Articles Posted in Outside Counsel

In October Altman Weil collected responses from what they describe as 176 top corporate lawyers. More than half the participants represented corporations with revenues between $1 billion and $2 billion. Twenty percent had revenue greater than $10 billion.

Only one out of three respondents said they “regularly and formally evaluated outside counsel,” and less than one out of five said they communicated evaluations to the firm. I take even these doleful figures as probably over-stated since who wants to admit to failing to do something that is widely touted as a good practice?

Law departments who forego evaluations lose the opportunity to change their firms’ behavior, according to one commentator. That is true, but all law departments struggle to collect useful ideas from their lawyers about outside counsel and struggle even more to convey those suggestions to their firms, leaving aside totally whether the ideas make any difference thereafter.

An interview of John Oviatt, chief legal officer of the Mayo Clinic, turned up an interesting tidbit. He said you commonly recognize a pattern of concentration of spending by law departments: “[Y]ou see the number one law firm for many departments receiving in excess of 30 percent of the total outside counsel spend.” It would not surprise me to see that the next firm down the spending list gets approximately half that amount (15 percent?) and the third half again, and so on. That progression would make the function that describes the drop off in outside counsel spending by firm a power-law distribution.

If I knew how to identify a power-law distribution mathematically, I would be more confident when I refer to the function (See my post of Dec. 14, 2010: positive quarter-power law; Aug. 15, 2011: possible power-law distribution of law departments by number of lawyers; and Sept. 8, 2011: posts with lists exhibit power-law characteristics.). I have previously collected references to power laws (See my post of April 27, 2010: power-law distributions with 6 references.).

John Oviatt, chief legal officer of the Mayo Clinic, uses the term “reverse convergence” to mean law departments retaining more law firms rather than converging on fewer firms.

In a recent interview, Oviatt calls out two developments that can lead to increases in the number of law firms retained. “One is globalization, and so I may have a large number of small projects around the world where I have to hire local counsel, and most of us are becoming very international. And the other area is … regulation. There are so many growing numbers of areas of niche regulatory expertise that you sometimes have to employ a particular law firm.”

I think Oviatt correctly identifies two reasons why law departments need to beef up the number of firms they retain. A third reason is to manage costs better by choosing law firms whose cost structure and billing habits well match the complexity and demands of matters they handle. With all the tools available now to oversee law firms, the test should no longer be the number of firms but the concentration of spending by area of law and value alignment.

In October the consulting firm Altman Weil collected responses from 176 “top corporate lawyers.” The majority represented corporations with revenues between $1 billion and $2 billion, while 20 percent had revenues above $10 billion.

For this sample in 2011, the median increase in internal legal budgets was three percent, which was probably largely accounted for by increases in salaries. Triple that increase was outside expenditures: the median outside budget rose a whopping 10 percent. Since outside spend typically exceeds inside spend – 60/40 is quite typical as a ratio – the median total legal budgets must have risen by something like seven percent. Assuming corporate revenue rose over the same period, law department spending surely kept pace with the faster tempo of business. But the shift of that spending to outside counsel was marked.

If a single partner at a law firm accounts for more than 75 percent of the firm’s partner-level billings, it would be safe to say that the partner has the ear of the law department, not the firm as a whole. The more partners bill the client, the deeper the roots of the firm in the soil. The number of partners and degree of equality in hours charged has much to say about the relationship between a law department and the firm it retains.

The distribution and concentration of partner support by a firm could have various forms of mathematical expression, such as Gini coefficient analysis (See my post of Aug. 20, 2006: percentage of work going to core staff at firm; Oct. 22, 2006: Gini coefficients; May 28, 2009: the h-index and concentration of matters; Aug. 5, 2010: Herfindahl’s index of market concentration; and Aug. 16, 2010: Herfindahl and industry competitiveness.).

Patrick Dransfield, the Publishing Director of Pacific Business Press, suggested another ploy of prestigious firms, and he called it bundling. This blog has referred to unbundling as the practice of taking away from law firms some tasks that others can do better, cheaper, or both. Dransfield sees it like an anti-trust violation of tie-in: to get brains you must also take brawn. Worse, law firm lawyers bundle their billing rates for all level of services.

