Alternative Fees: There’s More Than One Way to Charge a Client Options

[Editor]

The debate continues over the future of the billable hour, but there is little disagreement that billable hour alternatives are here to stay. For example, a 2010 survey of 800 law firms with 50-plus lawyers by the Altman Weil consulting firm showed that more than 75% of the firms see non-hourly billing as a permanent trend, and nearly 95% of the firms offered some alternative fee arrangements – primarily at their clients’ requests. However, that still leaves open the issue how to replace hourly rates with a better billing method.

Requirements for Success
If the lawyer uses alternatives like value billing or flat/fixed fees, and does not help clients understand why, clients are likely to misunderstand what the lawyer did and how it helped them. Fee controversies are too often the result. In any alternative billing method, the skills of a lawyer and the way in which services are marketed and delivered to the client must coincide with what the client wants and needs to have.

A law firm’s commitment to use alternative fees requires three basic requirements for success:

• Communication is essential. No firm should fall into the trap of simply changing or cutting its fee structure without a thorough explanation. An up-front general statement about fees and alternatives, estimates and budgets is crucial to secure client acceptance.
• Clients must be educated. Their understanding of what equitable arrangements may exist is typically not substantial. Law firms must work with clients to develop specific pricing alternatives based on realistic expectations, not through a draconian RFP process.
• Alternatives must be flexible. Client preferences and each firm’s operations differ, and the factors of each project or case can accommodate various billing options.

Flat Fees
One of the simplest alternative billing approaches is a flat fee stipulated in the engagement letter, before the assignment even begins. It will not vary no matter how much time the lawyer expends, or what the result. There are two ways for a law firm to address creating a flat or fixed billing arrangement. The firm can assess its revenue in light of its existing cost, then determine if those costs must be reduced in order to arrive at a fee acceptable to the client and still make a profit. Or it can assess costs and determine how much revenue is needed to cover them and make a profit, setting a fee adequate for both. In either approach the bottom line depends on selling enough legal services to cover costs and generate a profit.

Cost and revenue are the two sides of the flat fee coin. Consider the example of a contract attorney, doing work for a large law firm, who proposed a new, higher fee schedule that included a volume discount based on a scaled number of hours per month. The client firm’s managing partner asked that the number of hours and the discount to be applied be reviewed retroactively at the end of each three months cycle. A volume discount at a flat fee should be based on a prospective, rather than a retrospective, guarantee of work. A retrospective review fails to offer any security and makes planning impossible. Without the prospective assurance of volume, the lawyer gains little, and the client has every advantage. A firm should consider such a discount if, and only if, the client is prepared to guarantee a minimum amount of work per month for a minimum period of time, such as six or nine months.

Incentive Arrangements
By contrast, in transactional work and more traditional litigation work, alternatives are created when both client and lawyer work together to analyze the facts, establish objectives and determine the strategy to reach those objectives. This includes the fee and the method of determining the fee other than by the time expended on the matters. These approaches are still uncommon, despite the great amount of conversation about them. The unifying principle is that the lawyer assumes some degree of risk for the degree of success in the engagement.

Such arrangements require different alternative fee provisions for different results. One way to deal with this issue is to use a success pool in conjunction with an hourly rate. Firm and client jointly determine what percentage of the hourly rate goes into the success pool. If the firm does not achieve success based on the previously determined definition, it does not get the bonus from the success pool. If the result is as budgeted, the firm gets the success pool in full. And if the firm achieves the result for 20% less than reasonably expected, then a percentage bonus above that which is in the success bonus pool would be paid.

The Rules of Professional Conduct prohibit clients and outside lawyers sharing a business arrangement. However, in this type of alternative billing philosophy, lawyers don’t become partners in the clients’ business – they become partners in the resolution of each specific matter. The sharing of the risk is based on the outcome. And that requires lawyer and client setting a mutual success goal at the start. The risk for the lawyer is in not meeting the goal; the reward is in meeting or even exceeding it. There is no universal best billing alternative to achieve this. Client preferences and each firm’s operations differ, and each project or case has a multitude of factors that could accommodate other billing options. Any fee arrangement can be justified if the firm knows the cost structure behind it, and if the client accepts the value that the fee represents.

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