Legal Business Development

Are blended rates alternative fee arrangements?

Blended rates are 100% hourly arrangements, in which a single middle rate is charged for senior lawyers who normally charge more and junior lawyers who normally charge less. Whether the client or the firm benefits from this arrangement depends on the actual numbers in a particular situation.

For example, consider a case that is expected to require 100 hours of senior time at an average of $500 per hour ($50,000) and 100 hours of junior time at $300 per hour ($30,000), for a total of $80,000. A firm might offer a blended rate of $350 per hour, which reduces the predicted cost of the matter to $70,000 ($350 times 200 hours).

But now suppose that once the matter is underway, the firm discovers that almost all the work could actually be performed by more junior lawyers. If the senior lawyers only need to spend 20 hours supervising the matter (which would have cost $10,000 at the original rate of $500 times 20 hours), and junior lawyers put in the other 180 hours (which would have cost $54,000 at $300 times 180 hours), the client who pays the blended rate will actually pay more ($70,000) at the blended rate than they would have at the non-discounted rate ($64,000).

Now you could argue that it’s still a win-win, because if the firm had not offered blended rates, senior lawyers would have delivered 100 hours out of the 200. The client won by paying $70,000 instead of $80,000, and the firm won by charging $70,000 instead of $64,000.

From a marketing perspective, that is a terrible argument. In essence, it implies that senior people never should have been doing the work in the first place and the client must agree to be overcharged a little in order to avoid being overcharged a lot.

Blended rates invite gamesmanship, as individual lawyers may be tempted to manipulate predictions to maximize profit. And they encourage the use of more junior level lawyers, even when it may not be to the client’s benefit. Here’s how the general counsel at Marriott International described his unhappiness with his blended rate experience:

The law firm only assigned to the matter those lawyers whose regular hourly rate was at or below the blended rate, and more senior lawyers were unwilling to engage in significant supervision.

We will leave it to others to argue about whether blended rates are a good thing or a bad thing. In this context, what is important is that there is a philosophical difference between two types of alternative fee arrangement (AFA) definitions: narrow and broad. Our LegalBizDev Survey of Alternative Fee Arrangements used the narrow definition which reserves the term AFAs for fees that are fully or partly non-hourly. In contrast, when ALM published its AFA survey last year (Speaking Different Languages: Alternative Fee Arrangements for Law Firms and Legal Departments) they used the broad definition which includes blended rates.

People feel very strongly about which definition should be used. When members of our Advisory Board reviewed a draft of my book Legal Project Management, Pricing, and Alternative Fee Arrangements, some said that we made a mistake and that blended rates should be considered AFAs. Others said we made the opposite mistake and needed to be much more forceful in explaining that “blended rates are not alternative fee arrangements and are no different than discounting.”

The fact that two conflicting definitions of AFAs are in wide use adds considerable confusion to an area that was already confusing enough. If a firm claims that 50% of its work is performed on an alternative fee basis, that could mean that they are moving away from the billable hour (under the narrow definition), or it could mean that they are engaging in some creative hourly rate discounting (under the broad definition).

Some have a vested interest in maintaining this confusion. Announcing that a firm offers 50% of its work on an alternative fee basis sounds much more thoughtful and less desperate than saying, “Half the time, we have to slash our hourly rates because we need the business.” 

 

This post was adapted from my book Legal Project Management, Pricing, and Alternative Fee Arrangements.

 

Closing (Part 2 of 2): When should you ask for the business?

A lawyer that I was coaching once said that she wanted to spend more time “learning how to close.” It’s a request I’ve heard repeatedly, not just from lawyers but also from sales professionals.

Often, when people ask this question, what they really mean is, “What can I do to get new business faster?” I know, because many years ago when I hired Don Schrello as my first sales coach, that’s what I asked him. I still remember his reply: “Jim, selling takes time. You can’t make the corn grow faster because you’re hungry.”

Closing may be the most controversial part of the selling process. There are two main schools of thought, and they could not be farther apart.

The old school preaches that you should “close early, close hard, and close often.” In this view, the ABC of sales is Always Be Closing. If you’d like to dig into this school of thought, see Zig Ziglar’s book, Secrets of Closing the Sale: 410 pages of techniques with names like the Three Question Close, the Presidential Close, and the Nieman Marcus Close. And if those don’t work, you can try the Challenge Close, the Opportunity Close, the Kreepy Krawly Close, or dozens of others.

Do these names remind you of all your worst fears about the tackiness of selling? Me too. And we are not the only ones. They also offend many sales pros.

