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What’s the biggest area of concern for general counsel? Most will say it’s reducing what they spend on outside counsel. At the same time, the amount that corporate clients are spending on outside counsel continues to rise. What’s the solution to getting some level of control over legal bills? What are innovative law departments doing? For the past four years, the e-billing/matter management company Serengeti Law has surveyed members of the Association of Corporate Counsel to learn about the ways law departments retain, manage, evaluate, compensate, and terminate outside counsel. Each year, approximately 300 law departments respond to the survey. The recently released 2004 survey report (based on the data from 2003) offers some interesting findings: � The most-pressing issue for in-house counsel each year (this year cited by 80 percent of the respondents) is reducing outside legal expenses. Similarly, the top suggestion in-house counsel make to their outside counsel every year (this year, 81 percent) is to be more concerned with costs. � Every year, outside legal expense takes a greater portion of the revenues generated by U.S. companies. Average outside legal spending as a percentage of company revenues (which permits comparisons across companies of different sizes) has increased significantly from .29 percent in 2000 to .40 percent in 2003. � Expenditures on outside counsel are more than double the amount spent in-house, with a higher percentage of legal spending going outside each year. The ratio of outside legal spending to in-house legal spending has increased on average to a high of 2.3-to-1 (compared with 1.6-to-1 the prior year). THE USUAL SUSPECTS Why are costs growing despite the priorities of in-house counsel? Obvious suspects would include increasing litigation, regulation, and legal requirements. However, these are not factors that in-house counsel can control. Their heightened level of concern about spending more likely is rooted in a belief that they could do even more to reduce current spending, or at least slow its growth. One of the biggest factors in rising costs is tied to the traditional way outside counsel are compensated: the hourly fee. The American Bar Association Presidential Commission on Billable Hours describes the “corrosive impact” of hourly billing in its 2002 report. The commission (made up of leading practitioners in law firms and corporate law departments) listed 15 serious problems associated with hourly billing, including the conflict of interest created between lawyer and client when the lawyer is essentially paid more for being less efficient. Despite the commission’s call for alternatives to hourly billing, the trend has been in the opposite direction — more reliance on hourly billing. In fact, the Serengeti survey data show that standard hourly rates cover 75 percent of the legal work for an ever-increasing percentage of in-house counsel (84 percent in 2003, compared with 80 percent in 2002). The same trend applies to its close cousin, discounted hourly rates. In-house counsel are apparently either unwilling or unable to overcome the resistance of their law firms to changing the status quo. The Serengeti survey shows growing resistance of law firms to alternative fees, even though their clients increasingly say they want them. On a scale of 1 to 5 (where 1 is no resistance and 5 is a great deal of resistance), average law firm resistance to alternative fees reported by corporate clients is 3.39 (higher than last year). The corporate clients, on the other hand, registered a 1.8 in average resistance to alternative fees, which was lower than last year. In fact, law firms are clearly not interested in proposing these alternatives. The survey found that less than three percent of in-house counsel reported that their law firms offered alternative fee arrangements. PAYING THE PRICE Law firms also misunderstand the seriousness of their clients’ concerns with costs — and they are paying the price for this misunderstanding. High fees are cited by 60 percent of in-house counsel as the second most common reason for firing the firms. (The most common reason is lack of responsiveness.) Some in-house counsel seem to be pushing to make changes. Each year, about one-fourth of the in-house counsel who respond to the survey employ innovative management techniques to get better control over outside legal spending. The most common techniques are convergence, matter management systems, requests for bids, minimum levels of associate experience, and fee/billing managers. Convergence (reducing the number of law firms a company uses on a regular basis) has been applied by about 29 percent of in-house counsel during the past two years. On average, in-house counsel who use convergence reduce the number of law firms they work with by about two-thirds. At the same time, they often require discounts and efficiencies in exchange for sending more work to selected firms. Matter management systems are used by 27 percent of in-house counsel to track and report on their outside counsel. These systems take two basic forms: internal systems that require the manual entry of information from paper documents, and newer Web-based systems that collect electronic bills, budgets, status updates, and other key information from law firms over the Internet. Clients who use matter management systems report average savings of 17 percent from last year on their outside legal