Increasing Liability Risks Threaten Growth and Trouble Boards

fayazuddin a shirazi

A study conducted by Lloyds, a London based insurance market, reveals that board members are increasingly concerned about the increasing number of corporate litigation cases facing the boards and the escalating cost in mitigating such risks. “Among the companies surveyed, almost seven in ten have faced lawsuits in the past three years and 38 percent have seen some increase in the number of cases brought against them during this period,” Richard Ward, CEO Lloyds told CE Online

The study done in conjunction with the Economist Intelligence Unit – a global research and advisory firm on business intelligence based in London – entitled “Directors in the dock – is business facing a liability crisis?” brings forth the dangers of inefficient handling of corporate litigation cases, which could eventually jeopardize the company prospects by wasting the scarce resources.

The report, based on interviews with 180 board level executives reveals that one in five companies have faced lawsuits targeted at individual directors or officers, including non-executive directors with employees and customers being the most likely source. However, Lloyds chose to keep mum when asked about any specific examples of such litigation cases.

Alongside employees, the regulatory authorities also are increasingly becoming the source of lawsuits, says the report. “About 15 percent of companies seeing lawsuits brought by regulatory authorities is indicative of a change in the laws of the U.S. and the U.K. Besides, there’s a prominent shift in the attitude of the enforcement authorities, which are now increasingly willing to initiate criminal proceedings against companies and its directors,” laments Ward.

“No matter what their size, location or industry, all businesses are facing increasing liability risks. Product recalls are now a daily occurrence, rising 50 percent in Europe alone last year. Shareholder activism is on the rise and a complex operating environment and new legislation serves to increase risks further,” said Lloyd’s of London Chairman Lord Peter Levene, said in a statement.

Industry experts believe that these regulatory changes have led to enormous burden on both the time and finances of the boards. About 39 percent of those surveyed expect the growing risk of litigation will increase the cost of their products and services and stifle risk taking over the next three years. “On average boards are spending 13 percent of their time discussing litigation issues which is a huge drain on the leadership of businesses,” Ward pointed out adding that this amount of time if saved could be utilized in attending to other business priorities.

As per the study, boards have also reported sizeable increase in their litigation budgets, which they believe is indirectly affecting the customers. “The consequence is rise in cost as companies increase their use of legal teams and often have to increase the prices of their goods and services to make-up for the increased cost,” explains Ward.

According to a 2006 global survey of corporate counsel professionals commissioned by law firm Fulbright & Jaworski, companies with annual sales of $1 billion or more spend an average of $31.5 million on legal affairs. The number of lawsuits in 2006 soared to 556 cases for billion-dollar companies, with almost half facing 50 new suits annually, the survey said.

Yet another survey from Fulbright & Jaworski revealed that about one-third of U.S. corporations face at least 25 lawsuits, and nearly one in five face more than 100 actions in U.S. court. About 40 percent of U.S. companies in the survey said they faced new lawsuits with more than $20 million at issue in the original complaint, a report published in RiskandInsurance.com, an insurance advisory portal based in Horsham, PA said quoting the F&J 2007 survey report.

Citing an anecdote from one of the survey respondents Ward says that the rising cost in pharmaceutical products is self-explanatory of the survey finding. “People wonder why drugs are so expensive and why the cost of healthcare spirals very often. It’s the result of a legal system that won’t place limits,” said Ward quoting the general counsel of a US-based biopharmaceutical company interviewed by Lloyds.

Industry veterans believe corporate boards could see a huge liability crisis on the horizon for businesses if they fail to recognize and prepare for risks in their industry, especially the ones in the financial sector. “Businesses need to put in place an effective infrastructure to take pressure off of the board as they are competing with a number of other business priorities,” says Ward.

Effective infrastructure, Ward says, will involve creating a strong in-house legal team with clear lines of responsibility and accountability and monitoring & assessing the risk environment in a more structured way. “Using the resources at hand more effectively – monitoring media in a more structured way, looking at legal activity elsewhere, seeking advice from government bodies and risk & management consultants are some of the steps that organizations could take to mitigate such risks,” suggests Ward.

Interestingly, corporate boards also are of the opinion that the U.S. style of grievance culture is fast spreading across Europe and Asia, which according to them has again contributed to a worldwide cost increase. “U.S. has witnessed the emergence of a society in which most of the people suffering from any kind of personal injury are found to be seeking compensation or damages through litigation. Evidence suggests that the cost and extent of litigation is highest in U.S., other regions are catching up fast,” says Ward.

According to Lloyds survey report one way of assessing the potential impact of a more litigious culture is to examine its economic impact on the U.S., which has become used to such an environment. A U.S. Tort Liability Index, by the Pacific Research Institute says that the high cost of the US tort system has made products more expensive. States with high tort costs experience lower standards of living and slower economic growth, the Liability Index pointed out.

Additionally an annual survey by Tillinghast, an insurance consultancy, on U.S. tort costs and trends revealed that the U.S. tort system cost estimates were $ 247 billion in 2006, which translates to $ 825 per US citizen. Interestingly in 2005 the tort system cost stood more at $ 261 billion in comparison to 2006. However, Tillinghast predictions for the year 2007 and 2008 are a bit scary. It says that tort costs will rise about 2.5 percent in 2007 and 4.5 percent in 2008 reflecting increased litigation related to subprime mortgages, among other trends, a report published in Insurance Information Institute said.

Ward is of the opinion that the current U.S. culture has considerable negative consequences for companies that want to do business in U.S. “Indeed, 42 percent of the survey respondents consider the U.S. grievance culture a “major disincentive” for doing business in and with the country,” Ward remarked in his interview with CE Online

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