I’ve written before about my respect for Neil Rackham’s research. His book SPIN^® Selling has an unfortunately misleading name, but more data than any other sales system. Near the beginning of the book (page 6), Rackham wrote that the professionals who sell complex products and services:

Complain that traditional sales training treats them as if they were selling used cars. What’s worse, it treats their customers as simpletons waiting to be exploited by verbal trickery and manipulation.

Rackham belongs to the new school of “consultative selling.” When he did his first study of closing several decades ago, Rackham observed 190 sales calls for a company that sold complex and expensive office equipment. (I suspect it was Xerox.) In each call, he simply counted the number of closing behaviors each salesperson tried. When Rackham later looked at which clients actually purchased the equipment, he was surprised to find that salespeople who used a low number of closing techniques (an average of 1.4 per visit) got more new business than people who used a high number (5.8 per visit).

So he did another study. This time he measured the effects of training to improve the closing skills of 47 professionals at a high tech company. The good news was that the training was quite effective in getting professionals to use more closing techniques in each call (3.2 closing behaviors per call before training vs. 5.6 closing behaviors per call afterwards). The bad news was that when people closed more aggressively after the training, sales went down.

This led to a third study. This one was in a chain of photographic stores that sold both high cost and low cost items. Again, people completed training to use closing techniques, and again, Rackham looked at actual sales. With high cost items, the results were the same as before: more training led to more closing actions and fewer sales. (Low cost items were different. But I don’t think those results are relevant to lawyers, unless they are billing less than $10 per hour.)

Does this research imply that you should never again “ask for the business”? Of course not. As Rackham Page 38) summed it up:

It may sound as though I’m saying that you shouldn’t try to close the sale—that because closing techniques are ineffective, you should somehow wait for the sale to close itself—but clearly this doesn’t work either.

He goes on to nod towards lawyers (page 39) when he says:

If the overuse of closing is a problem in many industrial and capital goods sales, then its total absence may be an equally severe problem in some service industries.

The trick is to find the balance. If you never ask, you will never receive. But if you ask too much, it will do more harm than good.

 

This post was adapted from my Legal Business Development Quick Reference Guide. 

Legal project management workshop in Chicago

On May 17, the Ark Group and Managing Partner magazine will present a “Legal Project Management Showcase and Workshop: Changing Behavior within the Firm” in Chicago.  When I chaired a similar event in New York two weeks ago, participants said:

“All of the speakers were excellent… with very different perspectives”

“I learned a great deal from their frank discussion about what had worked well at their firms and what had not worked well.  Also their frankness in the morning sessions set the tone for the small table discussions where people spoke very openly about challenges and things that had to be done to move forward at their respective firms.”

“This was a good panel – good diversity of viewpoints, and each of the panel members was willing to be candid about their experiences.”

There will be four panelists in Chicago, three of whom also spoke in New York:

Stuart Dodds, Director, Global Pricing and Legal Project Management, Baker & McKenzie

Albert Dotson, Partner, Bilzin Sumberg

Scott Kane, Partner, Squire Sanders

Mark Williamson, Principal, Gray Plant Mooty

All four firms are leaders in the LPM movement to increase efficiency and value to clients.  The panelists will compare notes about what has worked best, what hasn’t worked, and what they plan for the future. Near the end of the workshop, the audience will break into small groups to discuss unique challenges at their firms and to brainstorm the best way for each firm to make progress.

I will moderate the panel discussions, and some of the small group discussions will be led by LegalBizDev principals Mike Egnatchik and Steve Barrett.

One thing will be different from the March session.  Several audience members in New York asked for samples of tools and templates developed by the firms on the panel and by LegalBizDev, so that is what we will do in Chicago.  Sample tools and templates will not only be included in the workbook, but will also be discussed by panelists.

When I gave a speech at the beginning of the New York workshop, I said that if I were not already on this panel, I would have paid to attend the event.  It would have been worth every penny.  The workshop presented a rare opportunity to listen to partners in firms that are successfully implementing LPM brainstorm with each other about the nitty gritty details of exactly what is working and what isn’t.

If you plan to come to Chicago and are interested in alternative fees, you should also consider attending Ark’s Fourth Annual Alternative Fee Arrangements Forum which is in the same location the day before.  The speaker list is a who’s who of experts on the topic, including Fred Bartlit of Bartlit Beck, Mike Roster of the ACC Value Challenge Committee, Lisa Damon of Seyfarth Shaw, Paul Williams of Shook Hardy & Bacon, Richard Rosenblatt of Morgan Lewis and Pat Lamb of Valorem Law Group.  If you decide to attend both events, be sure to check the bottom of Ark’s registration form for a significant discount.

