One aspect of grand strategy in litigation is making preparations for the possibility of getting sued. Preparing to get sued does not mean that a company has done something wrong. While some lawsuits are valid, others are not. And, given the pressures that entrepreneurial class-action lawyers face, it is inevitable that some will file lawsuits regardless of merit. In an atmosphere like this, preparing for lawsuits in advance is a necessary caution. 

Corporations really do make these preparations. In their working paper “Litigation Risks and Corporate Cash Holdings,” professors Matteo Arena and Brandon Julio found that the concentration of securities class actions in a particular industry "is a strong predictor of actual litigation events." (In other words, the more lawsuits already filed in a particular industry, the more lawsuits likely will be filed in the immediate future.) They also found (as one might expect) a strong correlation between that concentration and the amount of cash companies in that industry stockpiled. Companies stockpiled additional cash whether or not they were actually sued. (The authors subjected their hypothesis to a mathematical technique known as “simultaneous equations” to confirm that the companies weren’t just being sued because they had extra cash on hand.)

The authors made several other observations as well. Among them, increased litigation risk makes it harder to find auditors, depresses stock price, and increases managerial turnover. What lessons can we draw from all of this?

  • Start talking to clients before they’re sued if they’re in a high-risk industry that’s just been hit. They may be putting aside money in anticipation of a case anyway, and learning about how they conduct business can be very helpful for hitting the ground running once they are actually served with a complaint.
  • Be specific with clients about the consequences of litigation risk. Even in the best of companies, the incentives may not align for preventing litigation. Minimizing risk (which can be hard to quantify) may take a backseat to increasing revenue, or ensuring that the current stock price is as high as possible. (It’s not like we lawyers are immune to these pressures.) The consequences of increased litigation risk are concrete things that will matter to firm management. Stock price affects their compensation. Managerial turnover means their jobs are at risk.

No one can predict exactly when a given company will be sued. But knowing generally what risks a company may face (even just by virtue of the industry it competes in) can enable defense lawyers to get a head start on some of the preparations for complex litigation.