Litigation is a costly, time-consuming, and unpredictable process. Parties to contracts often avoid pursuing legitimate claims for fear that their legal fees will surpass any potential recovery, or because the process is excessively long and uncertain. That hesitation, in turn, can embolden other parties to breach agreements, cut corners, or seek unfair concessions.  To counter these risks, contracts can incorporate specific clauses to facilitate swift and fair conflict resolution. Here are three ways to mitigate litigation risks in contracts:

Fee-Shifting Clauses

In the U.S., each party generally bears its own legal fees, regardless of the case’s outcome, a practice known as the “American Rule.” This can deter parties from pursuing valid claims due to the potential financial burden. A fee-shifting clause alters this dynamic by requiring the losing party to pay the prevailing party’s legal fees. This arrangement can encourage parties with legitimate claims to assert their rights, while simultaneously discouraging frivolous lawsuits, frivolous arguments, and lengthy, attrition-based legal battles.  Fee-shifting clauses also promote quicker and fairer settlements.  That is, by raising the stakes of any potential litigation, parties may be incentivized to avoid it altogether. 

Choice of Law and Venue Provisions

Choice of law and venue provisions specify the legal framework and the jurisdiction the parties agree should govern and adjudicate disputes. They streamline the litigation process by avoiding protracted and often esoteric legal battles over jurisdictional issues. They also mitigate against “forum shopping” and other forms of gamesmanship that incentivize parties to race to court rather than attempt to resolve disputes informally. If wisely drafted, choice of law clauses can ensure that a given dispute is decided under a well-developed body of law. For example, banks may wisely choose the law of New York; entertainment companies, the law of California. Knowing in advance the applicable law allows parties to assess their chances of success without prolonged preliminary legal maneuvers, leading to faster and more direct engagement with the merits of the case.  They are particularly valuable in cross-border transactions.  And while choice of forum clauses are not binding on courts – that is, parties cannot force a court to hear their case – such clauses generally acts as a waiver to any later objection(s) to that forum.

Liquidated Damages Provisions

Liquidated damages provisions specify a predetermined amount of damages that one party will owe the other in case of a breach. This creates predictability regarding the financial consequences of a breach, allowing parties to assess and manage potential risks more effectively. They are particularly beneficial in situations where actual damages are difficult to quantify, such as breaches of confidentiality, and simplify the litigation process by eliminating the need to prove actual damages in court. The prospect of paying a predefined amount of damages may act as a deterrent against contract breaches. Conversely, a party may decide it is “worth it” to breach, knowing that they will only be liable for the predetermined amount of damages and not a greater sum.

These three clauses, when effectively incorporated into contracts, can reduce the uncertainties associated with litigation.  Advice of counsel should be sought.