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This year, budgets are going to be shrinking all around–from corporate to legal to household–but for savvy GCs, the search for greater cost efficiency in the legal department should be nothing new.

“I work with a lot of general counsel, and they know that the days when no one was going to look at the law department budget are gone,” says Shahzad Bashir, vice president of the legal practice at Huron Consulting Group. “They understand that regardless of the economy, they will need to have more controls in place and run a tighter ship.”

To learn about some of the controls that law departments are putting in place, InsideCounsel conducted an online survey of in-house counsel. Respondents came from companies with median annual revenues of $1.5 billion and law departments with a median of six attorneys.

In the following pages, InsideCounsel takes a look at how the economy is affecting legal budgets and how in-house lawyers are responding to the pressure.

More With Less

Even as the work continues to pile up, in the face of the recession legal budgets aren’t growing like they used to. Survey results showed budgets increasing, but by small amounts.

“Companies are absolutely under tight pressure to
do more with less. The work is there, there’s a lot of risk to be managed, but the money’s not there,” says Shahzad Bashir, vice president of the legal practice at Huron Consulting Group.

If law departments come out of this economic turmoil knowing how to do a lot with little, the lessons may trickle down to their law firms as well. All the pressure on law departments to change their spending ways results in pressure on law firms to make concessions to hold on to their struggling corporate clients (see “Feeling the Pinch“).

“Long term, I think it’s positive for our particular business,” says Mark Schroeder, subsidiary general counsel at CenterPoint Energy in Houston. “We are seeing a number of firms that are holding their rates flat from 2008 to 2009. If that pressure continues through this year, we may see them continue to hold down their increases for 2010.” (Not all departments are so lucky. See “Firm Funding,” lower in this story.)

Schroeder’s department isn’t the only one looking ahead in the face of unprecedented financial uncertainty. “I was talking with one general counsel a couple of weeks ago and he already has been told what his 2010 budget cuts should look like,” says Jim Wilber, principal at Altman Weil legal consultancy. “So they’re looking that far out.”

There is the rare company that has actually thrived in the past year, such as General Mills. Still, no company is totally insulated from the challenging economic conditions, so General Mills has developed “a very intentional model of having a robust internal legal department, which reduces the amount of external help we require,” says Tim Zellmer, assistant general counsel, executive compensation and benefits, at the consumer packaged goods company. When matters do require outside counsel, the law department develops long-term preferred provider arrangements with as few firms as possible. The model has reduced overall costs and strengthened relationships with the outside firms.

Bracing the Budget

During an economic downturn, the instinct for many legal departments is to batten down the hatches and, like General Mills, preserve as many internal resources as possible while slashing the outside counsel spending. Three-quarters of respondents say they brought more work in-house to control costs in 2008, and 39.5 percent say keeping matters in-house was their most effective cost-cutting measure. Others found limited success by using alternative fee arrangements with outside firms, delegating more work to non-counsel staff and employing technology.

Even as legal departments bring more work in-house, Jim Wilber, principal at Altman Weil, anticipates staff sizes to stay the same. “I think that the word of the year for general counsel is going to be ‘How do we do more with less?’” he says.

Shahzad Bashir, vice president of the legal practice at Huron Consulting Group, says that to be successful at this, a legal department must “have a clear strategy about what it is managing. If it understands what risks it is managing, then it is in a better position to decide which work they do and which work they don’t.”

To this end, he suggests a three-prong approach: 1) Decide what work needs to be done; 2) decide whether it should be handled in-house or outside; and 3) decide who should handle the matter–for example, a partner or an associate.

Wilber has a nearly identical view. “You really need to be looking at leveraging in all its forms, meaning getting work to the right hands within your department so you don’t have senior lawyers working on stuff junior lawyers can do,” he says. His other advice–and moves he expects general counsel to make in response to the recession–includes putting the right law firms on the work, leveraging work through better technology and outsourcing or using temporary employees.

According to the survey, law departments aren’t cutting corners in technology–and Bashir is heartened by that result.

“With the proliferation of electronic information and the way cases are being managed by opposing counsel or plaintiffs, e-discovery has to be a big increase in ’09,” he says. In addition, budgeting software can help illuminate efficiencies and money pits and analyze outside counsel costs. “Law departments increasingly have technology to slice and dice the bills, so they truly understand, more than they ever have in the past, the underlying granularity of law firm bills.”

Firm Funding

On average, nearly half of a law department’s budget goes toward outside counsel, and it’s the area that has seen the biggest budget increases in recent years.

“Obviously if you want to make an impact on your legal spend, then the place to start is with outside counsel since that’s such a big proportion of most companies’ total legal spend,” says Jim Wilber, principal at Altman Weil. Considering that law firms are infamous for skyrocketing rates and an inefficient hourly-billing system, outside counsel spending is an area ripe for a recessionary revamp–so it’s not surprising that respondents also said it’s the area they’ve cut the most in the past three years.

Shahzad Bashir, vice president of the legal practice at Huron Consulting Group, says law departments are under pressure to work on cost predictability and cost reduction–but some firms are falling short on the last point.

“Many [law firms] sent a letter out to their clients informing them about the ’09 increase–and many of them are being rejected by the clients saying, ‘You’ve got to be out of your mind,’” Bashir says.

Even if billing rates continue to rise, firms are becoming more open to creative cost-saving measures, which can go a long way toward predictability. “Law departments are asking for, and law firms are offering, alternative fee arrangements more than they have ever done in the past,” Bashir says.

Alternative fee arrangements have helped Mark Schroeder, subsidiary general counsel at CenterPoint Energy in Houston, insulate his legal department’s budget with modest gains. “We are trying to more closely align our firms with rewarding them for value rather than just using the hourly rate, which we don’t think is a very good measure of the value of services rendered,” he says.

Another bright spot is that more companies now require their outside counsel to budget for legal cost, Bashir says. “It’s very good that companies now are focusing on that, because budgetary control is one of the key management tools to manage cost.”

Stable Staffing

Although one-quarter of legal departments have reduced staff to trim costs, staffing remains relatively stable. The median department budget for compensation, benefits and bonuses rose slightly in 2008. While in-house counsel anticipate a small decline in 2009 figures, their projected staffing budget holds fairly steady.

“It’s a very careful juggling act,” says Shahzad Bashir, vice president of the legal practice at Huron Consulting Group. “[Companies are saying,] ‘Let’s try to bring work in-house, keep our people busier than they’ve been in past, reduce the volume of work being done so the least possible amount of work goes outside, and when it goes outside, be careful to look at the rates.’”

In-house layoffs are still uncommon, Bashir says, but companies are weighing their options. “It’s not really easy for companies to get rid of their lawyers because of tenure and how they’ve vested their benefits,” he says. “But I can tell you people have started thinking about it. It’s not happening, but they’re talking about it.”

Because of severance packages and other costs associated with layoffs, Jim Wilber, principal at Altman Weil, says cutting staff isn’t a quick fix for the 2009 budget, an idea survey respondents back up. Using existing resources smartly is a better solution. In instances where the workload is increasing even as the budget is tightening, Wilber suggests hiring more paralegals. “You can get at least two for the price of one lawyer, if not more,” he says.