Economic pressures motivate law firms to try innovative billing practices

There is nothing new in lawyers trying to find ways to price their services in ways other than the standard practice of charging a price for each “billable hour” of work performed for a client.  Each lawyer, of course, is billed to a client by her firm at a different rate, the precise rate per lawyer depending primarily on her experience.  When I began practice in 1984, my firm billed my work to it clients at about $100 per hour.  By the time I left practice to teach, the hourly rate my firm billed my time out to clients was $315 dollars per hour.  I can only imagine that had I continued in practice, by now, twelve years later, my hourly rate would be in the ballpark of $500 an hour.    According to the New York Times, Cravath, Swaine & Moore in New York is “one of a number of large firms whose most senior lawyers bill more than $800 an hour.”

Lawyers have always also used pricing schemes other than billing per hour.  Certain types of transactions are generic enough that lawyers can charge a flat rates for representing a clients in such a transactions.  And, of course, firms that represent clients with modest to poor economic means suing wealthy clients have regularly charged contingent fees, collecting a percentage (typically 25-40%) of any recovery achieved as a result of the lawsuit.  Those firms finance their losing cases with the windfalls they earn in winning cases.  And their clients benefit because without the contingent fee arrangement they could not possibly afford to pay for the lawsuit.  The most typical types of cases employing these billing methods are personal injury and malpractice lawsuits.

But in most other situations the billable hour has been the standard way to price legal services.  There always have been severe criticisms of the practice. Its potential defects are plain.  Some firms break the hour into 15 minute segments; others into 6 minute segments.  If you perform one minute of work by, say, making a brief telephone call on behalf of a client, you might well  record an entire billable segment (6 or 15 minutes) for the call.  Everywhere I worked I had the discretion to choose not to record time for such brief tasks.  So I wouldn’t.  I couldn’t justify the cost the minimal effort would cost the client. If, for example, an attorney makes a one minute telephone call, the attorney records that call as fifteen minutes of billable time, and his  firm bills his work out at an hourly rate of $300 dollars, that one minute phone call would cost the client $75.

But the fact I wouldn’t bill a quarter of an hour for a one minute phone call could hurt me in a very real way.  It reduced the amount of time I recorded as billable hours.

And the number of hours a lawyer bills over the course of a year plays a significant part in the firm’s evaluation of his performance.   The lawyers conducting the evaluation may understand that the sheer number of billable hours bears little relationship to the quality of a lawyer’s work, but any overburdened organization engaged in evaluation tends to put a lot of weight on hard numbers that bear little relationship to the qualities being evaluated.  So my failure to bill a quarter hour for one minute of work could work against me in my efforts to advance within my firm.

The system also biased the evaluations against better lawyers.  I always prided myself on my research and writing skills.  I felt I could identify, analyze, and research a disputed issue faster and more effectively than any of my colleagues.  I also felt I wrote better and more quickly than my colleagues.  Yet colleagues who were slower at the same work I did billed more hours for that same work, and that higher number of hours accrued to their benefit, at least in part, when our performances were evaluated.

I was exceedingly fortunate in not suffering from these potential defects in the billable hour system.  I worked regularly with a close-knit group, so we knew each other’s work well.  Our work, therefore, could be evaluated direrctly on the basis of its quality.  But the larger the firm and the more a lawyer is shuttled from colleague to colleague as he works on new matters, the less the firm will evaluate his work based on its intrinsic quality and the more the firm will rely  on the number of his billable hours.  And some firms, naturally enough, don’t care why a lawyer might bill more hours than a better performing colleague.  The higher number of hours mean more money for the firm.

I certainly felt the constant pressure to bill as many hours as possible.  Over my 12 years of practice I billed between 1900 and 2400 hours a year.  1900 billable hours seemed a livable amount of work (and seemed to be the minimum an associate could get away with), but it hardly amounted to what most people would consider a reasonable work schedule.  For one thing your billable hours are not the hours you work.  They are only the hours you work on matters that can be billed to clients.  The hours spent on administrative work on behalf of the firm, on pro bono work, on training younger attorneys, and on the necessary interludes from the demanding work are not billable hours.  In my last years of practice, as a partner, when I was still a relatively young but experienced commercial litigator, I generally was in the office from 8:30 a.m. until sometime between 7 and 8 p.m.  I also worked regularly on weekends for 3 to 8 hours.  During my busiest times, which occurred with regularity, I could easily bill something on the order of 110 hours a week.  I don’t know how I did it.  There are only 168 hours in a week.

