“Tied to the Mast”: Most-Favored-Nation Clauses in Settlement Contracts

Many settlement contracts in lawsuits that involve either multiple plaintiffs or multiple defendants include so-called most-favored-nation (MFN) clauses. If a defendant who faces multiple claims, for example, settles with some plaintiffs early and settles with additional plaintiffs later for a greater amount, then the early settlers will receive the more favorable terms as well. This paper presents two frameworks for evaluating the private and social desirability of MFN clauses. First, MFN clauses can mitigate asymmetric-information problems and encourage cases to settle earlier. While avoiding delayed settlement is privately and socially desirable, it is shown that the litigation rate may rise. Second, MFN clauses may be used as a bargaining tool for extracting value from future plaintiffs, leading to breakdowns in future negotiations. In both frameworks, the private incentives to use MFN clauses may diverge from the interests of society as a whole.