Articles Posted in Outside Counsel

A company and a trusted law firm might agree to a performance index (For more on indices, see my posts of April 3, 2005 regarding an Energy index; Aug. 14, 2005 on a trademark index; Aug. 28, 2005 on client satisfaction; Aug. 14, 2005 on patents; Sept. 10, 2005 on an overall law department index; and May 17, 2006 on risks of lawsuits.). Put briefly, each of several indicia of accomplishment would be combined in an overall weighted index of law firm performance.

For example, one component would be an evaluation score by the inside lawyers who oversee outside counsel. They would rate it, perhaps with scores of 1 to 5, on various performance attributes. Another component could be on cycle time reduction, again on a score of 1 to 5. A third component could be scores by internal clients at the company who have the opportunity to assess the firm’s achievements. Other components might include the blended billing rate, concentration of work on a core staff group, and knowledge management systems put in place.

Once the components are decided on and scores collected, the law department might wish to weight some scores more heavily than others, such as lawyers’ evaluations over clients’ evaluations. If each component’s score has applied to it a weight, such as 1 to 3, then when you multiply each component by its weight and sum all the products you have an index. Part of the payments to the firm could follow from the score on this index of weighted performance components.

Under this title, Stefan Stern writes in the Fin. Times, June 20, 2006 at 8 that procurement “is precisely where a lot of the vital action is…” Notably, procurement has changed the “tone and nature of the conversations between companies and their service providers.” Stern illustrates this with in-house counsel who historically negotiated terms with the company lawyers – but those “negotiations” could “end up being a bit too cosy.” Take a deep breath.

“Managing these sorts of contracts, with their ‘service level agreements’, professional indemnity insurance and liability clauses, is a task better suited to the experienced procurement professional.” Bizarre instances Stern has grabbed, betraying ignorance about law firms and law departments, and not at all a sound conclusion. Perhaps too fell an appraisal, as an experienced negotiator may do better at negotiation if you set aside content knowledge, but lawyers understand best the services to be provided by external counsel and the lawyers know professional performance norms. Procurement can help with process and some strategies, but it should not pre-empt decisions of lawyers.

Stern also points out how procurement sometimes manufactures “savings.” “A classic dodge is to seek out inefficient, costly service providers to tender for a contract. When procurement then rides to the rescue with a much cheaper alternative, vast (but illusory) savings can be claimed.” Not that a general counsel would contemplate such shenanigans….

I despise that term because of its sexist connotations. It conjures up old-fashioned and harmful images of Miss Americas on boardwalks. I dislike the term because it trivializes the process law departments should use to select firms, a process that deserves thoughtfulness and facts, open-mindedness and objectivity.

The term is pejorative and dismissive because it leaves the impression that law departments base their choice of firms on cosmetic factors rather than merit, competency, and experience. It’s an ugly phrase.

A stark and alarming statement, to be sure, and one that lades outside counsel managers with disagreeable expectations. The quote comes from Bottomline Technologies, a vendor of matter management plus e-billing systems, in an article of ACC Docket, May 2006 at 73. It suggests that law departments should look at lawsuit management and outside counsel retention with a procurement mindset. It privileges bean-counting, numbers over relationships, and a cost-benefit coldness. It hints of a claims-management approach (See my posts on procurement of Feb. 20, 2005; Aug. 14, 2005 about Oracle; April 7, 2006; and April 30, 2006 #5.).

If litigation managers are supposed to consider each step’s cost relative to its likely gain, partnering loses its glow, litigating on principle should never guide you, and impersonal decision analysis should reign supreme. Litigation managers cannot handle as many cases, and must take an accounting view of those that they do handle. On the other hand, perhaps cases will be resolved faster than they now are. Law firms retained for litigation (“purchased commodities”) must likewise think in terms of how much heat they will likely produce for each shilling dropped in the radiator.

Put crudely, some people think that make or buy decision mostly boils down to brains versus brawn. In-house counsel are capable of handling every-day legal questions, but where complexity or novelty rears up, hightail it to those smart outside counsel. The opposite view, considerably in the minority, is that commodity work should go to outside counsel and the strategic work – new, edgy, challenging – should remain within the fold.

Intellectual capability to one side, another view holds that law firms are retained when there is too much work to be done. By this overflow theory, mergers and acquisitions call for additional muscle, as does the episodic and all-consuming demands of major litigation or a government investigation.

