Tuesday, January 26, 2010

Hourly Billing vs. Flat Fee

The WSJ poses the question, which type of case makes an attorney work harder?

I have done both types of cases before and I need to think about this one.

When I did a flat fee case, I would try to be effective, i.e. take as little time as possible to close the case.  My superiors would put pressure on me to complete the case as soon as possible because flat fee cases were considered low yield, and were only taken on as a means to get referrals for more lucrative cases, i.e. cases billed hourly. 

The goal of taking on any case was to do it in the amount of time it would take to remain on par with your billable rate.  For example, if you were doing a complicated real estate closing for $3000 and you typically charged $225 an hour--you had to accomplish the closing in 13 hours or you have lost money for your firm.  So, we still tracked the billable hours to measure profitability and as a means of putting pressure on an associate.

So, effectively, by keeping tab on the time it takes you to do a flat rate case--you are working harder and faster.  But I can't say that you're doing a better job.  After all, you're rushing and many mistakes happen when you are rushing.

In my experience, I have seen many mistakes in real estate closings.  Because real estate closings are flat fee cases and the practice is more about volume than details.  Chances are, if you fail to review the Title Report thoroughly and you don't have time to look at the minutes for the Condo that your client is buying, then everything will be fine.  So, I would venture to say that many real estate attorneys take short cuts in getting to the closing--under the assumption that everything will be fine or the bank attorney will catch it or Title Insurance will kick in.  It's wrong, but it's reality.  Does that mean that real estate attorneys work hard?  Yes, they work very hard.  But when you are billing $1500 for a real estate closing and your time is money, it's hard to fit all of that work into 7 hours. 

I would venture to guess that the same may be said of contingency cases, where an attorney will take on a case for a percentage of the award--25% to 33%.  Once again, the goal is to both maximize the award and get to the finish line in as little time as possible.  As such, the tendency to cut corners is there.  So, do "ambulance chasers" work hard?  Heck, yes.  But are you getting the best result?  Probably not.  Trials are costly, so I think that settlement is often pursued as a way to cut expenses off at the head.

What of criminal lawyers?  Typically, you are paid a flat fee to represent a client (unless you're court appointed).  As such, as a private criminal defense counsel, your incentive to visit the jail to speak to your client and understand his/her case is killed. You want to get to the finish line as quickly as possible.  That translates into not seeking costly trials, if there is any chance you can convince your client to take a plea.  After all, a plea is the quickest and most cost effective way to close the case.  So, a flat fee in this case is most likely detrimental to the rights of the client.

So, all in all, a lawyer on a flat fee may work harder, but not better. 

Now, the idea of flat fee cases seems to be extending to the realm of BigLaw, the bastion of the billable hour model.  Corporations, who traditionally felt that more time spent on their cases provided them with better quality representation, are looking for discounts.  Flat fees seem to be the way to go.  If BigLaw will charge clients flat fees then the lawyers will have incentive to work more effectively--resulting in potential savings.  The future of BigLaw will be changed dramatically. Instead of associates being rewarded for the number of hours they bill--they will be rewarded for working effectively and working less hours.  Surely, since lawyers are generally ineffective, the law firms will end up with the short end of the stick when it comes to complex litigation--if they want to retain their stellar reputations.  Or, they will go the way of the ambulance chaser.  The implications are huge and I can only imagine the future of BigLaw.  Will BigLaw become Shitlaw????


  1. Any true law firm would operate only on the billable hour scam arrangement. The billable hour scam is what used to make law profitable even for doc reviewers from shitty schools. It made law profitable for many a solo.

    But now clients and the public at larger are aware of the billable hour scam and the jig is up. The implosion of the billable hour scam is causing the implosion of law. The legal profit pie, and its crumbs, are exponentially diminishing as each moment passes by. Its game over for most in law but the most effectively wicked and ruthless.

  2. Hi Angel - Interesting post. I frequently have to deal with clients that are looking into flat fees and they are sometimes, but often not the right choice. First, hourly rates are not a "scam by lawyers" - your doctor often bills by the hour as does your plumber, mechanic, and many other trades. It's really a question of risk management with regard to cost. If there is a set amount of work and there is little risk of it increasing, then the work can be reasonably billed as a flat fee. Conversely, if the mechanic doesn't know what he is going to find before he opens the hood, then the best that you can get is an estimate - the actual extent of the job is unknown. If you are bidding on the price for the job when the cost is unknown, then you as a lawyer are going to bid high in case the job is an expensive one (I'm ignoring portfolio billing here, where you have hundreds of tasks that vary, but average out in the end). Conversely, the client wants a low flat bid to push the risk on to you. However, you should be compensated for taking on that risk. On the other hand, if you don't have to take the risk of getting stuck, then the client may often end up paying less.

    Here's an actual example of how this can play out in practice from when I sold a condo a few years ago. The standard model for real estate agents is where you pay 5% and it is split 50-50 between buyer's and seller's agents - but only if the sale takes place. That is, the agents bear the risk of the transaction not going through - and it often does not go though and they often end up with nothing. Conversely, if the place does sell (let's say for 200K), then each agent ends up with 5000. Conversely, I went with a brokerage with a new business model - you pay them up front (thus passing the risk of the sale closing on to you), but the amount that you have to pay is much, much less. In this case, I paid only $1000 to my agent instead of the $5000 that I would have had to pay if the agent bore the risk of the transaction not going through. You may think that the brokerage that I used is losing money, but they are actually outperforming many of the traditional brokerages because they get their money up front. The arrangement is a win-win for both of us because I took on the risk of the sale not closing - which radically changed the cost structure in my favor.

