few lawyers or business people understand Risk.It requires a statement of likelihood like:
CouldMightWillOr, most effectively, a probability (quantitative)
And requires a statement of consequence:Hit by a carLose our shirtsOr, most effectively, lose ten million dollars (quantitative)
We define Risk as UncertaintyAnd that doesn’t necessarily imply a chance of lossIt is risky if you get $5M when you might have gotten $100M
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
Most attorneys and business people do not think properly about the rewards either.
We almost always focus on the risks, the downside.• There is someone’s name on the check.• The accounting system knows exactly how much was misspent.The potential upsides are never precise or well defined.• Very few people get fired for increasing sales by 30% when they
should have increased them by 40%.• Very few attorneys are criticized for settling a case for $20M
when the expected loss was $10M.The upside too requires a statement of likelihood and a statement of consequence.
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
What is Litigation Risk Management?
A way to understand risk
A way to make good decisions
In order to make good decisions, we must understand uncertainty!
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
Let's consider a simple litigation example where we are the defendants.
Liability
No Liability
0.3
0.7
Damages$100,000
$0
For simplicity's sake, let's ignore litigation costs.
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
The Expected Loss is defined as the sum of all the outcomes times their respective probabilities.
Liability
No Liability
0.3
0.7
Damages$100,000 x .3 = $30,000
$0 x .7 = $0
$30,000
$30,000
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
Expected Loss represents the average loss if we could run the litigation many times.
• It is a good starting point for settlement value
•But it doesn't take risk into account.
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
What is our maximum settlement value for this litigation?
• The difference between this maximum settlement value and the Expected Loss is our risk premium.
• If our maximum settlement value is $40,000, then our risk premium is $10,000 ($40,000-$30,000).
• This means we are willing to pay an extra $10,000 to avoid the chance of the bad outcome.
This is our reservation price.- If we can settle for less - we will take it .- If we can't - we are willing to take our chances in court.
• There is no right answer, but there is a right way to think about this value. Only three things should be considered:
- Probabilities- Outcomes- Risk Attitude
• Avoid sunk cost thinking!
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
Let’s consider the probabilities
Liability
No Liability
0.3
0.7
Damages$100,000
$0
$30,000
Where do they come from and what do they mean?
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
A probability is the quantification of judgment, based on knowledge and experience.
• The trial outcome will only happen once, and we will win or lose.
• The question we want answered is• “Will we win or lose?”• The probability reflects our best judgment as to how likely
winning is, to help make decisions.• There is no right answer!
• If the original judgment of win is 95% and we lose, that does not mean that the 95% judgment was wrong!
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
A probability is the quantification of judgment, based on knowledge and experience. (continued)
• Do not confuse probability with frequency• Frequency is what is taught in classical statistics• Frequency of heads in a coin toss is 50%.• Frequency is accessible for a coin, not for a unique case.
• Correct probability is an accurate reflection of judgment.• Not always easy to assess.• We all have biases in thinking about probabilities.
• Probabilities change with new knowledge• Quantification does not imply precision
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
Would it be a good decision to settle this case for $35,000 if we could?
Yes, because we are settling the case for $5,000 less than the maximum settlement we would be willing to pay.
Expected Loss of $30,000Risk Premium of $10,000
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
We should distinguish between decisions and outcomes.
•Good decision-Consistent with knowledge and preferences
•Good outcome-One we want
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
We should distinguish between decisions and outcomes.
•Know what you can control and what you can't.
• If you don't analyze decisions, you can only judge on outcomes.
If you judge people by outcomes, they will make those decisions that have the lowest probability of a bad outcome, not the highest expected outcome.
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
What tools do we have to manage the trade-off between litigation risk and litigation cost?
•We can calculate the value of imperfect control.-How much would we pay to incrementally decrease the
likelihood of a bad outcome?•How much would we pay to decrease the probability
of liability by 10% back at our simple example?
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Liability
No Liability
0.2
0.6
Damages$100,000 x .2 = $20,000
$0 x .6 = $0
$20,000
$20,000
New Expected Loss is the Value With Imperfect Control -$20,000 - Original Expected Loss -$30,000 Value of Imperfect Control $10,000
Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
We put in the new probability, calculate the Expected Loss, and then subtract the original Expected Loss, to get the incremental value.
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
There is always risk in litigation! The best you can do is to minimize those risks in a cost effective manner.
•Acknowledge explicitly the risks/uncertainty in litigation.
• Judge counsel on the quality of their decisions, not on their outcomes.
•Control costs by making explicit trade-offs between litigation risk and litigation cost.
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
Litigation Risk Management is a necessary supplement to your intuition.
An effective, efficient decision insurance policy
When intuition doesn't work or you are not quite comfortable with your decisions
When you need to justify or explain your decisions
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
Litigation Risk Management is a process for making good decisions.
It is a process, not a product.Characterized by:•Decision focus
•Do enough analysis to make decision
•Balance between:•Paralysis by Analysis•Extinction by Instinct
The real product is not the numbers but a state of satisfice in mind of decision makers.
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Risk ManagementLitigation
Institute© Bruce Beron 2014 LRM Brief Intro / Costs
If a man will begin with certainties he will end with doubts, but if he will be content to begin with doubts he shall end in certainties.
-Francis Bacon
(1561-1626)
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