By Abby Tolchinsky and Ellie Wertheim
In May, we wrote about the role of mandatory mediation in helping to resolve the national foreclosure crisis. The article noted that the recession’s effect on home ownership and on neighborhoods has given rise to innovative programs in which borrowers and lenders negotiate directly with each other.
But, this is hardly the only way in which the recession has impacted mediation. Another facet of the recession’s wide reach is the impact of economic uncertainty and market volatility on parties’ ability to make lasting agreements.
In a robust economy, parties choose to mediate, at least in part, because of the autonomous decision-making the process affords. Mediation also helps to preserve relationships, and to save time and money by avoiding protracted litigation. Perhaps most important, mediation confers on the parties the freedom to negotiate agreements that may vary from a court-ordered result. In other words, the trend in mediation has been that detailed negotiated settlements were not necessarily driven by the macro-economy or by the law. Rather, parties crafted individualized results that made sense to each of them for a wide range of reasons. Over the past year, however, mediators are noting the increasing influence of economic uncertainty as a factor in negotiations and even in parties’ (in)ability to come to resolution.
What are the specific implications of the deepening recession on mediation? In order to participate effectively, a party must have a sense of his best alternative to a negotiated agreement as well as what the likely results are from various economic investments and efforts. However, today the future may seem particularly unknowable, and valuations may seem particularly hard to pinpoint with confidence and accuracy. If, for example, one is buying out a business partner, to what extent does it make sense to anticipate ongoing contraction of revenues? How can partners in good faith negotiation reliably determine the value of an ongoing entity when past performance may not be an accurate predictor of future profitability? Even if the parties agree on the likely decrease of profits, given the volatility of markets and the conflicting recovery indicators, at what percent is a valuation discounted? And, who is to say what is right?
Similarly, even when parties can agree as to how to value an asset or resolve a financial conflict, they may still face the credit crunch hurdle. So, if one party agrees to buy out the other and a loan is required to complete the terms of the agreement, the deal may need to be renegotiated if the loan cannot be obtained. For example, if one party wishes to buy out another’s interest in real estate, it may not be feasible to refinance the mortgage in one person’s name only. Thus, even if they agree on a price, they may face considerable challenges in executing the agreement.
These problems of valuation, obtaining credit as well as diminishing personal wealth and threat of bankruptcy, may typically all come into play in a family mediation regarding the care of an elderly relative. How do family members decide when and if to sell the home? Some don’t want to sell when the housing market is down, while others focus on the opportunity to free up equity and fear further drops in housing prices. With respect to alternative resources for elder care costs, there may be a question of whether to cash out investments, versus waiting and hoping for the market to recover more value.
The mediator is always responsible for ensuring informed, balanced and fair negotiations. The mediator also has an ongoing responsibility to “reality test” proposals the parties are considering. This is only heightened during the recession. The mediator is constantly asking: Can a business afford a given loan? Can profit flow be reasonably set? Can the severance package sustain the retiree or unemployed individual? While it is certainly true that parties are free to enter into what a neutral mediator may regard as a bad deal, so too should mediators strive to help parties strike deals that are both viable and lasting.
Parties to mediation should consider whether negotiating against the backdrop of a financially unstable environment is a preferable process to litigation. While the confidence with which parties mediate and strike deals is diminished by uncertain financial valuations, other aspects of the mediation process remain consistent and are preserved despite the recession. After all, the economy is fraught with risk and we all face the impact of the recession on a daily basis. For one thing, the judge in litigation is no better an economic forecaster than the parties themselves. Even the experts at the Treasury Department are struggling to find the right path to restore a measure of national economic prosperity, or at least stability.
Nobody knows exactly what values to put on assets these days, or whether the fear of unemployment will become a reality. That said, the parties’ control in mediation is the same as it ever was. It is the tools we have to determine market values that are fewer. According to Sharyn Maggio, CPA/ABV/CFF, who provides financial services to divorcing couples, both in mediation and in litigation, “Parties in mediation still have complete control. Today we need to be more creative and the details of the circumstances are more important. For example, in the past a couple might trade the house for the business. Today that isn’t so easy to do.”
