The Peanut Principle

Author: Simon Taylor - Lexpert (January 2006 at p. 118)

We all know the saying “pay peanuts, get monkeys”. We also know that in this day and age, it is necessary to negotiate hard on price, and never to accept the first offer. For too many organizations, however, there is a disconnect between the price they pay for legal services and the quality of services they receive.

In an age where cost is under constant scrutiny, and where the chief legal officer needs to demonstrate to his or her chief executive that they have their finger on the pulse, it is tempting to fall into the trap of believing that by reducing the standard rate before discount, the job has been well done.

Unfortunately, if the organization is as concerned with value as it is with cost, such an approach is unlikely to succeed. The problems which arise from unrealistic hourly rates are well known. The quality of work inevitably suffers if the firm finds it uneconomical to put their best, most experienced lawyers to work on your files. There are well founded examples of firms putting juniors at lower rates on files because the client would not pay the market rate for an experienced partner.

Over the past few years, we have considered this and similar issues from the perspective of law departments and law firms. How can you get measurable value for money (chief legal officer) as well as premium rates which reflect the expertise and skill of a senior practitioner (partner in law firm)?

The starting point for this exercise is for the law department to have clear, accurate information about their work flows. Many complaints about partners’ hourly rates are more about partners doing the work of senior associates. If the work truly requires partner input, few law departments will begrudge the partner their hourly rate. It is when the work does not genuinely require partner input that grumbling over hourly rates arises.

Law departments therefore have a mix of high quality and routine work. The high quality work may be infrequent, but when it arises, it has huge importance for the organization. The routine work, on the other hand, flows through the department on a daily basis.

The issue here is for the law department to engage in a discussion with its external providers of legal services on what works best for them. The idea is to marry both sets of wants - those of the law department and those of the law firm. It is also frequently necessary to negotiate staffing guidelines that reflect the complexity of the work and to ensure appropriate delegation. There is often too much focus on the hourly rate itself (which is just the multiplier) and not on who is doing the work.

Examples of trade-offs, which we have seen, include negotiating 36-month deals under which “buckets” of work, that is, so many billable hours of routine work per 90 days, is estimated by the law department. The attraction for the law firm is certainty. The firm knows that from this client, for the next three years, it should receive so many billable hours worth of work for a set fee. The set fee is what the law department is looking for. They have little problem in estimating a measurable workflow, provided they are not met with continually rising hourly rates from their external providers. So far, as routine work is concerned, to trade-off workflow against fixed price makes sense to many law departments. It also makes sense to a number of law firms, provided they have the required skills to properly manage the project.

A key issue in these arrangements is the measuring and verification processes. It is one thing for a law department to estimate so many billable hours worth of work, but quite another to agree with the law firm on how long a particular file should take.

The extent to which law firms and law departments need to work together and to trust each other is of great importance. The “old” way of managing client relationships is unlikely to be productive in this scenario. Clearly, each party needs to be open and up front with the other about their needs and expectations. Equally, each party needs to monitor the relationship on a regular (say, half yearly) basis, so that when the inevitable niggles occur, they are dealt with quickly and effectively.