Articles Posted in Outside Counsel

In 2005, the 700-lawyer department of insurer Allstate Corp. slashed its roster of outside law firms from 400 to 13. An article touting Allstate’s success, in Corp. Counsel, Vol. 14, May 2007 at 98, states that “preliminary e-billing figures show that Allstate’s average cost per matter was down last year by roughly 6%, at a time when most law firms are raising prices.” Not too shabby, especially in light of the typical increases in billing rates by law firms of 4-6 percent each year (See my post of March 11, 2007.).

The statistician in me wants to know the median cost per matter and whether the statement applies to hourly billing rates or to total costs of matters, which includes disbursements. Was the previous year a fair comparison, or did it have a monster case that drove up the average? Do the savings encompass invoices not processed through Allstate’s e-billing system? And, to pile question on question, can convergence take credit for the savings or did the law department demand billing rate discounts from its remaining firms?

A previous post mentioned an effort by Allstate Corp. to find out whether blended rates charged by in their law firms benefit the law department (See my post of May 23, 2007.). The editor’s note that refers to this project, in Corp. Counsel, Vol. 14, May 2007 at 8, illustrates blended rates with an example. “If a partner bills at $500 an hour, and an associate bills at 250, the company is charged a ‘blended’ rate of 375 per hour.” That formula is but one of many ways to arrive at a blended rate.

Many attorney-client relationships are not that simple and it would not be sensible to simply average the standard billing rates of one partner and one associate. For example, a law department might designate a core team of lawyers at the law firm (See my post of Dec. 8, 2006 about core teams in law firms.). The law department might blend the billing rates of those core team members and use that figure.

Alternatively, a law department might calculate blended rates for different levels of lawyers, such as first-through-third-year associates, fourth-through-sixth year and so forth. As another variation, a law department might choose a blended rate that is not a calculation based on actual rates. Instead, it might decree “This work is worth $280 an hour.”

Allstate Corp. has recently implemented blended rates with several of its preferred providers, according to Corp. Counsel, Vol. 14, May 2007 at 8. What struck me more was that Robin Sparkman, the editor-in-chief of that magazine, suggests that the insurance company is to some degree testing this method of cost control.

“The insurer wrote in its application [for Best Law Department] that it wants to find out ‘whether blended rates help encourage more efficient staffing of matters, and hence, a lower effective hourly rate’ or not.” That sounds to me like the law department is consciously experimenting with some group of law firms that will bill blended rates and another group of law firms that will bill for similar kinds of matters on, I presume, standard or discounted hourly rates. Only by a controlled experiment of this kind will Allstate, or any other law department, be able to prove whether and to what degree a particular cost-control method makes a difference.

All of us in the law department management industry would benefit if there were more efforts to compare the efficacy of different techniques (See my post of Aug. 1, 2006 on natural experiments.).

If we round up the usual suspects of policies and practices law departments promulgate regarding outside counsel budgets on matters, who will be dragged in? Here are some of the [lock and] key elements:

1. When in-house counsel should request a budget from an outside law firm;

2. Examples of forms of budgets, for both litigation and non-litigation;

Some law departments have concluded that certain work they pass to outside counsel can be done for a fixed fee. Many varieties of relatively common work have been subject to fixed or capped fees (with a cap fee arrangement, the firm might bill less than the cap amount; with a fixed fee, the firm is entitled to the full amount regardless of the actual work’s cost).

As a second method to limit costs, the law department announces that it will not pay more than a certain hourly rate for certain work. The work does not have greater value to that company, regardless of what the billing structure is of the law firm that does it or would like to do the work.

A third method is to set a maximum rate for associates. Perhaps that rate is that of a fifth-year associate. Anyone more senior to that is not permitted to charge more than the fifth-year rate. At the other end of the spectrum, some law departments refuse to pay full rates or any rates for very junior associates (See my post of May 11, 2007 on such policies.).

Marilyn Chenault Minot, CEO of Disbursement Management Associates, brought to my attention her article entitled “Lawyers Become Unwilling Bankers” in the Nat. L J., Sept. 2006. I summarize below her comments.

Minot explains that the average length of time an AmLaw100 firm is out-of-pocket between payment of expenses and repayment by clients is approximately 120 days. Given the amounts of expenses they bill, these firms therefore finance $15 million every day for carrying expenses, which ties up their partners’ capital or credit. The carrying costs have, up to this point, had to be recovered in higher billing rates, which penalize clients who are not taking advantage of this free float provided by their law firms.

Law departments face two problems with this situation. First, if you pay invoices to your law firm on a timely basis, you risk being over charged because of the higher hourly fees, which are applied across the board. Second, if your legal matters use a small amount of these expenses, you risk being over charged because you are subsidizing other clients who pay late or use large amounts of these expenses.

Many law firms designate a partner to serve as the liaison between the firm and a major client – a relationship partner. Law departments should do the same, and not just for symmetry. It’s sensible.

Someone in the law department should be accountable for how the department interacts with a primary firm, for fielding questions and problems from the law firm about how the law department acts, and for collecting evaluations and data for periodic meetings with that firm.

The in-house relationship counsel should be chosen with care, with an eye to a person who wants the attorney-client relationship to flourish. Relationship counsels need to think and act as mediators, project managers, disciplinarians, and consultants.

A simplifying assumption of many journalists, consultants and academics about the retention practices of law departments is that a law firm liked by a department can take on more work. Those lawyers who retain law firms know that the world is much more complex.

The infinite-capacity assumption does not, in fact, pan out. Larger firms do have more pent up supply than do smaller firms, but even they (generally) acknowledge limits on how many hours they can squeeze from associates.

More to the point, once you penetrate to specialty practices – such as European antitrust litigation or nanotech patent applications – the infinite-capacity assumption becomes ludicrous. Very finite capacity then joins with something closer to infinite fees.

Once a law department has chosen a firm to handle work in a certain area, and dropped other firms that had been covering that work, the department’s lawyers and clients attach more to the chosen firm. That firm will get to know more internal clients, will (presumably) arrange for its better lawyers to serve that important corporate client, will invest in systems, processes, and know-how, and will develop familiarity with the company and its legal issues.

One might think, therefore, that over time, as more and more law departments reduce their firms used to a smaller number, that those favored survivors will develop greater stickiness – it will be very hard to replace or supplant them (See my post of Jan. 27, 2006 on the endowment effect.).

That expectation of glued-together relationships may prove wrong. A law department will have much better data available about the matters in the areas of law and their costs, courtesy of the firm. With that data, the department will be able to price and value the services more assuredly than when the data were scattered among many firms.

At a recent presentation, a senior lawyer in a huge financial services company described how his department had selected its dozen or so preferred counsel. Starting with an RFP sent to about 35 law firms, the department lopped off contenders in two subsequent stages to reach its current panel of preferred firms.

Importantly, the department now tracks what percentage of its external fees goes to those preferred firms. The goal was 80 percent, but it turned out that the department reached closer to 90 percent in the most recent year. The number, in my view, is unlikely to climb higher because there are specialized circumstances where the general counsel might want to bring in a law firm that is not on the approved counsel list. The reasons to stray from the preferred fold include conflicts of interest, specialized talent, massive capability, departures of key partners, new in-house capability, or pressure from a Board member or senior executive.