Business Law Today

Volume 13, Number 5 - May/June 2004

Thinking outside the box
Leave the billable-hours factories behind
By Arthur G. Greene

Lawyers have to understand value.
Lawyers have to deliver value.
Lawyers have to communicate value.
From the client's perspective, a fair fee is often described as being both predictable and providing value commensurate with the dollars spent. In many situations, hourly billing does neither. And from the lawyer's perspective, a fair fee is one that rewards the lawyer's efficiency and expertise, and provides a return on the lawyer's investment in technology and related systems. Hourly billing provides none of these benefits.

We can all cite examples of a lawyer producing an incredible result with great value to the client in a short amount of time based on the lawyer's expertise, wisdom and prominence in a particular practice area.

Unfortunately, we have all seen too many examples of the opposite — an inefficient or inexperienced lawyer spending too much time on a project without creating much value and ending up with a dissatisfied client and an unpaid legal bill. While the legal profession has conditioned lawyers to think in terms of hours, time charges are not intuitive to clients, particularly business clients who are trained to think in terms of planning and budgeting in the context of risk and reward.

Hourly billing is disliked by lawyers as well as many of the clients they serve. Simply stated, hourly billing provides all the wrong incentives. It puts far too much focus on the process and the mechanics of practicing law, and not enough attention on the value of the service delivered or the result achieved.

Hourly billing causes the lawyer's life to be consumed by the need to log an increasing number of billable hours. Law firms tend to become "hours factories" and the quality of the representation may decline as well as lawyer collegiality. Even though lawyers have recognized the harm caused to their profession and their client relationships, implementing change has been difficult.

As we look at alternative fee methods, we need to think about the factors to be considered in establishing a fair fee. For example, a fair fee will normally:

reflect the client's perception of the value of the services performed,
offer the client predictability of the fee,
reward the lawyer for efficiency and productivity,
provide the lawyer with a return on the investment in technology, and
where feasible, include a sharing of risk.

There is no one fee method that fits all situations. Lawyers need to understand the broad range of fee agreements possible in order to effectively explore the options and select one that best fits a particular situation.

While a detailed discussion about all fee methods is not possible in an article of this length, what follows is a brief overview of the most common alternative billing methods:

The fixed fee — Under a fixed fee arrangement, the lawyer agrees to perform certain work for a stated fee. The lawyer needs to understand the nature and extent of the work to be performed and clearly document the scope of the work in the fee agreement. Any changes or extension of the work beyond what is described becomes the subject of another agreement, or perhaps a change order. It is most critical that there be no misunderstanding of the work to be performed for the fee and that additional work is to be performed for an additional fee.

Fixed fees are best used for any matter for which the lawyer can project the amount of work with some accuracy. It's the specialized lawyer who is in the best position to quote fixed fees for a range of related services.

The segmented fixed fee — The segmented fixed fee is used for matters where the lawyer can predict the cost of certain components of the work, but cannot satisfactorily predict the course of the project, start to finish. In some cases the segments will be established at the outset, while in other cases the segments may be established one at a time as the matter proceeds. A variation of the segmented fixed fee is a task-based fee in which specific items of service carry standard charges.

Straight contingency fee — The client's fee is a percentage of the amount recovered. This is a pure form of value billing. It is traditionally offered to clients in personal injury cases, but it can be used in any case involving the recovery of money or a benefit that can be translated to money. A percentage fee is a similar concept and the fee is based on a schedule of fees tied to the result.

The defense contingency — Some corporate clients have proposed a defense contingency arrangement. Under this method, the lawyer and client assess the potential exposure of the case. They determine what dollar number would represent a fair result. If the lawyer is able to resolve the matter for less than the amount set, the lawyer profits by sharing in the savings. If the matter is resolved for more than the amount set, the lawyer shares in the shortfall by accepting a reduced fee.

Retainer fee — The retainer fee method involves a set charge for a range of legal services over a particular period of time. For example, the client pays $1,000 per month for general advice and consultation. The services to be rendered for the retainer fee are clearly identified, so both the lawyer and client understand what is covered and what is considered extraordinary and to be billed separately. A variation of this is the availability- only retainer where a fee is paid to insure that the lawyer will be available and that the specific services are charged separately.

Some of the most innovative and useful fee arrangements are those that involve a combination of fee methods. For example:

Combination hourly rate and fixed fee — There are circumstances where the initial portion of the work can be performed at an hourly rate with the balance for a fixed fee. The lawyer charges by the hour for exploring the client's needs. Once a determination of the scope of work has been made, the lawyer can charge the balance of the work for a fixed fee.

Combination hourly rate and contingency — There are other situations where the initial portion of the work can be performed at an hourly rate with the balance of the work based on a contingency. For example, an hourly rate billing might apply to the initial investigation and evaluation to be followed by a contingency for the actual project or litigation. In litigation matters, the contingency could be something less than the traditional 33- 1/3 percent.

A variation of this combination fee is a reduced hourly rate plus a contingency based on result. The reduced hourly rate does provide some cash flow for the lawyer during the course of the project.

Combination flat fee and contingency — The lawyer can also quote a flat fee, perhaps to be paid in monthly installments, and also receive a percentage based on the amount recovered or on the extent to which the client's objectives are met.

These combination methods are useful for the situation where the client cannot afford a straight hourly fee and the lawyer cannot take the risk of a full contingency arrangement. They allow for a middle ground with the lawyer achieving some level of cash flow, while at the same time sharing the risk and reward with the client. There is a fair amount of legal work that fits in this category of work that otherwise might go unserviced.

