In a recent article, we propose and evaluate an alternative to the class action as a mechanism for aggregating dispersed legal claims: a full market in legal claims where entrepreneurial third-parties can acquire claims and pursue them on their own behalf.
American law currently relies on procedure to solve the basic collective action problem in mass claims. The principal procedural devices are the class action and, for certain types of stockholder suit, the derivative action.
In practice, procedural aggregation generates agency problems nearly as intractable as the collective action problems it solves. Entrepreneurial plaintiffs’ attorneys in pursuit of a contingency fee are almost always the key players in aggregate litigation. Plaintiffs’ attorneys typically identify and seek out a representative plaintiff, rather than the other way around. Virtually all major decisions—whether to bring a suit, what litigation strategy to pursue, and whether and when to settle—are made, for all practical purposes, by the attorneys and not by the putative client. Plaintiffs’ attorneys usually have a vastly greater economic stake in the outcome of class litigation than any individual plaintiff, and they will often have incentives that diverge sharply from those of the class, and no class members are in a position to monitor the attorney. The tragedy of the class action is that the very same collective action problem that gave rise to the device in the first place also dooms any effort to monitor the performance of the attorney acting on behalf of the class.
We propose an alternative, market form of aggregation of dispersed claims: aggregation by acquisition. In most circumstances, we would do away with court-supervised procedural aggregation of claims and with binding results for all class members. Instead, legal claims should be freely alienable. Financiers could purchase claims (or shares of claims) directly from individual claim holders, assembling a mass of claims that may be negative-value if litigated individually but positive-value when litigated together. Such aggregation would solve the same collective action problems as the class and derivative action mechanisms but would do so without generating the attorney-class agency problem. The financier would actually own the claims and would possess both the concentrated economic stake and sophistication to supervise whatever attorney is ultimately hired.
A market for legal claims already exists, albeit one that is highly constrained and imperfect. Currently, holders of legal claims can typically ‘sell’ their claim in only two ways. First, they can sell it to defendants via a settlement. The obvious downside here is that there is only one potential ‘buyer’. Second, they can sell a portion of it to a plaintiffs’ attorney in the form of a contingency fee. Likewise, this market is also constrained not only in the identity of the potential buyer (plaintiffs’ attorneys only), but also the amount of the claim that may be sold (typically not more than one-third), and in the type of consideration the buyer may provide (payment in kind in the form of legal services).
A broader market would allow for greater competition and specialization in ways that should ultimately promote the goals of the civil liability system. In fact, a nascent market for legal claims has begun to develop over the past two decades in the form of the litigation finance industry. While still relatively small in scale and constrained in scope, litigation finance has recently become a focus of sustained scholarly attention. As presently practiced, litigation financing generally involves a stranger to a claim funding litigation in exchange for a stake in the proceeds, generally structured like a contingency fee. Litigation finance, however, is at best a partial solution for agency problems in aggregate claims. Indeed, the financier’s incentives will themselves frequently diverge from the interests of class members. Rather than ameliorating the agency problem between plaintiffs and their attorneys, litigation finance as currently practiced layers a new agency problem on top of the old one.
Full acquisition of legal claims, as we propose in our paper, removes the representative plaintiff and class counsel from the center of aggregate litigation. Aggregation by acquisition would replace a dispersed and potentially fractious group of small claimants with a concentrated and motivated acquirer.
This form of aggregation promises substantial benefits and may ultimately help generate litigation outcomes that are more closely related to the merits. First, aggregation by acquisition can help to overcome capital constraints and risk aversion that might otherwise skew litigation outcomes. Second, our proposal replaces otherwise one-shot plaintiffs with repeat player financiers, helping to equalize both bargaining power in particular cases and also the ability and incentive to influence changes to legal rules. Third, it could lead to specialization that could help to reduce the costs of litigation and the distortions such costs impose on litigation outcomes. Finally, our proposal would result in better—and, in some cases, more timely—compensation for injured parties, who would receive the expected value of their claims upfront, instead of a highly variable payoff following a long delay.
Charles Korsmo is an Associate Professor of Law at Case Western Reserve University.
Minor Myers is a Professor of Law at Brooklyn Law School.