“Prior to the financial crisis, large international law firms bundled up their services with the same skill and cunning as the Bordeaux Premier Cru wine broker, effectively telling inhouse counsel that if they wanted the premium ‘bet the firm’ innovative service at the top end (i.e. the equivalent of a Bordeaux First Growth), then they’d have to accept this service bundled up with …the work of less experienced associates and paralegals underneath. Secondly, the same charge–out rates for elevated work whose price is ‘beyond market forces’ was also charged for partners providing lower commodity work, such as Employment Contracts, and the like.”

I have not witnessed the first form of express bundling – “You don’t cherry pick us on sophisticated services unless you hire us for commodity work!” – at work in the United States. But his point about the same hourly rate for high end and low end work holds true. The quote comes from Asian-MENA Counsel, Nov. 2011, at 20.

Jeff Schuett, the VP and GM of LexisNexis CounselLink, contributed an article to Met. Corp. Counsel, Nov. 2011 at 30. He writes “Corporate litigation costs have grown 75 percent over the past ten years – even at a time when overall costs rose just 20 percent.” Schuett doesn’t give the source of that growth figure so, because the figure seems odd, I asked him about it. He replied by email that “my views come from reviewing data and information from several sources, including the Hildebrandt Client Advisory; Inside Counsel Law Department Survey, LexisNexis Estimates and “The Tipping Point for the ACC Value Challenge”, Discovery Resources 2009.”

Those sources don’t convince me. My premise is that during the decade he refers to, presumably 2000 to 2010, total legal spending by U.S. law departments has more or less kept pace with revenue growth. In Schuett’s terms, overall legal costs rose just 20 percent and that seems roughly in line with corporate revenue during a tough decade.

If so, the dramatic spike in litigation costs would have had to crowd out some other legal spend. By most accounts, law departments typically spend more than half of their total budget on external counsel and more than half of that disappears down the litigation hole. Granting those benchmark metrics, litigation consumes something like a third of the budget (60% and 50% of it). General counsel are not likely to be able to absorb a 75% increase in litigation – where they spend one out of three of their dollars – yet hold the budget in line with corporate revenue that grows much more slowly. They would have to starve out all other spending on outside counsel and even reduce the internal headcount. I see no signs of those drastic alterations to cope with litigation costs, and so wonder about the validity of the number cited by Schuett.

For several years, law departments with matter management systems have struggled to adapt (contort?) those systems to handle the various volume discount arrangements the departments craft. One law firm might have a tiered discount arrangement, another has very different tiers, while a third triggers retroactive discounts at some level and a fourth has some hourly matters and some discounted matters where the discount rises with volume. The infinite variations stumped some matter management packages.

When I read in Met. Corp. Counsel, Nov. 2011 at 30, the article by Jeff Schuett, the VP and GM of LexisNexis CounselLink about that package’s volume discount feature, I commend it. Assuming it can smoothly handle the profusion of discounts applied upon defined amounts of total fees being reached, it will help obsolete makeshift methods.

The ALM benchmark survey, released in September, covers 99 companies. The average number of law firms employed in 2010 by the subset of those companies earning between $1 billion and $4.9 billion was 43. Very roughly, that revenue range typically corresponds to 5-25 lawyers in-house. If 10 were the mid-point, the average would come down to a bit more than four law firms per in-house lawyer.

This blog has no clear formulation of law firms per inside lawyer (See my post of Feb. 11, 2007: rule of thumb of three primary firms per in-house lawyer; July 17, 2009: law firms and vendors per user; April 16, 2010: rough estimate of two firms per lawyer; and May 12, 2010: six outside law firms per inside lawyer at Cox Communications.).

In a June 2010 report, Jomati Consultants includes a chart to show that U.S. partners put up their rates on average by 4.9 percent each year between 1997 and 2007. Associate rates went up by 5.4 percent on average each of those years. Since a typical U.S. legal department spent 60 percent of its budget outside, those rate increases alone – assuming on a blended basis they averaged 5 percent annually – would have swollen the budget each year by three percent.

Such a conclusion rests on several assumptions. It assumes staffing pyramids at the law firms that represented the law departments – the mix of paralegals, associates and partners – remained similar and so did numbers of billers at each level for matters. It assumes no changes effectuated by law departments in how they influence costs. It assumes no changes in which law firms are used or in the mix of work dispatched to firms – a shift toward more complex work, all other things held constant, raises rates. In short, the three percent cost-of-living bulge depends heavily on ceteris paribus.