Related to this view is the desire to have local legal influence and not to be home-towned. A law department with no one admitted to practice in a court needs to turn to an outside lawyer.

Some departments insist that their outside lawyers provide them with electronic versions of memos, briefs and agreements. The departments have in mind the cost savings that can result from them sharing appropriate work product with other firms, who will charge less because some of their work has been done for them.

The trouble is, to do so may spawn conflicts of interest. For example, a law firm that has access to a brief may be on the other side of that brief in a related law suit. That said, I still recommend gathering and sharing work product.

One common refrain in outside counsel guidelines is, “We will not pay for over-time costs.” It’s easy to see why a law department would not want to pay time-and-a-half for its work, unless it has demanded an emergency response by a law firm. This prohibition, however, like many that dot outside counsel guidelines, has a self-evident quality. Why take pains to list misjudgments and inefficiencies that are obviously verboten? If a law firm repeatedly charges overtime when there’s no client-generated reason, the law department can clamp down on that firm. The law department doesn’t need to cite a provision in its guidelines.

If a law department states that law firms should manage its client’s funds as if they were the firm’s own, or as they would want another firm representing them to manage their own funds, that seems sufficient grounds to extirpate thoughtless, malignant, and costly acts by counsel.

Law firms will continue to grow much faster than law departments (See my post of Sept.10, 2005 on size differentials.). The simple reason is that when two law firms merge, they do not lay off lawyers to achieve efficiency. The merger is purely additive. When two companies merge, inevitably the resulting law department terminates lawyers (See my post of Sept. 13, 2005 about Honeywell and Oracle.). The merger is partially subtractive.

Second, law departments are subject to internal headcount constraints; companies do not like to add permanent employees. Law firms, on a different economic footing altogether, strive to attract additional business and therefore hire more lawyers. Much renown and brand power goes to those law firms that can trumpet their gargantuan size (See my post of June 12, 2005 on the lure of brand cachet law firms.).

The third reason is productivity. Law departments strive to get more work done in the same amount of time and with the same number of people. Law firms that charge by the hour open the cash register more when they add staff who charge more and more hours. Thus, economics and politics will drive the difference between the largest law departments and the largest law firms wider and wider.

Studies have shown that the fully-loaded cost per hour of inside lawyer time in U.S. law departments is roughly speaking about $180 (See my post of Nov. 16, 2005 on fully-loaded costs per lawyer hour.). Although the data is less reliable, the blended rate of outside lawyers – the total of their bills divided by the total of their lawyer hours (See my post June 13, 2006 and a comparison to effective billing rtes.) – is in the plausible range of $270 per hour. Equally well-researched and known is the typical ratio of a law department’s inside spending to its spending to its spending outside counsel: 40 percent inside to 60 percent outside.

Given the three numbers above, outside counsel cost 50 percent more than inside counsel on an all-in basis, and outside counsel spending exceeds inside counsel spending by 50 percent.

That parity of a 50 percent cost and spend differential means that for each inside lawyer hour there is an outside lawyer hour. That being taken as true, the 90,000 or so inside lawyers, a total which includes government lawyers (See my posts of Nov. 5, 2005 on huge government lawyer agencies; and Aug. 2, 2006 on those of Massachusetts.), rely on close to 90,000 outside lawyers who work full time in support of US law departments. The hours are accounted for largely by litigation, which sops up about half of most law department’s budget.

A moral hazard exists when it is prohibitively costly for a principal (such as a law department lawyer) to directly monitor the efforts of an agent (such as the law firm partner who has been hired for a matter).

It is manifestly difficult for the in-houser to observe – let alone direct – how much time the partner spends on the matter, how skillful the performance, and how intense the effort. Opportunities for malingering, inefficiency and opacity lurk everywhere. To pay the partner by the hour exacerbates the moral hazard.

Please note: I believe that nearly all lawyers retained by law departments are highly ethical and both work and bill to the best of their abilities on behalf of their clients. Still, out of the imbalance of knowledge lurks moral hazard. This risk, inherent wherever the interests and knowledge of service providers and purchasers diverge creates several related issues (See my post of Dec. 23, 2005 on information asymmetry; Jan.16, 2006 on the principal-agent problem; and May 1, 2005on the dark side of partnering.). To be sure, moral hazard lurks in many places other than the example given.