It is a dangerous thing for a lawyer to put his fate, even partially, in the hands of his client – the lawyer is used to having it the other way around. For centuries, lawyers have always set their value, and disclaimed the risk of a bad result, placing it squarely on the shoulders of their customers. (I do not chose and use the word “customers” lightly. Clients, especially legal departments, are in this day and age customers in the truest sense of the word: discerning buyers with pricing power. Those lawyers who fail to approach clients as customers risk being left behind.)
The billable hour arrangement swims hard against this tide of modern reality, and is faltering against the strength of the current. Hourly rate engagements seek to dictate value to the customer in a top-down manner, and in an age when customers have the capability and desire to assess and decide value for themselves, and use that data to hire outside law firms.
As lawyers read this, especially older ones, they are likely to feel a tightness in their throats and to see their own knuckles whitening. The thought of sending a bill out to a client and giving the client the power of even partial veto over that bill is to them rather like paying the cable TV company based on whether the viewer liked what she watched, and how much she liked it. Preposterous, right?
Wrong. They day has arrived when lawyers, including old ones and very good ones, must face the reality that clients want and expect to have far greater influence on how they compensate their outside law firms, and how that compensation should be linked to something other than merely the time expended.
There are at least two reasons to do so. First, legal departments are already exercising such control, with auditing departments and third party auditing vendors poring over and oftentimes unilaterally adjusting invoices. And second, those lawyers not willing to cede this power to their customers are going to be either passed over on the legal departments panel lists, are removed from the lists altogether. Lawyers have no choice; and to believe they do have a choice is to risk extinction.
The Nuts And Bolts of Client Value Adjustments
There are a number a ways to place greater value control in the hands of the legal departments who engage outside counsel. The two most prominent ones at this stage of the game, however, are holdbacks, and value adjustments.
Under the holdback system, a percentage (usually in the range of 10%-25% or 30%) of the total fee paid to the outside firm , whether via hourly arrangement or an alternative, is held back until either a specific case goal is reached, or the conclusion of the matter. The client then has the authority to pay some, all, or none of the holdback to the outside law firm, based on the value the client believes it received.
The value adjustment method is similar, but not identical, to the holdback method. Under the value adjustment approach, clients are given authority over any invoice to adjust an invoice downward or upward by an agreed upon percentage (again usually 10%-25% or 30%) based on the value it feels it received during the period covered by the invoice.
Why Give A Client So Much Pricing Power?
Outside law firms who have been compensated for decades by the billable hour simply don’t have their interests sufficiently aligned with those of their clients. Where the client wants fast, efficient and inexpensive, the outside law firm compensated hourly has interests which, while not diametrically opposed to speed, efficiency, and cost-consciousness, are sufficiently opposed to those goals to have led legal departments to question the arrangement, and to move toward something better.
Holdbacks and client value adjustments allow lawyers and clients to realign their interests in the same general direction, to jointly shoulder the risks of poor performance and bad results, and to restore the feeling that the legal department and the outside lawyer are in the same boat, and rowing in the same direction.