Editor’s note: This is the third installment of a four-part series examining the ways in which firms are managing e-discovery work and whether there is profit to be had in such endeavors.

E-discovery is a booming growth industry with falling margins.

As clients look to shave as many dollars off of the expense line of e-discovery as possible, law firms that want to make money on e-discovery — outside of the high rates a few partners can charge for legal expertise in the area — have to be willing to forgo substantial rates in favor of volume.

The good news for firms is that the majority of money to be made in the e-discovery realm is on what only lawyers can do — document review. Interestingly enough, however, even some of the firms that have insourced the entire e-discovery delivery service model still use outside contract lawyers despite the fact that some clients are starting to refuse to pay a markup on review work outsourced to a vendor or contract firm.

The Rand Institute for Civil Justice released a study in September titled “Where the Money Goes: Understanding Litigant Expenditures for Producing Electronic Discovery.” In it, Rand found collection of data accounted for 8 percent of e-discovery costs, processing accounted for 19 percent and document review accounted for 73 percent of all e-discovery costs. According to the survey, vendors played the dominant role in collection and processing while outside counsel handled the bulk of document review.

The Rand study participants, which consisted of large corporations across several industries, noted they were looking only to outsource “commoditized” work. They were looking to bring the collection process in-house and limit the document review they send out.

Several e-discovery lawyers agreed, and the Rand study found, that the hourly rate of a document review attorney has “already hit bottom,” as Morgan, Lewis & Bockius’ eData group leader, Stephanie A. “Tess” Blair, said.

The two other pieces to attack from a cost perspective in that equation then are the number of documents to be reviewed and the speed with which they are reviewed, said WilmerHale Discovery Solutions Managing Director Steven Berrent.

“That’s where the race is now,” Blair said.

Firms and vendors are in a race to provide lower-cost services with the knowledge that the bubble very well may eventually burst.

“There is money to be made in e-discovery,” said Jason Lichter, director of discovery services and litigation support at Pepper Hamilton. “But if you were to plot on a chart the per [gigabyte] processing charges vendors have charged over the last 10 years, it would be a precipitous fall.”

Vendors used to charge upwards of $2,500 per gigabyte of information, but now charge almost nothing for processing, Lichter said. He said they look to recoup money through hourly charges at time of production.

That is where Michael Boland of Drinker Discovery Solutions, a recently formed subsidiary of Drinker Biddle & Reath that brought the e-discovery delivery model in-house, thinks a firm can do better. He said he hasn’t seen a vendor that is cheaper than what his company is offering. And Drinker Discovery Solutions offers flat fees or retainers to give clients predictability in costs, Boland said.

But Boland is aware of the timeframe for making a profit on e-discovery work. First there is the technology side. He said the investment in a firm’s technology needs to see a return on investment that outpaces the timeframe for when that technology will become obsolete. In the e-discovery space, that timeframe is three to five years, he said.

In terms of the entire e-discovery service delivery model, Boland said there is money to be made, “but on a diminishing scale as time goes on.”

There may be between five to eight years for firms to make money off of this before it is just something they have to provide or know who to call to stay competitive, he said. The pricing models are “ridiculous,” Boland said, adding they are “very commoditized.” He said his firm doesn’t want to get into beating down prices for managing a gigabyte of data from 4 cents to 2 cents.

“There’s no place for it to go except away so you either have to change your pricing model or go to an alternative one,” Boland said.

With little to be done on the collection and processing side in terms of price reduction, the Rand study cited predictive coding as the best way to reduce document review charges even further.

“Every document you don’t review is money saved,” Berrent said.

Predictive coding provides for a human to review a sample set of documents so that the computer program can “learn” what search terms to find and then take over the bulk of the review. Rand noted predictive coding has not seen widespread use for a number of reasons, including namely lack of judicial direction and outside counsel’s concerns over testing new technology at the risk of their clients.

“Another barrier to widespread use could well be resistance to the idea from outside counsel, who would stand to lose a historical revenue stream,” Rand said in the study’s summary.