Managing outsourcing and eDiscovery (Part 2 of 2)

By Matt Hassett, Jim Hassett, and Mike Egnatchik

 

The oversight of outsourcers can be complex.

We will illustrate this with an example from eDiscovery, which includes outsourcing to a software team. Consider the eDiscovery technique of predictive coding. Unlike simpler forms of eDiscovery—such as keyword search, concept searching, and looking for clusters of similar document groups—in predictive coding attorneys train software algorithms to find the most relevant documents by using samples of documents called training sets. According to Predictive Coding for Dummies:

Training the predictive coding system is an iterative process that requires attorneys and their legal teams to evaluate the accuracy of the computer’s document prediction scores. If the accuracy of the computer-generated predictions is insufficient, additional training set documents are selected from the document population being considered. Multiple training sets are reviewed and coded until the required performance levels are achieved. Once the desired performance levels are achieved, decisions can be made about which documents to produce.

The great advantage of this approach is that attorneys will be able to explain the decisions made by the computer, since they worked to train the computer algorithms. This can satisfy the obligation of competent representation, so long as things are properly done. But there is always the danger that things will not be properly done. Predictive Coding for Dummies goes on to say:

Understanding how to use predictive coding tools properly is critical for several reasons. First, predictive coding is relatively new to the legal field and introduces additional complexity to the eDiscovery process. Second, many different predictive coding solutions are available on the market that vary in quality and approach. Third, even though predictive coding solutions can be difficult to use, clear instructions and training are often lacking, which can increase the risk of error. These and other factors have combined to create confusion about the proper methodology for using predictive coding tools.

The message is clear: A firm that uses predictive coding cannot rely on it as a black box that gives right answers at all times. Not all providers are equal. There must be a procurement process that evaluates and selects the best provider.

Competent representation includes understanding and monitoring the provider’s work. If that does not happen, the law firm may be at risk.

Due to the growth in outsourcing, in 2008 the ABA Standing Committee on Ethics and Professional Responsibility issued an opinion to provide ethical guidance to lawyers about how to outsource in a manner that is consistent with the profession’s core values.  State and local bar associations have also offered guidance in this area.

In August 2012, the ABA Commission on Ethics 20/20 concluded that outsourcing did not require changes to the Model Rules of Professional Conduct.  However, it did propose new Comments to identify the factors that lawyers need to consider when retaining outside lawyers (Model Rule 1.1) and non-lawyers (Model Rule 5.3) to assist on a client’s matter. The Commission also proposed a new sentence (for Comment 1 on Model Rule 5.5) to clarify that lawyers cannot engage in outsourcing if it would facilitate the unauthorized practice of law.

Like many obligations described in the Model Rules, these proposals were intended to be “rules of reason” and were not intended to preclude consideration of broader legal concerns, such as malpractice and tort liability. But they did reflect the fact that new trends in outsourcing place new demands on the supervising lawyers. A recent lawsuit has highlighted some of the potential risks of failing to manage outsourcers properly.

According to a report in the Wall Street Journal:

An increasingly contentious lawsuit by a former client against law firm McDermott Will & Emery LLP is putting a spotlight on the legal industry’s widespread use of itinerant “contract” attorneys who review documents for lower hourly wages… The case “may well be a harbinger,” said Jonathan M. Redgrave… There could be more disputes between clients and law firms over work performed by contract attorneys and outside vendors as they are used more in the pre-trial discovery process.

The Wall Street Journal also alluded to the underlying economics that are driving the move to outsourcing: “McDermott’s own attorneys billed J-M at ‘rates as high as $925 an hour’ [and paid]… $61 an hour to staffing firm Hudson Legal.” Hudson, in turn, hired the lawyers who did the work for even less.

According to Mark Ross’s description of this suit:

J-M Manufacturing alleges that McDermott failed to adequately supervise contract review attorneys who inadvertently produced privileged documents to the government. The documents were subsequently handed over to a third party who refused to destroy the documents, arguing that J-M waived attorney-client privilege when it produced them to the government.

McDermott has vigorously defended itself against these allegations. According to a firm spokesperson quoted in the Wall Street Journal article, “J-M keeps changing its story.”

Ultimately, the case may be decided for McDermott or against them. From our perspective, the way this particular lawsuit turns out is far less important than the simple fact that a client has sued its law firm for failing to adequately manage its outsourcers. As Ross summed it up, “While this may be the first e-discovery malpractice lawsuit specifically dealing with the issue of lack of supervision of contract lawyers, it surely won’t be the last.”

