Companies Squeeze Legal Fees

Even the most elite law firms that serve Fortune 500 companies are being forced to become more efficient

WHETHER they got mad or just determined, company lawyers decided a few years ago that they weren't going to take it any more.

Caught between rising legal expenses and cost-cutting demands by senior management, many in-house corporate lawyers began challenging the fees charged by outside attorneys. These general counsel not only have sparked a revolution in how legal services to business are billed and paid for, but, more broadly, their assertiveness could effect long-term changes in how those services are performed.

``Efficiency,'' a production-line word that seemed as out of place in many law firms as blue collars, has joined the legal lexicon.

Even the most elite law firms that serve Fortune 500 America - firms long accustomed to receiving millions in fees from blue-chip clients with few questions asked - have been hit by companies' insistence on economical practices. ``There isn't a law firm in the United States that hasn't had discussions with clients about value billing,'' says a partner at one of the most prestigious law firms in Chicago, who asked that his name and the firm's name not be used.

``Value billing'' is an umbrella term for a wide range of new or dusted-off fee arrangements between outside lawyers and, generally, substantial corporate clients. ``General counsel at major companies are driving the effort, and the impact is mainly on large and mid-size law firms,'' says James Marcellino, a partner at McDermott, Will & Emery in Boston and president of the Boston Bar Association. ``But within that segment of the legal market, value billing is a hot topic of conversation.''

Fees gain new visibility

Indeed. At the three-day annual meeting of the American Corporate Counsel Association in Washington last November, an entire afternoon was devoted to a discussion among the member in-house lawyers about fee arrangements with outside attorneys.

Business's concern over steeply climbing legal fees isn't new. At least 15 years ago, many corporations began to bulk up their legal departments in order to perform routine (and, in some cases, even more-specialized) legal work inside. But most of the achievable savings have been realized, and the trend has leveled off. In fact, a nascent counter-trend is perceptible, according to D. Broward Craig, a legal consultant in New York, who says some downsizing companies are starting to shrink legal staffs and ``outsource'' more work.

What is new is the willingness of company counsel to challenge the bills they receive from outside lawyers. In part this stems from the fact that corporate legal departments today are filled with law-firm alums who know the pressure on outside lawyers to rack up ``billable'' - but sometimes inefficient or unnecessary - hours of work.

Companies and their in-house lawyers are taking their revolt a step further, however. In questioning the billable hour itself, they are raising fundamental issues about value and productivity in the delivery of legal services.

Legal scholars Robert Litan and Steven Salop, reflecting much current thinking, wrote in an article in the Jan.-Feb. issue of the journal Judicature that ``hourly fees provide ... incentives for attorneys to run up bills at their client's expense.'' The authors propose a combination of closer monitoring of hourly charges and alternative fee arrangements to eliminate those incentives.

Many general counsel are adopting such practices. Some companies, notably insurance giants like Liberty Mutual in Boston (see accompanying story) and Aetna Life & Casualty Company in Hartford, Conn., that have large litigation caseloads handled by hundreds of outside lawyers, have developed extensive legal-cost-management programs.

Virtually across the board, companies are requiring detailed bills from outside lawyers: Gone are the days when law firms could submit five- or six-figure invoices ``for services rendered.'' Company lawyers or executives examine those invoices for any signs of wasted hours, unnecessary work, overstaffing, dubious disbursements or overhead charges, or other kinds of bill-padding.

``A few clients even ask to see the raw data on our billing computer runs,'' says a partner with a large New York law firm, who asked not to be named.

Clients aren't reticent about questioning fees or expenses and seeking adjustments, says Whitney Gerard, a partner with Chadbourne & Parke in New York. ``If we respect the client and recognize that the company is making a good-faith argument, we'll sometimes adjust the bill. We try to be responsive,'' Mr. Gerard says.

But outside lawyers are under pressure to be responsive in more ways than just tightening up their time-keeping and disbursement procedures. ``The general counsel can't be the only officer in a corporation who is paying for services on a time-plus-supplies basis,'' says Daniel Hapke Jr., vice president and general counsel of General Dynamics Corporation's Space Systems Division in San Diego.

Charging by the hour

Time-based billing is still the primary method of valuing legal services. Increasingly, however, companies are requesting fee arrangements that aren't based on hourly rates, or that modify normal rate structures. There are numerous variations of alternative fee arrangements, but the most common include:

* Flat fees. Outside lawyers agree to handle an entire legal matter or designated parts of a matter for a set price. The more efficiently the work is performed, the greater a law firm's profit. Sometimes flat-fee work is put out for bids among law firms. ``For certain matters, legal work isn't different from a construction contract,'' says Jack Douglas, senior vice president and general counsel of Reebok International Ltd. in Stoughton, Mass.

