The hourly rate is still widely used in the legal profession - but is it the right answer for all external legal commissioning?
This article considers some of the alternative fee models and the types of work they’re best suited to.
Getting the most from external law firms
The best way to avoid unpleasant surprises when working with law firms (as with any supplier) is to set out our expectations of the relationship in terms of:
- Service levels;
- Permitted change controls; and
Look for evidence that the law firm understands your needs and has the skills and resources to meet them. Then, once briefed and instructed, you will monitor their performance throughout the duration of the relationship.
Simply demanding a fee rate reduction from the law firm may not give you what you need as you may find your work being done by more junior staff or at 3.00 am once the higher billing (and therefore higher priority) work is done. A better approach is to consider alternative pricing models.
Prepare for this by categorising your current and anticipated legal spend. See our Legal Spend Table Diagram here for help on how to do this.
Next, work out what deliverables you expect from your external lawyers. You may be able to break these down into project stages, each with a different fee model. If so, think about which fee model will work best for each stage.
Types of fee model
Here’s a brief overview of some of the most common fee models in-house lawyers and external counsel use.
Hourly and daily rate
Hourly and daily rates are common where unpredictability in an assignment can affect how much time a lawyer will need to complete it satisfactorily. They're also used where a client needs a role filled, or expertise available, for a set period where volume of competent delivery is the key determinant of price rather than value/skill supplied.
Pros: hourly and daily rates are clear, easy to use and allow for scope change and quick starts. They also reduce administration on small and urgent matters.
Cons: they require a lot of managing as they expose you to open-ended cost without necessarily reducing the risk of receiving poor advice.
Many law firms are happy to provide a fixed fee if they receive a clear and thorough brief and project specification. They usually base this on their hourly fee along with assumptions and agreements about any potential changes to the scope of the work. To minimise the risk of the cons listed below, it is important to ensure that the firm shows you how it has understood what you need and how it will fulfil that need so that you can identify and correct any misunderstandings early.
Pros: fixed fees give you certainty and make cost offerings from multiple providers easy to compare. They’re also easier to manage from a budgeting point of view as you won’t have to keep track of hours worked and fees charged by your external counsel.
Cons: if the supplier takes less time than you expected, you may feel out of pocket. Similarly, most providers allow for a contingency when providing a fixed fee. If this isn’t used, you may pay a little more for the service than if you’d paid by the hour or day. If the supplier has underestimated the work involved then there may be pressure to raise the fee and/or the quality of the work delivered may be put at risk in order for the supplier not to lose money on the matter.
This is where a law firm charges an hourly or daily rate but agrees not to let it exceed a pre-agreed maximum. The pros and cons of the capped fee are the same as for the fixed fee, with one exception. If you budget for the agreed maximum, you may end up with a final bill lower than you expect.
The law firm may be open to reducing their fee if you have a high volume of work to place with them. This could also apply if you exceed a given spend threshold over an agreed period. Law firms often provide these discounts by supplying training for clients’ staff or secondees placed with them, at cost.
Pro: volume discounts could improve the value you get from law firms you place a lot of work with.
Cons: they can become a disincentive for the law firm to pitch for additional work as it’ll be less profitable for them than billing a different client for the same job or time commitment. Also, a volume discount may impel you to place important work with a firm just to get the lower fee, when an alternative firm specialising the field would be a better choice. Then there are the usual competition laws and accounting period end constraints around discount recognition and making discounts retroactive.
A flat discount is one applied across the all the law firm’s hourly fee rates. An example would be a straight 10% off all lawyer's rates irrespective of the lawyer's seniority.
Pros: a flat discount makes a law firm’s quote easier to sell internally to your finance and procurement teams and most law firms have some spare margin to play with.
Cons: there’s a risk that your work, being less profitable than that for other clients, will be given lower priority or sub-optimally managed. This in turn could mean a lower quality output. Consider too the waterbed syndrome, where you push down on the hourly rate but end up with the same total cost as the hours worked creep up to compensate.
All-you-can-eat outsourcing for a fixed fee
This arrangement could see you handing over all work of a certain type, such as employment disputes or debt collection, to a specialist third party. A variant of this is a virtual secondment, where a lawyer covers the work on an hourly rate or retainer basis.
Pro: where well briefed and managed, an expert in a field could take a large amount of work off your hands and provide great value, thanks to economies of scale.
Cons: it can be difficult to benchmark your provider’s ongoing value over time. Also, you’re exposed to reputational – and possibly legal – risk if they get something wrong. Think too about whether you may be outsourcing a large part of your own job.
Percentage of deal fees
This is where you pay the law firm a proportion of the value of a deal it helps you secure. The figure could be a percentage of a property price or the value of a merger, acquisition or disposal. Percentage deals are often linked to no deal/no fee or no deal/percentage of fee arrangements.
Pros: percentage deals are simple to calculate, agree, monitor and pay. Also the law firm carries the cost risk and the fee is often paid by another party to the deal.
Cons: it can be hard to ascertain how much actual value you receive from these types of deal. If the percentage represents a high fee for the firm, you may pay more than you should for the services you receive. It could also give rise to your law firm trying to push the deal through at all costs – even if it’s in your organisation’s better interests to pull out. If, on the other hand, the fee is likely to be small, the law firm may regard the work as low value and deprioritise it.
A success fee is an uplift on a legal fee, chargeable in the event of a successful outcome.
Pro: it incentivises your law firm to strive for the result you need.
Con: you’ll need to be able to explain to your senior management why the law firm couldn’t achieve the same degree of success within its normal fee structure.
A variant of fixed fee, stage payments allow you to assess each stage of a project as you progress and treat it as a mini project in its own right for billing purposes.
Adjusted payment terms
Many smaller, boutique and new style law firms offer genuine discounts for prepayment and payment instalment terms as this helps their cash flow.
Temp/locum conversion to employee penalty fees
This is more a word of warning than a payment model. Be careful what you sign up for and always be sure that whenever you outsource, you get better value than you would if you recruited a lawyer to do the work.
Fee models and the balance of risk
Bear in mind that all fee models involve risk sharing.
You risk incurring high fees and and/or defective or incomplete legal work. In the worst-case scenario, this could lead your company to make a professional negligence claim against the law firm. It will probably also cost you your job.
For its part, the law firm risks losing money and/or dealing with a professional negligence claim.
Senior in-house lawyers have a big role to play when it comes to getting value from external counsel. Overspending is often the result of inadequate project scoping and miscommunication.
We should seek to practice in our contracts with law firms what we preach about contracts generally to the business in terms of service descriptions, service levels, milestones, work sign offs, price calculation methods and change control!
As an in-house lawyer, you're tasked with meeting your organisation’s legal needs using, where necessary, a combination of internal and external resources. Consider carefully what work you need to place with an external law firm and from here decide what type of cost model you’d like to negotiate with your provider.