Firms that decide to use outsourcers will therefore need to develop effective management processes, policies, and techniques for this type of work.

 

This post was adapted from the forthcoming third edition of the Legal Project Management Quick Reference Guide, which will be published on May 20.

Managing outsourcing and eDiscovery (Part 1 of 2)

By Matt Hassett, Jim Hassett, and Mike Egnatchik

At a time when clients are demanding to pay less for legal services, it is easy to see the benefit of getting work done for lower hourly rates. Law firms and their clients are looking at each step in legal processes and asking the question, “Can I hire somebody else to do this step at a lower cost, or do it better, or both?”

Outsourcing is a growing trend, and it is leading to new challenges in managing work.

Some types of legal work are relatively easy to outsource. Here’s how Pat Lamb has explained the underlying rationale:

The four-buckets rule—developed by Jeffrey Carr, general counsel of FMC Technologies—is that that legal work fits into one of four buckets: process, content, advocacy and counseling. The Carr corollary is that general counsel are willing to pay generously for advocacy and counseling, but believe process and content should be free, or at least much less expensive, while law firms make the bulk of their revenue from the process and content buckets.

In one widely quoted discussion of outsourcing, Legal OnRamp founder Paul Lippe has argued that about 25% of all legal work falls into Carr’s process bucket:

Moving information from one place to another to create legal work product, typically either generating or analyzing contracts, or working through discovery-based work in litigation or investigation…. Process work will continue to grow, but it will increasingly be managed… with a combination of lower-cost people, process and technology.

Lippe went on to note that “large law firms charge from $150/hour (paralegal) to $400/hour (mid-level associate) for process work.” He then listed these lower cost alternatives:

• “In-house teams can execute process work for $100-200/hour, and much less if they organize for it as Cisco has.
• Non-traditional providers like Axiom charge perhaps $125-250/hour for process work, but are still often advantageous for clients, because they represent a variable, not fixed, cost, and don’t require supervision.
• Legal process outsourcers (LPOs) can deliver process work (including onshore lawyers, technology and process) for around $60/hour with predictable quality, integrated with legal departments and with formal methods for delivering and ensuring quality.
• Law firms have started to create their own ‘captive’ LPOs, like Orrick in Wheeling, W.Va., Wilmer in Dayton, Ohio, Allen & Overy in Belfast and Baker McKenzie in Manila.”

In his new book Tomorrow’s Lawyers: An Introduction to Your Future (p. 33) Richard Susskind takes this much further:

In the past, when confronted with a legal job, a client had a single choice: undertake it internally or pass it out to an external law firm (or perhaps a blend of the two). The legal world has now changed, so that new alternative sources of legal service are now available. I have identified 15 ways of sourcing legal work.

The key point here is that the identification and management of outsourcing alternatives will become an important task for firms that want to compete in the new normal.

The field of legal project management includes a variety of best practices for managing the activities of an internal legal team. If your team includes contract lawyers and other external non-traditional staff, many of these same principles apply

The challenge of managing subcontractors is familiar in other professions. The tenth edition of Harold Kerzner’s widely quoted textbook  Project Management has an entire chapter devoted to working with external suppliers. The perspective is interesting, since the chapter makes it clear that a firm using an external source for some of its work on a matter is now in a role reversal. The firm is a client of the outsourcer it has hired, and has the same responsibilities to monitor that outsource supplier that its own client has to monitor the firm’s work.

If XYZ Corporation has hired your firm for a matter, the legal department of XYZ had the job of hiring you in the first place and has the responsibility to monitor your work. Similarly, if you hire supplier DIS for discovery work, you had the job of hiring DIS in the first place and then you have the responsibility of monitoring DIS to assure that their work product is acceptable. The firm is responsible for the entire work product, and must make sure that all the parts work.

Lawyers are just starting to become familiar with the idea of subcontracting work, and the use of outsourcers presents new challenges.

As Mark Ross noted in a paper entitled The Ethics of Legal Outsourcing, “It is clear that to satisfy the duty of competently representing one’s client, a US lawyer engaging an LPO provider cannot rely on the LPO provider to evaluate its own work product and must himself or herself be able critically and independently to evaluate the work product received.”

Next week, we will talk about some of the challenges of this new requirement.

This post was adapted from the forthcoming third edition of the Legal Project Management Quick Reference Guide, which will be published on May 20.

Five ways to improve pricing

There is so much talk these days about value pricing and alternative fees that many people think of pricing simply as setting a fixed or alternative fee. However, you are pricing whenever you decide what to ask someone to pay for your services. When you set an hourly billing rate you are pricing, and when you discount that hourly rate, you are making a pricing decision.