    Also, there is an assumption that just because something is being billed as a flat fee that the attorneys are somehow working harder - that's not always true , as you note above. People often confuse the method of billing (hourly vs. flat) with the total fee. In general, you get what you pay for - if you pay less, expect less - regardless of method of payment.

    One other reason that corporations like "flat" rates is the predictability of expense. They want their monthly "legal" charge to be predictable. In this regard, a willingness to push some fees from one month into the next in order to deliver a constant legal expense can be more valuable to a corporation than "flat" billing that messes up the risk allocation and cost structure. Is that an "alternative billing arrangement"? I guess so if you want to emphasize your willingness to do alternative billing arrangments.

  3. Ok. Of course someone who calls themselves "managing partner" will spew a bunch of mumbo jumbo about there being no billable hour scam and how it might be better, in some situations, for a law firm to have flat billing arrangements. But the truth is, with a few rare exeptions, most of law lives on the billable hour scam.

    And most often, the billable hour setup is just that, a setup....to pick the pockets of clients. To create make work, monkey work, designed to unecessarily inflate the amount of hours that are spent and billed on a matter.

    There are many ways of doing this. One great way is for firms to provide no or little instruction, mentorship or supervisory direction to their associates who are assigned to a matter. To throw said associates into the fire or into the river with no boat or paddle. This causes the associate, who is often billed at obscenely high rates, to flail about in the darkness for many more billable hours than is necessary to finish a task that would have been much easier to complete if the boss snake would have provided any guidance whatsoever. The boss snake could even cut some of the associate fool's billables upon demand of the client and the firm still gets away with billing more hours than necessary.

    Flat rates do not allow for this and such an arrangement severely cuts into a firm's profitability. Anyone who tells you otherwise is not being honest. And, with the jig being up, the lawland profitability pie and even the crumbs to that pie are severly diminished. The scam has been largely exposed and the jig is up and the profitability for most but the chosen few, is negated.

    Its best for most folks to leave or stay away from law because with the demise of the billable hour scam, its just not profitable enough anymore.

  4. Here is one offshoot of a flat fee in transactions. I am working on a transaction right now in which the other side is being paid a flat fee. Accordingly, the lawyers on the other side do not do any drafting. They simply call us and give us their vague comments verbally and were expected to incorperate them all. As a result, the bill for our client is going to be higher. Just yesterday, the other side asked us to draft a document which we thought all along they would provide to us several days ago. So, to answer your question - in transactions, the lawyer(s) on the flat free shirks all his work.

  5. 10:53 - It seems like your basic point is that many areas of law are less profitable now and potential new lawyers should be aware of this before making a decision to go to law school. I completely agree with that.

    However, the flat vs. hourly billing question is somewhat of a different question. In this regard, two of the underlying assumptions that I see in your comments are 1) clients are not able to tell when they are being billed inefficiently - thus the lawyer can bill with impunity, and 2) clients do not have the power to immediately change lawyers if they feel they are being billed inefficiently - thus the lawyer can bill with impunity. Consequently, because the lawyer can bill with impunity and the client allegedly has to pay regardless, then hourly billing is a "scam".

    Conversely, in reality (at least for corporate clients) you are dealing with an in-house attorney who is scrutinizing your bills and trying to make sure that the client gets maximum value even when things are billed hourly. It is often the case that not all time that is billed can be collected - that is, the client refuses to pay some of it. (This helps your point about law being less profitable, but goes against your point of hourly billing being a scam.) The in-house lawyers previously worked in law firms and they know pretty much all of the billing techniques. They also know generally how much something costs and will want an explanation if something goes over. (and if it was your fault - or an associate's - that it went over, then you are going to have to eat it.) Additionally, they are constantly assailed by lawyers from other firms who offer their work at competitive prices. Further, most corporate clients work with multiple law firms to increase competition and price pressure on the law firms.

    With the level of knowledge and scrutiny provided by in-house attorneys and the level of competition, it is very unlikely that companies are going to be paying for anything less than quality work. Consequently, it is really not possible for the company to be "scammed" by the billable hour. Companies will either not pay or will switch to a different provider.

    That being said, I think that your comments about flat-fee billing and the reduction in profitability definitely have a connection. However, it's not cause and effect, but an outgrowth of economic pressure. More specifically, companies have increasing knowledge about how to drive a hard deal, are not loyal to providers, and are under economic pressure to get the maximum bang for their buck in this economy. Consequently, they are trying eveything that they can to lower cost. Flat fees are sometimes viewed as a way to lower cost, but it's just one option. Alternatively, the client can unpackage their legal services and parse them out among firms (having all work at a big GP firm typically adds about a 25-30% margin in billing rates) and can look to firms located in a different geographic area (firms in NY and CA typically have billing rates that are 25-30% higher than in Chicago, for example - primarily to cover their real estate costs.) They can also instruct firms that first and/or second year attorneys are not allowed to work on the client's work.

    Consequently, I agree with you that client cost pressure is making the practice of law less profitable. However, the pressure to go to flat-fee (or other alternative arrangement) is just one aspect of this, and often not even the largest aspect for many lawyers.



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