Kathryn Spier, Management & Strategy
Clause and effect
Kellogg Professor Kathryn Spier explains
how contracts that offer “most-favored nation” status
can be a boon to almost everyone involved
companies were incensed two years ago by a judge’s decision
to award $50 million to Universal Music Group.
had ruled that MP3.com, an online music service, had violated
Universal’s copyright by allowing users to listen to
music online. Universal, along with four other record companies,
had sued the Internet upstart. But Universal’s rivals
had settled when MP3 presented them with an apparently unbeatable
settle with all five companies for a reported $20 million
each. But if MP3 were ever to settle on better terms with
another record label in the future, then the early settlers
would also receive the better terms.
nation” clause proved irresistible to Universal’s
rivals. But the companies hadn’t figured on Universal
winning its lawsuit against MP3 and receiving a judgment worth
more than twice what they had settled for. Since the $50 million
was a “judgment” rather than a “settlement,”
the most-favored nation clause did not apply — and the
other companies were shut out of the winnings.
nation” clauses — used not only by MP3 but in
tobacco litigation, class actions, and many antitrust lawsuits
— have been criticized as detrimental to the settlement
process. But Kellogg Professor Kathryn Spier, an economist
who studies the strategy of legal contracts, argues that such
clauses can serve the greatest good for all parties concerned
— plaintiffs, defendants, the legal system and the public.
notes that MFN clauses level the playing field for all but
the plaintiffs with the strongest cases. This avoids the 11th-hour
bargaining that many defendants — especially those with
weak cases — engage in with the goal of achieving the
highest possible settlement.
get the settlement off the courthouse steps,” explains
Spier. “Plaintiffs with weaker cases often reject a
defendant’s early offers to settle because they anticipate,
correctly, that the defendant’s offers will rise over
time. But delay is inefficient. Protracted litigation involves
time, energy and legal costs. It also distracts companies
from their core lines of business and can negatively affect
the reputations of the companies involved.
settling early, the defendant will benefit, the early settlers
will benefit, the legal system will benefit and the public
will benefit. Everybody will be made better off, except possibly
those who will go to trial.”
those plaintiffs have a strong case, they may well benefit
from a favorable judgment in court. As for those plaintiffs
who believe they missed out on a potential windfall by settling
early, Spier notes that “hindsight is 20-20.”
“Whenever you pursue litigation, it’s a coin toss
whether or not you’re going to win,” she says.
“At the time the record companies settled with MP3,
it seemed unlikely they would be getting more than $20 million.
Without that MFN clause, the companies might not have been
able to reach a settlement at all.”
has presented her research on MFN clauses at leading law schools
and has been researching the strategy of legal contracts for
nearly 15 years. Two questions guide her thinking: Why are
contracts structured in a given way? And, who benefits from
the way they are structured?
case of MFN clauses, she says, most parties do benefit.
people say MFNs are not a win-win because we’re letting
these defendants off too easily,” Spier says. “The
purpose of a legal system is to provide an adequate deterrent
to bad behavior. However, there are better ways to do that
than forcing them to bear the costs of delays, which turn
out to be costly for everyone.”