Proven techniques from other businesses can help any law firm to improve the way it sets prices.  Here are five basic ideas that may be particularly helpful, based on Nagle Hogan & Zale’s classic text The Strategy and Tactics of Pricing, now in its fifth edition:

1. Differentiate. You may have heard legal marketers use this word quite a bit, and it is just as important to pricing experts. According to The Strategy and Tactics of Pricing, “A product’s total economic value is calculated as the price of the customer’s best alternative (the reference value) plus the worth of whatever differentiates the offering from the alternative” (p. 19).  This differentiation value can be either monetary or psychological. Whatever features of a law firm add differentiating value, it is crucial that these features be communicated to the client. Are you different because your legal project management expertise makes you more efficient than others, or because you communicate progress better? Let the client know.
2. Communicate value. Value is perceived differently in different businesses. Legal services are difficult for clients to evaluate when compared to products like light bulbs or computers for which buyers can more easily get price and performance information. “In our research, we have found that business managers rated ‘communicating value and price’ as the most important capability necessary to enable their pricing strategies” (p. 72).  They make special note of the value of an endorsement from a client known to be especially discriminating. For example, Kaiser Permanente has an excellent reputation for being an informed buyer in the health field. Thus “when other hospitals and health maintenance organizations (HMOs) learn that Kaiser Permanente has adopted a more expensive product or service, they assume that its price premium is cost-justified” (p. 75).
3. Have a clear and consistent pricing policy. It is important to have a clear and consistent pricing policy and to avoid commonly granting price exceptions. In Chapter 6 of my new book, I advised being cautious about discounting to win business because that creates client expectations of future discounts. The Strategy and Tactics of Pricing says that “Good policies lead customers to think about the purchase of your product as a price-value trade-off rather than as a game to win at your expense” (p. 117).  In setting up your policies it is important to keep in mind that people are more affected by perceived losses than perceived gains and you should frame your pricing with this in mind. If the client is offered a service package, it is better to have a policy that allows a reduction in cost if a service is dropped (a perceived gain) than a policy that requires an extra fee to get that service (a perceived loss).
4. Know your market segments. Clients are not all the same; they fall into different market segments. The Strategy and Tactics of Pricing gives an example of a company selling a scientific device to be used in DNA analysis. The device is a great improvement over existing competitor products, and the company estimated the differentiation value in order to set a price. However the company sold to two different market segments—the industrial market and the academic/government market. The differentiation value was not the same in industry and universities, so the ultimate pricing strategy involved different pricing policies in the two segments. As long as this policy is clearly stated it does not violate consistency requirements. Airlines do this all the time when they distinguish between business travelers and nonrefundable touring seniors. What are your market segments?
5. Know your client types. Within a given market segment there may be different classes of clients, and knowing their classification may help you to deal more intelligently with each group. The Strategy and Tactics of Pricing divides clients into four categories:
   1. Value-driven clients have sophisticated analysis strategies for studying value added, and you will need to work to establish your value added for them.
   2. Brand buyers are also known as relationship buyers. For them, the cost of analyzing value added is perceived as too high. This “buyer will buy a brand that is well-known for delivering a good product with good service without considering cheaper but riskier alternatives” (p. 105).  This is an easier client so long as you do not disappoint her.
   3. Price buyers are looking for a specified service at the lowest possible price. Here you will need to “strip out any and every cost that is not required to meet the minimum specification” (p. 107).  It is also important to fence off this job, so that more lucrative clients who receive a higher level of service understand that this lower priced work is at a different level.
   4. Convenience buyers “don’t compare prices; they just buy from the easiest source of supply”(p. 108).  They know that they are paying a premium for immediate convenience and will not complain. 

Whether your pricing is based on value or cost-plus, and whether your typical agreements are hourly or AFAs, these general principles can help you set prices

 

This post was adapted from my new book Legal project management, pricing and alternative fee arrangements.

How profitable are alternative fee arrangements? (Part 2 of 2)

One of the biggest pressures on AFA profitability is the fact that in many firms, lawyers are paid more if they bill more hours. Several participants in the LegalBizDev Survey of Alternative Fees noted that without proper management, AFAs can be seen as a giant loophole, a place where lawyers who have too little to do can bill as many hours as they like, without risking client complaints:

It takes a lot of discipline to manage a contingent matter. When lawyers track hours on a traditional hourly project, they know that clients will review the results, and that creates a certain discipline. On contingent matters, lawyers may think no one will look at the hourly record for years.