When some clients first hear about the concept of alternative billing methods or value billing, they are often convinced it is a scheme to enable lawyers to charge more money. To counter this perception, clients need to understand that hourly billing does not serve them well and that more often than not a change in billing method can benefit them by lowering the cost. Attempting to implement a change in fee method without a good lawyer-client relationship is usually impossible. The most important ingredient is having mutual trust and understanding.

While no one doubts that a good result at the end of a case represents actual value, the client's level of satisfaction may depend on the quality of the lawyer-client relationship during the course of the case. Lawyers have learned that client satisfaction does not depend on the billing method used. It is likely that a client satisfied with the services rendered will also be satisfied with the amount of the fees, regardless of the fee method used. This highlights the importance of client service as an integral part of any billing arrangement.

Many lawyers want to get away from hourly billing. Few have been successful. Most do not know where to start. Those who do make an attempt have difficulty because of the tendency of lawyers to resist change.

Alternative billing methods require the lawyer to predict and analyze the effort that will be involved, to lay out the plan to be followed and to factor in the likely outcome. These alternative methods favor the lawyer with good management skills and a level of expertise in the substantive area involved. The task will seem formidable to the lawyers who are generalists or who have become lazy under the billable hour fee method.

Alternative methods will be successful only if the fee established covers the cost of providing the service and returns a profit to the firm. Lawyers cannot begin the analysis if they lack a full understanding of the costs of lawyer and paralegal time, as well as overhead items, including technology. Considering and selecting alternative methods cannot be done without careful analysis.

To make the shift to alternative billing methods, the lawyer is going to need a complete change of thought process. The lawyer will no longer simply be able to set an hourly rate and start work with only a generalized notion of controlling the costs for the client. In this fundamental reversal of thinking, the lawyer will have to:

predict the nature and scope of the entire project,
create a plan for performing the service,
evaluate the client's perception of value,
select a fee method or a price, and then
work hard to make sure the project is completed as planned with a profit for the firm. The lawyer will be accepting direct responsibility for the course the matter takes and will be sharing the risk and reward with the client.

Law firm managers are responsible for the firm's budget. Hourly billing gives them a predictable cash flow that is not present with most alternative billing methods. To dramatically depart from hourly billing on a firm-wide scale could raise havoc with the firm's budget. Lawyers will make mistakes in setting fees, and there can be shortfalls during the learning curve. Many law firm managers who embrace the concept of alternative billing methods are unwilling to take the risks involved in allowing lawyers to experiment with billing methods.

The leaders and managers of the firm need to start by being committed to moving the firm away from hourly billing. Once the decision is made to work toward such a change, the specifics of implementation should be delegated to the practice group leaders who would be given the authority and responsibility to come up with a plan.

Any change should be phased in with the initial proposal being limited to no more than 10-20 percent of the practice group's work in order to manage the risk to the firm. The practice groups should identify repetitive types of work for which the course is reasonably predictable. Substantive systems and standard project plans should be created. This may involve reviewing closed files to help develop the standard plans and to learn about the cost of providing the service.

These efforts can take on the characteristics of a pilot program. Undoubtedly, there will be successes and failures at the outset. Over time, successes should become more common and lead to an expansion of alternative billing methods within the firm.

The movement against hourly billing got a boost in late 2000 when then ABA President-Elect Robert E. Hirshon created the Billable Hour Commission, declaring it to be one of his primary initiatives. In establishing the commission, Hirshon moved the discussion beyond the issue of a fair fee and focused the profession on the unintended consequences of the billable hour. In his view, hourly billing was causing a decline in associate morale, less time for public service and pro bono work, and an increasing level of frustration in balancing work with a healthy personal life.

Recognizing the importance of these issues, Supreme Court Associate Justice Stephen G. Breyer gave his support to the effort and wrote the forward to the Commission's Hour Report, which was published in August, 2002.

The report, prepared under the leadership of Co-Chairs Jeffrey S. Liss and Anastasia D. Kelly, examined the hourly billing issue and provided a "tool kit" designed to assist lawyers in implementing alternative billing methods, returning fairness to the billing process and improving the quality of life for lawyers. The report can be found at www.abanet.org/careercounsel/billable.html. The commission continues its work as a committee within the Business Law Section.

An excellent recent book for exploring all of the issues involved in evaluating and implementing alternative billing methods is Winning Alternatives to the Billable Hour: Strategies that Work, Second Edition by Mark Robinson and James Calloway of the Law Practice Management Section and published by the ABA.

The legal profession is confronted by rapid change and increased stress within law firms because of increasing billable hour requirements. Much of what ails the profession can be attributed to the unintended consequences of the hourly billing fee method. Movement toward alternative methods will encourage efficiency, improve profits and make the practice of law more enjoyable and fulfilling.

More important, alternative billing methods share several important features that will benefit and be attractive to clients. They provide economic incentives for the lawyer to reduce the cost to the client, and in varying degrees, they call for the lawyer to share some risk with the client. They also attempt to base legal fees on the value provided to the client and they give the client more predictability with regard to the fee.

Alternative billing methods will be an important strategy for lawyers seeking to stay at the leading edge of the change the profession will undergo in the 21st century. Now is the time to embark on a plan to shift the focus and move in the direction of these improved billing methods.

Greene is a practicing lawyer and law firm consultant in Bedford, N.H. He is a former chair of the ABA Law Practice Management Section. His e-mail is agreene@greene-perlow.com.

ABA Section of Business Law