In the first seven posts in this series, we have seen that legal pricing is changing as a result of the increasing use of AFAs, and client pressures for efficiency on both hourly and non-hourly matters.
So what does this mean for the future? Nobody knows.
We have reached a point in human history where predicting the future beyond a few years is quite a challenge. A perfect example is that of Facebook, which grew from zero to 100 million users in less than two years. What things will look like in five to ten years is anyone’s guess. So the best we can do now is keep a vigilant eye on the storm and stay prepared to constantly alter course.
While we don’t know exactly how things will turn out, it does seem safe to predict that changes in pricing will be driven by several key trends:
- Alternative fees will continue to increase. According to Altman Weil’s 2011 Chief Legal Officer survey, 14% of fees are currently non-hourly. This percentage has gradually been increasing. Conservative clients often require a long time to take the leap to try non-hourly fees, but this particular change is a one way street. Tucker Ellis was one of the first mid-sized firms to derive more than half of its revenue from non-hourly fees, and managing partner Joe Morford, has noted that “Once we started working for a client with AFAs, not a single one has ever wanted to go back to hourly.”
- Lawyers will develop new metrics that measure value. Sophisticated clients want to measure what they are paying for, and a sophisticated law firm should be able to measure its own results. Part 6 of this series gave an extended example of the challenge of one past attempt to define value metrics. For an interesting discussion of why there is resistance to this idea, see Paul Lippe’s blog post entitled What If Someone Could Measure What Lawyers Do?, and the comments written by various lawyers at the end of that piece.
- Leading firms and clients will place increasing emphasis on aligning their interests. One key to success for AFAs is creating a genuine sense of partnership by aligning interests. As one AmLaw 100 decision maker put it in our LegalBizDev Survey of Alternate Fees (page 47):
The firm and the client must have a very transparent conversation about the process. [It is important to discuss] how [the fee structure] will be mapped out and who will do what. [It is vital] to look at the delivery of services holistically, and to look at how the team in-house and the team outside can work together to deliver value for your shared client. That’s a real challenge, because it is tricky to transition from a negotiation process to a collaborative process. If you can get into a collaborative discussion, you can get good results that work for both organizations.
This requires some sharing of risk. Another participant in our survey put it this way (page 48):
GCs should be thinking about what kind of risks they are willing to take early on in the life of a particular matter. Right now , they want firms to take all the risk and they are reluctant to take risks themselves.
- The distinction between bet the company, important and commodity work will be reflected in different pricing strategies. In The Essential Little Book of Great Lawyering, Jim Durham estimated that about 5% of legal work fell into the “bet the company” category, 65-70% was “important” and 25-30% commodity work. There is every indication that the percentage of commodity work is going up, and the other two categories are shrinking. To be price competitive, it will be crucial to keep up with the process improvement and outsourcing alternatives for commodity work. As Toby Brown noted in his blog series Staying Relevant:
An emerging and compelling reason for lawyers to make different business decisions is coming from new breeds of competitors. One example is the Legal Process Outsourcer (LPO) market. These companies started as off-shore (typically India) based providers for first document review in litigation. They hire English speaking, American law trained candidates in other, lower wage countries. These much lower-costing, well-enough trained lawyers were appropriately suited for this level of work. So well-matched to the tasks, that in very short order, these document reviewers became viable competitors. Most lawyers glossed over this market encroachment, seeing it as commodity level work no longer worthy of their skills. In reality, this meant millions in fees were no longer going to US lawyers.
- Law firm profitability will be squeezed harder than ever before. According to the 2012 Client Advisory from the Hildebrandt Institute and Citi Private Bank (p. 10):
Many firms will need to work harder to maintain profitability at levels that meet the expectations of their partners. Indeed, we expect that 2012 may prove to be even more challenging than 2009 in terms of profitability across the industry, not because revenues will be as depressed in 2009 but rather because of the combination of slow revenue growth and rising expenses.
- Hourly billing and high partner profits will be questioned more and more in the future. Clients generally do not live in an hourly billing world . They know their actual costs of doing business and plan to make a profit above those costs. They have pricing risks and plans to manage those risks. Clients often wonder why their law firms cannot do the same. Many corporate counsel started their careers as associates at large firms, and they know all too well how the profit model works for firms. Many are asking why partner compensation is so high. As Susan Hackett put it:
…surveys—such as these from Corporate Counsel and Empsight—are coming out. They usually confirm that the average in-house counsel who hires outside firms makes only slightly north of what a bonused first- or second-year associate in a big law firm makes. There are a few hundred large law department top leaders who haul in comparable returns for their work—usually through non-salary comp—but nowhere near the number or percentage of highly compensated partners that we find in the ranks at big firms where entire equity partnerships pull in hundreds of thousands or over $1 million a year in profit per partner.
The average in-house lawyer is well aware that he shares with those high-profiting partners the same schooling, sophisticated law firm background, and top-flight experience on his resumé. He’s made his choice, but please remember that he will more likely identify with the "99 percent"–and not the partnership–when he’s assessing who’s getting coal this Christmas.
- Competition on price and value will increase. The Hildebrandt/ CitiBank 2012 Client Advisory (page 5) also notes that “[There is] continuing client resistance to fee increases [and]… it is unlikely.. that the demand for legal services will grow robustly for the foreseeable future… The legal industry will be forced to live with uncertainty for some time to come…”. With some law firms aggressively providing more value at lower prices, the competitive bar is going up.
The common refrain from private practice lawyers…is that in-house lawyers who talk about value based billing really just want to pay less, and are not really interested in concepts like sharing risk. Opening a dialogue about pricing is simply an exercise in getting the law firm to do the same work for less money...
Of course they want to pay less!
The fact that the firm hasn't developed a model that really meets their needs… does not turn this into the client's problem. It's the private practice lawyer's problem. It's the firm's problem. It's the profession's problem.
The market has changed.