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Can Alternative Fees Close the Gap Between Budgets and Talent Costs?

Can Alternative Fees Close the Gap Between Budgets and Talent Costs?

Here is the situation.  In-house counsel are under increasing pressure to obtain realistic budgets for outside legal services and ultimately to reduce legal fees.  Outside counsel are likewise under a marked economic crunch.

More and more in recent years, alternative fee arrangements have become a solution.  At the very least, experts say, their increasing popularity has made it easier for in-house and outside counsel to talk about fees and has helped expand relationships.

At ACCRETIVE, LLC, a private equity-based firm in New York, General Counsel Ann-Marie Shelly said she has tried to budget with outside counsel to reach a rough estimate of a case’s cost, then get them to commit to a rate lock, something that was not acceptable even five years ago.

“What we're really looking for is ultimately the representation for value of the firm to be cost effective, result-oriented and at a reasonable rate, and that's really what we ask more than anything else,” said Paul A. Amirata, former vice president of Claims for AXA Insurance Co. and current president and COO of Amirata Claims Consulting, LLC, an insurance claims service firm.

The value message has not been lost on outside firms.  John O'Meara, managing director of Bremer Whyte Brown & O'Meara’s Los Angeles office, said “We've come to realize over time that clients are paying for results when they hire lawyers.  They are not paying for a lawyer's time.  Clients are certainly looking for less expense and more certainty in billing, and they are looking for law firms to adapt to the economic times.”

Law firms themselves are having more difficulty getting and keeping clients, they are cannibalizing each other on hourly rates, collection is more tedious, and their bills are being scrutinized and audited more than ever, O’Meara said.  “While there seems to be a fear out there from law firms that clients and insurance companies are imposing these alternative programs on their lawyers, a close look will reveal that actually there are benefits to the lawyers as well.”

In the end, the parties find a fee agreement they can all live with.  There are countless combinations of fee options, but below are what several attorneys say are on the menu.

Guaranteed Fixed Rates

A Guaranteed Fixed Rate (GFR), also called “unit” or “task-based” billing, pays a specified amount for legal fees for specific services.  It usually is for a particular period of time or phase of a case, or from cradle to grave.  GFRs have several advantages to the insurance carrier/client, the experts say.  It provides predictability, shifts the risk of cost overruns to the law firm and encourages law firms to work efficiently and quickly.
O’Meara says flat fee programs really do not work well for complex, high-exposure matters.  Most law firms want the flat fee to be paid mostly upfront.  He said the arrangement also encourages law firms, after they have made their deal, to assign lesser experienced, less expensive lawyers.  And tension can result when the law firm encourages settlement at higher than traditional resolution value to achieve quicker case resolution or when a carrier/client litigates deeper into cases than it traditionally would because of the flat fee. 

Edward Grady, a senior claims examiner at AXA in New York, said he only uses flat fees by phase of the litigation.  The trouble is, he said, you can't predict at the beginning of a case, for example, how many depositions you are going to take.  Amirata agreed.  “A flat fee agreement works best in cookie-cutter-type cases” where the exposure isn’t that large.  However, in transactional matters, flat fees work well, Shelley added.

The question outside counsel ask when working for a flat fee, according to Jamie Carroll, litigation partner at King & Spaulding in Atlanta, is:  “Can we do what we are supposed to do while maintaining my fiduciary responsibilities to the client?”  You want to do what is necessary for the client while not losing money on the relationship.  It is fraught with potential ethical pitfalls than some other situations, Carroll said. A reasonableness test issued by the American Bar Association can be used to determine if a law firm has made an unreasonable fee, Carroll said, but the factors are not exclusive.  There are ethical means to keeping firm expenses down, including using less-expensive contract counsel and paralegals.

Volume Cases

O’Meara said he is seeing more purchasing of a volume of cases.  For example, his firm has bid on an entire insurance company portfolio of 1,000 cases.  “The advantage, of course, to the carrier and the client is they know they have certainty not just for one case, but for a volume of cases.”

Clients can also bundle cases into the purchased package that fit well into a flat-fee program, that is, smaller exposure and more routine cases, O’Meara said.  “It also allows the carrier to spread out the fees over a longer period of time, so they don’t have periods where they are paying a lot of attorney's fees, and then times that they don’t.”  Bundling also allows carriers to give different volumes to different panel firms.

