CFOs managing tight budgets get some help for the bottom line by taking new approaches to fee arrangements for outside legal counsel.
Law firms, like companies in many industries, have struggled financially since 2008. While law-firm costs (professional salaries, rent, staff, pension obligations) are usually rather fixed, revenues for many law firms have declined. Competition is intense; there are many capable and hungry lawyers available.
With less legal work available for meeting their predetermined productivity requirements — usually 2,000 or more billed hours per year — many lawyers face a delayed, more difficult path to equity partnership in their firm. At the same time, partner compensation and benefits are being scrutinized more closely to determine whether they correspond with production.
In many cases, there is an unfortunate result to this situation. Especially when there’s a new client, it can look like pigs feeding at the trough, gouging and churning.
Anticipating that the client may view its situation as a so-called bet-the-farm matter where millions or even billions of dollars hang in the balance, and sometimes unimpeded by ethical considerations, law firms may bill excessively. Often, too many lawyers are assigned to work on matters, and they may not have enough other work to keep them busy, so they bill too much time on what they do have.
A case in point: a dispute between energy entrepreneur Adam Victor and the law firm DLA Piper over $675,000 in unpaid legal fees. As reported today, March 29, by the ABA Journal, an e-mail exchange among Piper lawyers surfaced in which a lawyer (who is no longer with the firm) stated to his colleagues, “Churn that bill, baby! That bill shall know no limits.” Another was said to have noted, “we are already 200k over our estimate — that’s Team DLA Piper!” DLA has said the e-mails were an “inexcusable effort at humor, but in no way reflect actual excessive billing.”
Regardless, it certainly is not helpful to the firm’s defense in the dispute. And counsel for Mr. Victor, after discovering the e-mail exchange, added a claim for fraud against the firm and a request for $22.5 million in punitive damages.
Also, both Apple and Samsung, in recent intellectual-property litigation, eventually will have paid their outside counsel hundreds of millions of dollars in fees.
Yes, those are complicated matters involving important disputes valued at billions of dollars, and each company needs experienced and talented counsel. But it begs the question: is the traditional hourly billing plan necessarily the best way forward for both the clients and the lawyers — especially when so many companies are not yet fully recovered from the recession and their CFO is still scratching and clawing to find cost savings?
The answer, simply, is no. It’s not.
In this business climate, at the beginning of the engagement the client and the outside lawyers should have a frank and open conversation like mature businesspeople. They should arrive at a mutually advantageous plan that gives the client some reasonable assurances against potential gouging, and gives the law firm some downside protection against being undercompensated given the resources it will be expending.
The smart CFO’s solution is one that forces the lawyers to have some “skin in the game”: some upside to enjoy if a measurable victory (as defined clearly in a written engagement agreement) is achieved, and some share with the client in the downside if measurable victory is not achieved.
For example, the client and the law firm could define in writing what constitutes victory (or victories). The CFO could agree to pay a certain monthly amount, say $25,000, as a replenishing retainer. That amount will be deposited with the law firm’s client trust account and credited toward the invoice on the matter. (Of course, the law firm will still keep a careful accounting of all time actually spent working on the matter.)
If one of the measurable and defined victories is achieved, then the law firm will be paid, say, 150% of its normal blended hourly rate for every hour spent working toward achieving that particular victory above the initial $25,000. If, however, the law firm fails to achieve that particular defined victory, then it will be paid a lower hourly rate for that work, say 50% of its normal blended hourly rate, for hours spent working to attempt to achieve that victory.
Just like performance-based compensation for corporate executives, a plan like that can incentivize the lawyers to “work to win,” and not merely to work. But it’s just one example: there are other potential ways to structure the engagement. The point is simply: try thinking outside the box. Getting creative with the outside-counsel fee dynamic could help CFOs protect their bottom line.
Stephen P. Dunn ([email protected]) is a litigation partner at Howard & Howard Attorneys near Detroit, where he prosecutes and defends business disputes. He is also a commissioned officer in the U.S. Army Reserve.