Not for ‘Dabblers’

Reed Smith created an e-discovery practice group within the firm that hasn’t insourced the entire process, but rather provides the legal and some technical support to help guide clients throughout the spectrum of e-discovery needs. David Cohen, head of the group, said competing with e-discovery vendors really only makes sense if a firm has a dedicated team in-house that can give the same level of service or better for the same cost or cheaper than the vendors.

“Only law firms are in a position to provide end-to-end e-discovery services (whether from the outset or through secondary review after primary review by others) and firms that do this optimally can save their clients a great deal of time and money as compared to vendors or other service providers,” Cohen said in an email. “Law firms able to offer the right capabilities and resources can earn money in this practice area, just like any other area of practice where they can provide high value to their clients.”

While a vendor will quickly comply with a request to process several gigabytes of data or review millions of pages, a lawyer should look first to see whether all of that processing or review is necessary or if it could first be culled down through negotiations with the opposing counsel or the use of technology, Cohen said.

Cohen said it is a big investment and not something for “amateurs” or “dabblers.”
”There are some areas of e-discovery services that law firms ought to stay out of altogether,” Cohen noted in an email. “In situations where a company may be second-guessed about how particular services were provided and/or where someone from the provider is likely to have to testify (e.g., forensic collection or analysis of data for high-stakes litigation or restoration of deleted or corrupted data) law firm lawyers don’t want to be put in the position of being both counsel and fact witnesses.”

Jackson Lewis national e-discovery counsel Ralph Losey recently decided to outsource the entire e-discovery process handled by the firm’s litigation support staff. Instead, the firm focuses only on the legal issues surrounding e-discovery.

Losey said the business side of e-discovery will only become more of a money-maker, but not for law firms.

“I don’t think the law firm should be in the business of making money from clients for selling non-legal services,” Losey said. “Law firms don’t have captive court reporter companies. I think the whole model of law firms running side businesses is flawed.”

Ancillary e-discovery work at law firms started out of necessity when there were no decent vendors. There are now plenty of good vendors, Losey said.

“I’m so glad to have my law firm stop doing a business and start focusing on law,” Losey said. “It’s a big headache I don’t have to worry about and stops the question of how to make money.”

While researching whether his firm should outsource nonlegal e-discovery services, Losey said he talked to a number of other law firms that told him they didn’t really make money on their litigation support departments.

“The writing is on the wall. The litigation support departments of law firms are doomed,” he said.

Losey admitted many people disagree with his view and argue vendors can’t provide the same quality a team within a law firm could. But he called that view naive.

Losey said litigation support people won’t be out of jobs, they will just be working with vendors. He predicted the litigation support teams at firms will be spun off as e-discovery vendors. That is essentially what Drinker Biddle did when it converted its litigation support team into the staff of Drinker Discovery Solutions.

Losey said e-discovery is a “booming growth area” with a lot of money to be made on the business side.

“But I think it’s going to be made by businesses, not law firms,” Losey said.

That doesn’t mean law firms will be completely sidelined.

While pricing on the e-discovery side is going down, it is more than compensated for through volume, Losey said. And less than 5 percent of lawyers in the United States are doing e-discovery work, he said. It’s already an estimated $5 billion industry, and Losey said he thinks it will grow to $25 billion in 10 years.

Law firms will make double the amount of money then, he said.

E-discovery consultant David Cowen of The Cowen Group said e-discovery will be a money-maker for some firms and others will stay out of it. Some firms view it as a service center and others as a profit center. And just because firms outsource e-discovery services doesn’t mean the practice isn’t a profit center for them, Cowen said.

“Very often that’s the beginning of truly understanding where the profit is,” he said. “You might not want to own analysts, hosting and software so you can focus on high-margin litigation support e-discovery legal work.”

E-discovery partners and associates and case managers within law firms are typically seen as the high-margin piece of the pie, Cowen said.

How — or whether — to squeeze profit out of the rest of the e-discovery spectrum is the question nagging in the back of the minds of firm leaders.

Gina Passarella can be contacted at 215-557-2494 or at gpassarella@alm.com. Follow her on Twitter @GPassarellaTLI.