Amirata advises firms considering a volume flat fee purchase to make sure they have the resources to handle the work. “That's kind of where the rubber hits the road,” O’Meara agreed.  “The client and carrier really need to know that the law firm will devote the resources necessary to make the program successful.”

Carroll said the biggest advantage for firms is that they get the work in the door.  The greatest disadvantage, he said, is risk allocation.  That said, when comparing flat fee representations his firm has taken on with what they would have realized through hourly work, the flat fee actually produced a higher than normal rate realization, Carroll said.  “The thing that has been most surprising to us is that it is not a bad situation when compared to traditional firm metrics.”  The keys, he said, are to reach an agreement you can deal with, have the right people, and be willing to accept some level of risk.

Hourly Billing, Soft Cap

Somewhat unique, O’Meara said, is soft cap/hourly billing, in which a law firm gives a budget and is paid its hourly rate until it hits that threshold.  After that, it is paid a lower hourly rate or only a flat fee.  A soft cap arrangement bridges the gap between the attorney’s desire to have an hourly rate, and the client's desire to have a fixed fee.

“This creates a lot of interesting incentives,” O’Meara said.  “It does give the carrier client a realistic budget that's not just pie in the sky, and it really puts the law firm in a position of having actual skin in the game.  It puts them in the position of really wanting to conclude that matter before the soft cap is breached, and to do so it would encourage the law firm to put more experienced lawyers on the job, to move more economically to get the case resolved.”

Such an arrangement can result in less tension, O’Meara said.  However, there is still room for conflict.  The law firm will want the cap to be as high as possible, and the clients will want that cap to be as low as possible.

Amirata said he didn’t use soft cap arrangements because they guarantee nothing.  “When you start penalizing your attorneys for exceeding a budget that's based on speculation, you just don’t build a relationship with the defense counsel that way.”

Soft caps have worked for Shelley.  “If both sides have something to lose, or something to gain depending on where you hit, you set what you expect in good faith to be a reasonable budget.  I think it's actually useful, and I found it more so on the corporate side than in litigation matters.”

Non-Blended Hourly Billing

Another option is non-blended hourly billing, in which a law firm charges a different hourly rate based on the lawyer’s experience.  The advantage, O’Meara said, is that simpler matters can be handled by less-expensive lawyers.  On the other hand, the law firm may decide that any lesser experienced lawyer can do the job, when the client believes a more experienced lawyer should be provided.

Volume Discounts

Gaining traction is volume discounting, in which insurance companies or clients guarantee a certain amount of work in a certain time frame but seek a lower hourly rate.  The advantages for the carrier are lower overall cost, consistent results and being able to deal with the same lawyers, O’Meara said; on the downside, it’s still hourly billing.  Law firms, most of which are sensitive about their hourly rates, do not want to advertise that they give special deals to a client, so confidentiality is critical.

Shelley said law firms that provide her discounts do so on the final bill, not the hourly rate, so the firm maintains the same hourly rate for all clients and does not put the discount into writing.

Grady described a similar arrangement.  “We've never actually had a formal agreement.  We negotiate the discount with the firms we use, with the knowledge that they are getting a lion’s share of our defense work, that we have no formal agreement, and each one is negotiated on an ad hoc basis.”

But what are the ethical implications if multiple clients in the same litigation have the same firm but different rates?  If the factors of the relationships are all the same – the clients’ role in the litigation, the length of the firm’s association with the client, the people working on the case, the lawyers’ experience – then you’ve got a problem, Carroll said.  If the factors are different, then you just have to weigh whether the rates are reasonable, he said.  If in doubt, look at Rule 5.1 and ask for guidance.

Defense Contingency

A slightly more unusual alternative fee arrangement is the defense contingency, in which the client and law firm agree on what would be a good result, and if the law firm does better than that, it receives a bonus, O’Meara said.  The idea works for individual and volume cases.  Neither Grady nor Shelley thought they would use a success fee.

“I can tell you from the lawyer standpoint,” O’Meara warned, “it would be hard to argue with a straight face to a client or carrier that ‘I know you expect me to do my best, but I will do even better if you give me a bonus.’”