The Class Action as a Financial Call Option

Class action law enforcement is a resource-intensive undertaking, requiring investment of both intellectual capital and financial wherewithal. Building on insights developed in the economic theory of investment under uncertainty, the key theoretical proposition is that class action law enforcement comprises a multi-stage sequence of investment opportunities under conditions of multi-dimensional uncertainty. The properties of investment in class actions include (i) investment expenditures; (ii) future rewards on investment; (iii) multi-dimensional investment uncertainty; (iv) the irreversibility of investment expenditures; and (v) the sequential, multi-stage property of investment opportunities and investment decisions. The court appointment of class counsel is modeled as a judicially-granted monopoly over investment in class action law enforcement. At any given stage of the sequence (but for the last one), plaintiffs' attorneys and, later, court-appointed class counsel are faced with a financial call option, namely, an opportunity to invest and buy, with some probability, the opportunity to invest in the stage that follows in the sequence. Plaintiffs' attorneys' and, subsequently, the court-appointed class counsel's incentives to invest and investment decisions throughout the sequence are overwhelmingly the most important determinant of the magnitude of liability exposure. These theoretical propositions provide the most conceptually-inclusive model of the incentive structure of class action law enforcement. This analytic model is conceptually-inclusive because the myriad decisions made by plaintiffs' attorneys and, subsequently, by class counsel in the course of class action law enforcement are perceived as sequential investment decisions under conditions of uncertainty. Thus, virtually any aspect relating to the conduct and performance of plaintiffs' attorneys becomes amenable to analysis as a sequential investment problem. Normative implications concerning the design of investment-oriented, welfare-enhancing regulation of class action law enforcement across different areas of law where class actions are used as an enforcement mechanism are derived.