All the same, the use of experts in mediation is becoming ever more important as parties strive to gather accurate information and advice prior to striking their best deal. Ms. Maggio, for example, has noticed that couples who are determined to divorce and are unable to hold on to assets until the economy recovers are simply taking a hit, selling low, distributing assets and moving forward. Others may retain joint ownership on a significant asset, often the home, but leave open when to sell, depending upon market performance and liquidity needs. Nonetheless, for those determined to strike a deal, the reality remains that you make the best deal with the best information you can obtain.
The best financial advice still cannot yield a crystal ball-like prediction of where the markets are headed. So, financial uncertainty and valuations become a factor to consider in the negotiations, just as any other factor which needs to be discussed, such as the role of the law, in determining how an issue will be resolved.
The strength of mediation—what makes it a vibrant alternative in a down market-is the creative contingencies that may be discussed and incorporated into an agreement. Such contingencies can take into account the vicissitudes of the market. So, parties may agree to a discount for buying a business entity today, one that is negotiated based on declining profits; however, should the business recover or even boom, there may be some sharing of the wealth a year out.
It may also be the case that while parties to mediation today are acutely aware of the economic uncertainties under which they are striving to negotiate, it may also be fair to say that parties in the recent past were unknowingly negotiating against a backdrop of tremendous risk. The breadth and scope of the recession, unforeseen, simply provided the illusion of settlements based on knowable financial futures. Also, with sensitivity to the recession, parties already in conflict are negotiating with added stress and likely fewer resources.
Regardless of the economic environment, bull or bear, mediation, as always, consistently costs less than any alternative forum. Indeed, in this recession, mediation is becoming a more popular forum. Recently, Crain’s Chicago Business reported, “The down economy is boosting mediation firms as more Chicago-area companies look to cut litigation costs.” The article goes on to outline several large corporations who have, in relatively brief mediations, successfully settled what would otherwise have easily turned into months and even years of costly litigation.1 One wonders whether such firms would have availed themselves of mediation several years ago, during the economic boom.
Ultimately, the profession and process of mediation stands to benefit from the heightened scrutiny and attention that must be paid to the information parties are using as a basis for their deal-making. Mediators must use a detailed, rigorous process, including the increased use of experts, in assisting parties in their quest for their own best settlement, one that is financially realistic, legally enforceable and, one hopes, stands the test of time.
Our last column addressed the ever-increasing need to hold back the tide of residential foreclosures in New York State. We discussed the detailed, thoughtful initiatives in New Jersey and Florida, both of which mandate mediation between lenders and homeowners prior to the initiation of a foreclosure action. We also analyzed New York State’s new legislation which requires a settlement conference be held. Each judge is administering these settlement conferences in a different manner, ranging from in camera discussions to motion calendar hearings.
New York’s legislation, though well-intentioned, falls far short of the public policy goal of preserving neighborhoods, family homes, and quality of life throughout the state, not to mention the risks banks have taken on as well as the tax base of municipalities and the state.
Since that column, Mayor Michael R. Bloomberg has urged “passage of a bill that would require homeowners and lenders to use mediation programs to avoid foreclosure.” As reported by WNYC radio, Mr. Bloomberg joked that “when borrowers and lenders are forced to negotiate, things will start to change. ‘Maybe you lock them in a room with a big pot of coffee and no bathroom and that will get them to pretty quickly come to an agreement. That’s the only way you’re going to get people to agree. They’re always going to sit there and wait.'” While that may not be a technique taught in mediation trainings, the mayor is apparently determined to protect the interests of both borrowers and lenders.2
Abby Tolchinsky and Ellie Wertheim are partners at Family Mediation.