The system provides an incentive to the firm itself, and not merely its lawyers, to maximize the number of hours billed to a client.  The more time a firm spends on a matter, the more money the firm will make.  That makes for a perverse incentive — clients want matters resolved as quickly and cheaply as possible.  But it is in lawyers’ short term financial interests to resolve matters in the most complex and drawn out ways possible.  As the New York Times points out,  “In litigation, firms that charge by the hour can suffer if they are too successful and end a lawsuit – and the stream of payments from continuing work – too quickly. One law firm that recently collapsed, Heller Ehrman, was hurt in part because a number of cases had settled.”

The defects inherent in billing by the hour began to become an issue to clients  in the late Eighties as a consequence of the economic difficulties set off by the 1987 stock market crash and the Savings and Loan debacle.  Money was tight, so clients would scrutinize more carefully the prices they were being charged and the ways those prices had been arrived at.   It doesn’t surprise me, therefore, that the New York Times suggests that today’s “rough economic climate is making clients more demanding, leading many law firms to rethink their business model.

One change demanded by a client I worked for back in the late Eighties and early Nineties was to produce a detailed budget in advance of his decision to have our firm represent his company in a  lawsuit.  The budget would provide an estimated cost of the representation, with the ultimate cost limited no more than a fixed amount above  the estimated total cost.  The budget would lay out in detail the work that would have to be done — work that would include, among a myriad of other things, drafting pleadings, drafting and arguing any and all pre-trial motions, conducting discovery (including the oral examination of witnesses under oath in depositions, the review of documents, and our own independent investigation into relevant matters), any and all legal research that might become necessary in the course of the case, the retention and preparation of any experts that might be required, and the preparation of our own witnesses for both deposition and trial testimony.

The time and effort necessary to conduct these tasks is to a great degree unknowable in advance of a lawsuit.  Moreover, unforeseeable complexities are almost inevitable.  It is virtually impossible to calculate  the number of new claims that might be asserted in a lawsuit, the number of new parties who might be drawn into it, the number of  new legal issues that will inevitably arise in the course of the case, and the amount of work each of these and other unforeseen complications will require.  Preparing these budgets was one of the most difficult things I ever did as a lawyer because so much of their content seemed largely the result of guesswork.

It was not, however, a senseless product I was producing.  Essentially, the budget set forth our best estimate of a fixed fee  for all the work required to conduct the lawsuit through trial.  In the event the case settled before trial , our fee would be limited to the amount the budget had allocated for the work we had actually done.

With the recovery of the economy in the Nineties and the enormous sums earned by corporate America, the motive to impose such novel billing methods waned, and the billable hour managed to maintain its role as the foundation of large firm billing practices.

But, as Friday’s New York Times stated:

The evidence of a shift away from billable hours is, for now, anecdotal, as few surveys exist. But partners at a half-dozen other big bellwether firms and lawyers at corporations, who sometimes engage outside counsel, say they are more often seeing different pay arrangements.

One such novel scheme was followed by Morrison & Foerster, and in fact resulted in the firm earning a much higher fee than if it had charged by the hour:

In one case, he said, Morrison & Foerster negotiated a fixed fee for defending a company in court, covering work up to the point of a motion for summary judgment.

On top of the fee, if the case settled for less than what the company feared having to pay if it lost in court, the law firm got a percentage of the amount saved. The arrangement made sense when the goal was to resolve the dispute quickly, Mr. Leonard said.

Lawyers on the case negotiated a settlement for much less than the client’s worst-case number, Mr. Leonard said. “The effective hourly rate was something like 150 percent of our hourly rates,” he added. “We made money, the client was happy.”

What other types of pricing will clients and lawyers develop?  It remains to be seen.   But since the financial crisis seems more dire than any we’ve experienced in the last seventy years, law firms might have to engage in the first comprehensive overhaul of their pricing systems since at least the Sixties.

Finally, let me emphasize that there are good lawyers and bad lawyers, just as there are good and bad people in every profession.  The people I worked closely with were kind, generous, hardworking, and dedicated to serving our clients as efficiently and effectively as possible.  We would not bill a quarter of an hour for a one minute phone call. The founder of one firm  I was a member of for many years,  Gene Anderson, made sure the firm’s lawyers put our clients first in everything we did.  Any business air travel, for example, had to be made in coach class.  Every lawyer I knew at comparable firms would fly First or Business Class.  Doing the least expensive and most efficient work for the client was, in short, the ethic of almost every lawyer I  personally worked with.

But I have encountered many a lawyer whose “ethic” is to extract from his every cent he can.  The principal way to maximize one’s fees is to fight as long and hard as possible on any and every issue that can be made into a fight. The truly sad part of this phenomenon is the belief among many, many people that the most effective lawyer is the nastiest lawyer.  Those people get their nasty lawyers.  They also make the cost of their representation as high as possible.

Nastiness is bad lawyering.