Warning: Read This Before You Send that Billing Rate Increase Letter!

This is the time of year law firms get ready to send out their annual letter to clients citing their new billing rates for 2013. Despite all of the recent coverage about legal departments cutting their budgets and forcing law firms to reduce their rates, two recent surveys find that law firms still plan to raise their rates in 2013:

According to the most recent Wells Fargo Report, “One way firms may be coping with the perfect storm of slackening demand, increased expenses, and falling realization rates is by raising their fees: Billing rates were up 3.4 percent through the first nine months of the year, and two-thirds of the firms surveyed said they plan to raise billing rates between 3 and 4 percent overall next year.”

Even mid-size firms plan to raise their rates: “At the same time, 21 of the 26 leaders expected to increase billing rates during 2013, even as 20 of them reported that more of their clients are requesting fee discounts.”

This seems to indicate a complete disconnect between what clients are telling their law firms they want and need and how law firms are responding. Billing rate increases rarely represent new major expenditures or investments that firms have made to provide additional value to clients. More often, billing rates are decided based upon what a law firm’s expenses will be, then taking into account anticipated utilization and realizations (expected collections/cash in the door) plus whatever the partners decide they want for profits. In fact in its report, Altman Weil suggeststhat firms do just that: “Law firms should price their services, whether using hourly or non-hourly fees, based upon the profit margin they desire.”

 So what ever happened to aligning firm interests with those of the client?

Clients have a lot on their minds these days. Their CFOs are telling them to reduce their costs by 20%+ per year – and they mean it. Even in the “new normal” environment, firms are not really responding creatively or aggressively. They assume that if the client needs to reduce its expenses, it should come from another firm’s bucket. Everyone knows the game by now, firms raise their rates in order to provide the 10-20% discounts clients are asking for.

One thing most law firms usually don’t think about is the impact that their fees may have on a GCs own personal success or that of his/her legal team’s success. A recent survey “The 2012 In-depth Top General Counsel Compensation Report,”prepared by Equilar, looked at compensation packages of 404 general counsel in the Fortune 1000.

The review of the findings demonstrate how large a percentage of a GCs cash compensation is comprised of by his or her bonus. In many cases, the base salary is much less than half of the cash compensation. I wonder whether law firms ever really think about what goes into the bonus criteria for their clients. Most often it is how well the GC/executive contributed to the financial success of the company that year. Bonuses are tied to metrics to meeting certain targets.

For most GCs, these targets also include how well they managed their legal departments and budgets, including whether they reached the goals established by their CFOs to reduce the legal budget by 15 or 20%. When one considers how significant a proportion of a GCs bonus is to their total cash compensation – perhaps partners can begin to understand why GCs have become so focused on managing and reducing their legal spend. If 40-87% of your personal take home pay was dependent on how well the firm generally and you personally met financial and other success goals, wouldn’t you scrutinize and try to manage your costs?!

It is rare that partners really think about the impact they have on clients in ways other than “we won the case, we handled a delicate and contentious negotiation, we closed a very complex and difficult deal, or we called the regulator and got them to back off.” Often, these types of results are how partners describe how or why they provide value. They aren’t wrong. What we know, however, is that getting a result at all costs every time is not what the client always wants or needs and more importantly, overall management of the legal department including legal costs likely will have an impact on in-house counsel’s personal success and compensation.

This should bring some new light to partners who are managing client relationships, especially those who continually bemoan the fact the GCs keep cutting their budgets and pressing them to be more efficient. Can you blame now that you know how much is at stake for them?

A few thoughts to help you and your team better understand and approach the way you work with your clients:

• If your client is listed in the Equilar Top GC Compensation Report, know what he/she makes and how much of cash compensation is based on the bonus.
• Talk to your clients about how they view their own success in their companies, what is important to them and to company executives, and how their performance is measured.
• Ask the GCs how they measure other members of the in-house legal team so that you can ensure the law firm team understands and strives to facilitate their success.
• Consider ways to help the GC play a critical role in the company’s strategic and business planning process, and if feasible, find ways to help the legal department make money for the company and not just be a cost of doing business. DuPont Legal’s Recovery Program is one way to do this.
• Share some risk. Tie your own results to the pricing model you use – this is what clients mean when they say they want you to “have some skin in the game.” If their own performance review and compensation are based on their success, why shouldn’t their outside counsel be measured and rewarded using measurable objectives/metrics also? Don’t forget, if you exceed expectations and goals, you likely will receive a bonus if priced that way from the outset. See previous posts 5 Firms Take Bold Approaches and Client Service and Value Innovations on this for how Valorem Law Group, Bartlit Beck and FMC Technologies approach this.  As one GC so eloquently put it, “Law firms say that they want to be a trusted counselor to the client and to be a seamless extension of the GC. If that is true and not lip-service, then why WOULDN’T a law firm expect to have its interests and incentives similarly aligned? If outside Lawfirm wants to be ‘part of the team,’ then this is part of that deal! I would expect that as Company is to GC, thus GC is to Lawfirm: as we all win, so you too win. But, the alignment includes reward ALONG with risk. ”  Here, if the company has a bad year, the the leadership team’s bonus pays fractionally or not at all.”
• Think very carefully before sending your clients your 2013 billing rate increase letter. Are your rates increasing because you truly are adding value this year and if so, how? Or are your rates going up just to maintain your own profitability?
• Tread cautiously and thoughtfully as you do your internal number crunching. Consider what your firm’s services are worth to clients and whether you can deliver these more efficiently and less expensively.
• Make sure the focus stays firmly on the client. Remember that how you manage your time and fees for clients may impact their personal success.
• At all times, treat your clients’ money as if it were your own.