Because flat fees are most applicable to fairly predictable matters for which lawyers can accurately project their costs, such as acquisitions or bond offerings, they rarely are applied to complex litigation. But when lawyers can spread the risk over a large number of cases, as for an insurance company, they sometimes will take on a litigation portfolio for a fixed fee.

Last fall, the New York law firm LeBoeuf, Lamb, Greene, & MacRae agreed to handle all of Aluminum Company of America's litigation - more than 500 lawsuits - over three years for a flat fee reported to be between $6 million and $7 million.

* Performance incentives. These are limited only by the imagination of lawyers and clients. They can take the form of contingency fees or bonuses pegged to the outcome of a matter, the speed with which it is resolved, or benchmarks such as the average settlement in cases of a given type. Clients also can reserve the right to reduce a fee based on similar criteria. Such incentives can be coupled with either a flat fee or a reduced hourly fee.

* Blended rates. Rather than charging different hourly rates for senior lawyers, junior lawyers, and paralegals, law firms charge a single ``average'' rate. The more work that can be performed by lower-paid professionals, the more profit can be realized.

* Volume discounts. Law firms agree to reduce their hourly rates in return for a steady stream of work from a client.

* Fee caps. Lawyers work for their normal hourly rates, but with a ceiling on the amount that can be charged for a matter.

Reebok's Mr. Douglas says, ``My thinking started to evolve against hourly rates in some cases, because they create perverse incentives. A lot of [law firms'] billing practices got toward the fraudulent end of things; some expenses weren't expenses at all.''

Douglas says he ``started moving toward other arrangements about three years ago. I wanted to partner-up with the company's outside legal providers.''

New fee arrangements

Among the new fee arrangements Douglas has devised: A Washington lawyer who does legislative and trade work for Reebok is paid a flat monthly fee, with a quarterly bonus based on how hard he works and the results achieved.

For many litigation matters, Reebok pays lawyers a reduced hourly rate, with bonuses payable at the end of a case or a designated portion, based on results. And for a flat monthly fee, Ropes & Gray, a leading Boston law firm, performs all of Reebok's work on matters stipulated in an agreement.

Reebok's contact at Ropes & Gray, partner David Walek, says he sees value billing ``in a pretty positive light. It is making law firms more efficient and businesslike.''

``Also, flat-fee arrangements can result in improved relationships with clients, because the parties don't have to focus on billing issues so much,'' Mr. Walek adds. ``It can be a win-win situation for both the client and the law firm.''

One advantage of a flat-fee arrangement, Reebok's Douglas says, ``is that it puts the management of a law firm back to them. A client doesn't want to tell a firm how many lawyers to assign to a case, what to research and what not to research, or what expenses it can incur. With a flat fee, all those kinds of decisions are left to the firm.''

Managing lawyers' time

For many law firms, however, that's the rub: management. Leave aside the folk wisdom that lawyers are lousy managers (which, like most folk wisdom, probably has an element of truth). Many law firms don't have the systems and information needed to accurately determine their costs of performing various kinds of legal services.

``Compared to corporations, law firms have skimpy internal data on what things cost,'' Walek says. ``They are needing to build better data bases.''

But the new competitive environment that lawyers practice in today is compelling them to make adjustments that have long-range implications for the profession. ``Law firms tended to be laggards on the use of technology,'' consultant Craig says. ``But now they're getting up to date in their use of computers and telecommunications.''

Large law firms that have been accustomed to assigning two or more partners, several associates, and a bevy of paralegals to a client's problem are having to rethink their staffing patterns under pressure from cost-conscious executives.

Sometimes firms try to lower their fees by pushing work downstream; but often, Craig says, ``it is cheaper to have one experienced lawyer do the work, even at a higher hourly rate, than to put less experienced and less efficient associates on a case.''

``Clients generally don't have a problem in recognizing the value they get from a $300-an-hour lawyer,'' Walek says. ``What irks them is when they think they are paying to train less experienced lawyers.''

This reluctance of clients to subsidize on-the-job training of junior lawyers already is posing problems for some law firms in giving hands-on experience to green associates fresh out of law school. Scholars Litan and Salop even project that the new economics of legal practice could shrink the market for new lawyers.

The long-term implications of value billing to the delivery of legal services in America are still evolving, however. More immediately, it is plain that cost-cutting companies have plunged law firms into a brave new world of price competition.

``Some attorneys have been aggressive in developing new pricing arrangements,'' says Julie Ann Welborn, manager of Liberty Mutual's Litigation Management Program. ``Innovative lawyers will make a good living working with us. But some lawyers have been reluctant to change their ways. They might not make it.''

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