spending, by tracking costs and performance, better managing ongoing activities, and allocating work to the best performers. Approximately 26 percent of in-house counsel put at least some legal work out to bid, creating an auction to receive the best possible price. However, law firms are generally not participating: Each bid request from in-house counsel received an average of less than two responses. Minimum levels of associate experience are required by approximately 26 percent of in-house counsel. This practice targets the lower levels of efficiency of new lawyers. Some corporate clients are unwilling to pay for training as inexperienced associates cut their teeth on their legal work. Approximately 22 percent of law departments use an in-house fee/billing manager to keep costs under control. This person establishes cost guidelines with outside counsel, reviews bills for compliance, monitors changes in hourly rates and other costs, and handles billing issues with law firms. These law departments report average savings of approximately 20 percent from last year on their outside legal spending. Other, less-common practices engaged in by about 10 percent of in-house counsel include electronic billing, discounts for early payment, and evaluations of outside counsel. Electronic billing can make it easier to review legal bills. Some even include automatic software audits to ensure compliance with billing guidelines, changes in personnel, and changes in hourly rates. E-billing also provides a rich source of data for comparing spending across law firms, identifying those that are most efficient. Another option, discounts for early payment, leverages the law firms’ desire to be paid faster to obtain a percentage discount. In-house evaluations of outside counsel, when properly organized and made accessible to other members of a law department, help to ensure that new work is sent to the outside counsel who have performed the best in the past. Despite widespread concern among the in-house profession with outside legal spending, the size of this activist minority of in-house counsel does not seem to change from year to year. However, as these in-house counsel gain experience with new strategies, they are pushing harder for change. For example, for the in-house counsel requiring a minimum level of associate experience, the average requirement has gradually increased from three years in 2000 up to five years in 2003. Similarly, the average discounts for early payments this past year have increased from 5.1 percent off of the amounts billed by outside counsel in 2002 to 6 percent in 2003 (for payments made within 21 days). There are signs that even those in-house counsel who are not members of this “activist minority” are doing something to achieve better control over outside legal spending. Although the number of in-house counsel who require budgets from outside counsel has remained fairly constant at around 75 percent, the amount of work for which they require budgets has increased each year (47 percent of matters being supervised, up from 41 percent the prior year). A budget clarifies expectations regarding the level of activity anticipated for outside counsel and provides benchmarks against which ongoing spending is measured. The existence of a budget can eliminate the “leave no stone unturned” strategy that leads to excessive spending. Similarly, approximately 70 percent of in-house counsel require that outside counsel agree to specific retention terms, which often help to control spending. The most common terms include regular monthly bills, budgets, no change of attorneys without approval (which could entail transition costs), specific billing details explaining costs, and discounts from standard hourly rates. In-house counsel also say that they plan to use end-of-matter assessments (to track performance and lessons learned), electronic billing to better monitor spending, and no changes of rates without advance client approval. SAVING MONEY? These practices might be starting to save some money: While law firm hourly rates are increasing, those increases are slowing. During the past four years, the annual percentage increases in hourly rates reported by in-house counsel have dropped every year, from 9.3 percent in 2000 to 5 percent in 2003. In-house counsel predict an even smaller increase (3 percent) during 2004, although that contradicts what most law firms predict. It will be interesting to see whether in-house counsel are able to continue to make gains in this battle with their firms over hourly rates. There is a clear opportunity for many in-house counsel to follow the lead of a small number of their peers who are increasing their controls over the expenses of outside counsel. There is also an opportunity here for law firms who are willing to address the cost issue by anticipating what their clients want and working with them to put incentives in place for efficiency. Will in-house counsel be able to control costs even more in the future? They might be able to do just that — if clients and their firms find ways in which they can both gain, such as linking fees with results and working together more efficiently. Rob Thomas is vice president of strategic development for Serengeti Law, based in Bellevue, Wash. The company’s e-billing and matter management system is used by more than 3,000 in-house counsel. More information is available at www.SerengetiLaw.com/Survey.

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