One of the lessons [we’ve] learned is that somebody has to be the point for cost control. It often happens that alternative fee matters, particularly large ones, [end up being] a dumping ground for individuals who may not be fully employed because you are reportable to the client for the result, not the cost. [When lawyers work unnecessarily on a project] your profitability looks bad, so in order to really determine the profitability, we need to deal with that issue.

Some relationship partners we’ve worked with encourage associates to put in extra hours on AFA matters. Associate salaries are a sunk cost, the partners reason, so they might as well put in extra time to assure quality and client satisfaction on fixed fee matters. It’s more productive than googling or staring out the window.

In the short term, they have a point. But in the long term, this type of thinking is highly counter-productive. It reinforces the bad habits created by decades of hourly billing, and substantially increases the chances that AFAs will be unprofitable.

It is not surprising that systematic data on AFA profitability is hard to come by. Law firms are notoriously secretive about their finances, sometimes even with their own partners. And nobody likes to publicize their losses.

The best data currently available comes from the 2012 Law Firms in Transition Survey, in which Altman Weil asked managing partners and chairs, “Compared to projects billed at an hourly rate, are your firm’s non-hourly projects more profitable or less profitable?”  Twenty-nine percent said non-hourly matters were less profitable.

Of these 29%, there is no data on how many turned out “really ugly.” But based on many stories I have heard off the record, I would guess quite a few. I also suspect that the true number of less profitable deals is much higher than 29%.

In college, I had a friend who spent a lot of time at the racetrack. He seemed to remember the times he won much better than the times he lost. I suspect many lawyers have a similar talent for forgetting deals that turned out badly. Especially when they answer questions in a survey.

Of the other respondents in the Altman Weil survey, 14% said non-hourly arrangements were more profitable, and 40% said they were about the same as hourly. The remaining 17% were “not sure.”

Even more interesting were Altman Weil’s findings about which firms profited.

Some law firms have for years proactively used AFAs as a way to increase new business, and invested in training and systems to make them more profitable. For example, at Morgan Lewis, says Richard Rosenblatt, the operations partner for the Labor and Employment Practice, “AFAs invite the client to engage with us and increase the ties that bind. We’re now on the same team, and more likely to get the next engagement. This is an opportunity to get a bigger share of a shrinking pie.”

When Altman Weil asked, “Is your firm’s use of alternative fee arrangements primarily reactive (in response to client requests) or primarily proactive (arising from your belief in the competitive advantage of alternative fees)?” about one-third said they were proactive (33.2%) and two-thirds classified themselves as reactive.

When Altman Weil compared AFA profitability for the two groups, they found that it pays to be proactive: “Firms that are proactive rather than reactive in their use of AFAs are more than three times as likely to enjoy higher profitability on their non-hourly work.”  For more about this proactive approach, see Chapter 11 in my new book.

 

This post was adapted from Legal project management, pricing and alternative fee arrangements.

How profitable are alternative fee arrangements? (Part 1 of 2)

The ABA Commission on Billable Hours Report predicted that the non-hourly approach would be a financial boon to law firms: “Alternatives that encourage efficiency and improve processes… increase profits” (p. ix).

Some consultants love to spread this good news message, and when law firms and law departments talk publicly about the topic, they too often focus on the upbeat side. For example, in an article entitled “Alternative Fees for Litigation: Improved Control and Higher Value,” James D. Shomper and Gardner G. Courson argue that “if properly structured, an alternative fee arrangement should result in a win-win scenario for client and law firm.”

To cite just one more example, a New York Times article about alternative fees quoted Carl A. Leonard, a former chairman of Morrison & Foerster, about AFA profit potential:

In one case... Morrison & Foerster negotiated a fixed fee for defending a company in court, covering work up to the point of a motion for summary judgment.

On top of the fee, if the case settled for less than what the company feared having to pay if it lost in court, the law firm got a percentage of the amount saved. The arrangement made sense when the goal was to resolve the dispute quickly....

Lawyers on the case negotiated a settlement for much less than the client’s worst-case number, Mr. Leonard said. “The effective hourly rate was something like 150 percent of our hourly rates,” he added. “We made money, the client was happy."

I think such examples are the exception to the rule and believe it can be very hard to turn fixed prices into win-wins, especially in a highly competitive market. My view has been shaped by my personal experience running fixed price and hourly projects in my own business. For more than 25 years, I have found that consistently profiting from fixed fee work is an enormous challenge, and a struggle that never ends.

In the hundreds of fixed fee projects we’ve performed, the vast majority were a zero-sum game. In the short run, when the project was over, one party did better than they would have on an hourly basis, and the other party did worse. Usually the client had power over the deal terms, and we were the one that did worse.

