85 research outputs found
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Exploiting Plaintiffs Through Settlement: Divide and Conquer
This paper considers settlement negotiations between a single defendant and N plaintiffs when there are Fixed costs of litigation. When making simultaneous take-it-or-leave-it offers to the plaintiffs, the defendant adopts a divide and conquer strategy. Plaintiffs settle their claims for less than they are jointly worth. The problem is worse when N is larger, the offers are sequential, and the plaintiffs make offers instead. Although divide and conquer strategies dilute the defendant's incentives, they increase the settlement rate and reduce litigation spending. Plaintiffs can raise their joint payoff through transfer payments, voting rules, and covenants not to accept discriminatory offers
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Strategic Judgment Proofing
A liquidity-constrained entrepreneur raises capital to finance a business activity that may harm bystanders. The entrepreneur raises senior (secured) debt to shield assets from the tort victims in bankruptcy. For a fixed level of borrowing, senior debt creates better incentives for precaution taking than either junior debt or outside equity. The entrepreneur's level of borrowing is, however, socially excessive. Giving tort victims priority over senior debtholders in bankruptcy prevents overleveraging but leads to suboptimal incentives. Lender liability exacerbates the incentive problem even further. A limited seniority rule dominates these alternatives. Shareholder liability, mandatory liability insurance, and punitive damages are also discussed
Strategic Judgment Proofing
A liquidity-constrained entrepreneur needs to raise capital to finance a business activity that may cause injuries to third parties -- the tort victims. Taking the level of borrowing as fixed, the entrepreneur finances the activity with senior (secured) debt in order to shield assets from the tort victims in bankruptcy. Interestingly, senior debt serves the interests of society more broadly: it creates better incentives for the entrepreneur to take precautions than either junior debt or outside equity. Unfortunately, the entrepreneur will raise a socially excessive amount of senior debt. Giving tort victims priority over senior debtholders in bankruptcy prevents over-leveraging but leads to suboptimal incentives. Lender liability exacerbates the incentive problem even further. A Limited Seniority Rule, where the firm may issue senior debt up to an exogenous limit after which any further borrowing is treated as junior to the tort claim, dominates these alternatives. Shareholder liability, mandatory liability insurance and punitive damages are also discussed.
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