Fixed price projects begin with planning a budget upfront and then managing the work to keep within that budget as the project proceeds. When my company was billing by the hour, I found it relatively easy to maximize billing and profitability. If an employee had nothing to do on one project, I could usually find something for them to do on another, and keep them billing.

But during periods with a significant amount of fixed price work, it became extremely difficult to juggle dozens of projects with ever-changing deadlines in such a way that everyone remained billable and projects stayed within budget. And during mixed periods, when some of our projects were fixed price and some were billed hourly, it was an absolute nightmare. Employees quickly understood the never-spoken message that while they needed to be efficient on fixed price projects, inefficiency was winked at or even encouraged in hourly projects. For some employees, this inconsistent message created a conflict that threatened to make their heads explode.

Lawyers have been rewarded for their entire careers for putting in extra hours to analyze every risk from every possible angle. Many will have a hard time learning to deliver the quality they are comfortable with when they must work within strict funding limits. And law firm managers will have an even greater challenge when they try to juggle staff on dozens or hundreds of projects with constantly shifting deadlines. Traditionally, most firms expect lawyers to bill 1,800 hours per year or more. If firms shift a significant portion of their work to a fixed price basis, many will find that goal unreachable.

When both inside and outside counsel talk about alternative fee arrangements, I predict they will continue to accentuate the positive, and focus on win-wins. People will speak most freely about the matters that make them feel good and look good. But in my experience as a business owner, in fixed price deals one side usually wins a revenue concession and the other side does less well.

When I wrote about this a few years ago in my blog, Jordan Furlong, now a consultant at Edge International, made this incisive comment:

It may come down to how we define “winning.” I think a win-win alternative-billing scenario right now might look like this: the client wins because it reduces its outside legal spend, or at least improves its legal cost certainty, and the law firm wins because it gets to keep the client for one more day. That’s not the kind of victory lawyers are accustomed to settling for, but I think they ought to get used to it.

Next week, in Part 2, we will review the data on who is making more with AFAs, and who is making less.

This post was adapted from my new book Legal project management, pricing and alternative fee arrangements.

What percent of legal revenue is derived from alternative fee arrangements?

Over the last few years, surveys have consistently found that the use of non-hourly alternative fee arrangements (AFAs) is slowly growing. In Altman Weil’s 2012 Law Firms in Transition Survey, 47% of firms reported that their AFA revenue had increased in the past year. In the 2012 ALM Legal Intelligence Survey, 50% of law departments and 62% of law firms reported that there was an increase in the volume of AFAs in the preceding year. And in the American Lawyer’s 2012 Law Firm Leaders Survey, 68% said more clients are requesting AFAs.

While it is crystal clear that the use of AFAs is growing, it is difficult to be sure exactly what percent of law firm revenue they currently represent. There are many reasons this question is hard to answer, including disagreements over the definition of the term “alternative fee arrangements,” law firm secrecy about finances, and the fact that many firms simply do not know.

When I conducted the LegalBizDev Survey of Alternative Fees in 2009, one of the questions I asked AmLaw 100 decision makers was, “Does your accounting system code alternative fee projects separately, so that you can easily look up the exact percent of last year’s revenue from alternative fees at your firm?” At that time, only about one in four could look up AFA revenue. (66% answered no, and another 7% did not know.) When I asked decision makers in that same survey to estimate the average revenue percentage for the AmLaw 100 as a whole, answers were all over the map, ranging from 1% of revenue to 25%.

While the answers would be more precise if that survey were repeated today, there is still no definitive  revenue data in many firms.  Last week, I talked to one lawyer who had recently helped conduct a confidential study to determine the AFA percent at her own AmLaw 100 firm.  They had come up with a number, but she did not trust it.  She felt that some lawyers were including blended rates and discounts in AFAs while others were not, and many true AFAs had been completely missed.

The best data to date was published two weeks ago in the 2013 Client Advisory from the Hildebrandt Institute and Citi Private Bank.  It was based on a series of surveys of 176 large law firms (79 from the AmLaw 100, 47 from the second hundred, and 50 additional firms), and shows a slow but steady increase.  In 2011, 16% of law firm revenue came from non-hourly AFAs.  In 2012 it was 17%, and for 2013 they are predicting 19%.

While in some ways 19% may not sound like much, it is important to emphasize that this implies that the AmLaw 100 alone will perform over $13 billion worth of legal work this year on a non-hourly basis (assuming their total gross revenue stays around $70 billion).  And while we may never know whether this percentage is exactly correct, there can be no doubt that it is going up.

This post was adapted from my new book Legal project management, pricing and alternative fee arrangements.

Legal project management and process improvement

Six Sigma and Lean have gotten a lot of headlines in the legal world as a result of Seyfarth Shaw’s highly publicized success in using them to streamline work. Both approaches originated in the world of manufacturing, and are examples of process improvement techniques which redesign the way work is performed to increase value and efficiency.

However, there has also been an enormous amount of confusion over exactly what these approaches require, and how they are related to each other, and to legal project management (LPM).

I became aware of the seriousness of this problem a few years ago when the Director of Professional Development at an AmLaw 100 firm asked me to explain the differences between project management, process improvement, Six Sigma, and Lean. This was an extremely sophisticated client who had been researching this area for months, but she had heard so many different claims from competing consultants that she had trouble keeping them straight.

I explained that Six Sigma is built around techniques Motorola developed to eliminate the causes of manufacturing defects and errors. Lean was developed by Toyota to increase manufacturing efficiency by eliminating the “seven wastes” (excess inventory, excess processing, overproduction, transportation, motion, waiting and defects). They are just two examples of a long list of process improvement methodologies used in other businesses, including business process re-engineering, total quality management (TQM) and ISO 9000.

In my new book, I explain how experts are still arguing about the definition of LPM, and we believe that there are many reasons to use this broad definition:  “LPM adapts proven management techniques to the legal profession to help lawyers achieve their business goals, including increasing client value and protecting profitability.” Thus, we see LPM as an umbrella term that embraces a very wide range of management techniques. If a proven technique can help lawyers accomplish their goals, we say it is part of LPM.

If you accept this definition, process improvement, Six Sigma, and Lean are specialized approaches that fall under the more general umbrella term LPM. They are simply tools in the belt, to be used in some cases and ignored in others.

Others disagree and argue that process improvement is separate from LPM, and must come first. As one consulting company warns on their web page, “You can manage to perfection, produce exactly what you promised for your client, achieve each milestone on time and demonstrate excellence every step of the way. But what if you’re managing an inefficient process?… Legal project management doesn’t look at the efficiency of the steps in the project itself. What if you could get from A to B in fewer steps, in less time, with less waste, or by spending less money? Once you’re thinking like this, you’re thinking about process improvement.”

To date, only a few law firms have accepted the purist approach of focusing on process improvement before they implement other simpler and cheaper LPM tactics. Of the 108 law firms that responded to an ALM survey on LPM, only four said that they had worked with an approach “modeled after Six Sigma (e.g. Seyfarth’s Lean Sigma).”

This is not surprising, given that Seyfarth spent several million dollars and more than five years on this approach.

One reason process improvement requires so much effort is that you not only have to figure out how things should be changed in the ideal world, you also have to get lawyers to accept the new process and change their behavior. (For examples of an alternative approach to behavior change, download the free preview chapter from my book.)

It is human nature to want to do things your own way, and behavior change is a challenge in every profession. According to Carl Binder of The Performance Thinking Network, business process consultants often identify better ways to perform work but then they “can’t get the damned people to execute the process.” This is especially challenging in law firms, since compliance must sometimes be enforced by a powerful central management team, and many law firms don’t have a powerful central management team.

Process improvement clearly has a place in re-engineering the way some legal services are delivered, some of the time. It will be especially useful for the types of legal work that include “cookie cutter” steps. A careful examination of the steps in a repetitive work process can reveal opportunities to streamline and increase efficiency.

For example, when Morgan Lewis used process improvement analysis to improve the delivery of mortgage services, they began by identifying defects in the process that did not add value to the client, including excessive staffing, excessive drafting, and internal meetings. Then they analyzed the causes of these defects, and traced some of the problems back to poor data input, lack of standard high quality forms, lack of associate training, and disorganization related to time pressures. Finally, they developed a number of solutions including standard forms, standard operating procedures and standard communication procedures. These changes enabled Morgan Lewis to reduce the cost of delivering mortgage services “often by more than 25%.”

But that does not mean that process improvement is the best approach for every problem, and it does not mean that it must come before other LPM tactics. Arguing that you must fundamentally improve a process before you start to manage it is a little like saying that if you have a car that needs a paint job, you shouldn’t bother washing it. It’s a great example of the adage “perfect is the enemy of good.”

If a law firm has the time, the money, and the will to change the fundamental way they provide services, process improvement will certainly allow them to deliver more value. The question is: do you think that process improvement is the best way to deliver value in a particular situation? 

This post was adapted from my new book Legal project management, pricing and alternative fee arrangements.