ABA Journal

The New Normal

Alternative Fee Arrangements Are a Tool, Not a Strategy

By Roya Behnia

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Earlier this year, I met Pat Lamb, one of our fearless leaders in the New Normal, for coffee near his office. Given his success in delivering high-quality legal services under alternative fee arrangements, I wanted to hear his thoughts about their use in practice. Pat emphasized that lawyers should be paid for successful outcomes and not for quantity of work. We talked about my own early experience with an AFA in which my outside counsel arrived at a flat fee by multiplying the number of hours they expected to put into the matter by their traditional hourly rate. We agreed on a lot, and I left with examples of where AFAs have been used with great success and where they haven’t.

This conversation with Pat was on my mind when I read Rachel Zahorsky’s excellent recent piece in the ABA Journal about how flat fee systems really work . That article highlights Tyco International’s “convergence” model in which the company gave its entire products liability docket to Shook, Hardy & Bacon in exchange for greater predictability of expense and efficiency. Zahorsky quotes Shook, Hardy partner, Paul Williams:

We have the opportunity to beat the budget and earn a bonus … but if we beat the budget big time, we’re able to also put money back in the client’s pocket and make them all the more happy. Our skin in the game comes on the topside because the firm has to absorb a certain over-the-top amount before relief [from Tyco] is provided.

This kind of partnering is the result of time, effort, and trust between law firms and their clients. In order for AFAs to work, trust and information-sharing is a must. And adoption of an AFA arrangement isn’t easy at the outset (even Shook, Hardy partner Williams admitted they had a steep learning curve), but it may be worth it in many circumstances.

But as Zahorsky points out, some corporate legal departments are hesitant to implement AFAs. Just last week, I heard the same from a partner at a major national law firm; when asked to provide AFA options, their clients end up selecting the traditional hourly approach.

So why aren’t more C-suite executives implementing AFAs? Shook Hardy partner Williams believes that these corporate legal departments may not be innovative:

As C-suites roll over and you get more innovative thinkers, you may see more willingness to be more creative and innovative in how they go about dealing with fee arrangements.

While some general counsel may suffer from Old Normal thinking, there may be other factors driving the decision not to use AFAs. Rather than viewing AFAs in isolation, let’s take a step back.

AFAs are an important tool, but not an end in themselves. Corporate legal departments and their outside counsel should be asking themselves the following: “What is the ultimate strategic goal we are trying to address with AFAs and are they the right tool to use to address this goal?” Let’s assume every client wants to incent a positive outcome.

If the goal is to make legal expense more predictable, then AFAs that have a fixed component are a very important tool. For example, Tyco’s “convergence” model and Pfizer’s Legal Alliance Program as described by Paul Lippe are designed to meet the business need of ensuring predictability in legal expense. Corporate clients that have large litigation dockets (in the case of Tyco, in the hundreds) or recurring and predictable counseling needs (such as in intellectual property or employment arenas), then it may make sense to engage in fixed fee arrangements with or without collars.

But what if predictability isn’t the prime goal? Other clients may be willing to tolerate a little unpredictability while driving down cost. For example, business leaders, including inside counsel, are incented to reduce expense in order to achieve profitability and earnings per share targets. In these cases, predictability, while appreciated, isn’t necessary consistent with reduced expense. In these cases, fixed-fee AFAs may not be the right approach. For example, a client may be better off settling a litigation matter early, depending on its risk tolerances, rather than entering into an AFA better suited for a litigation strategy.

If overall expense reduction, rather than predictability, is the goal, then corporate legal department may use other tools, including implementing proactive risk management to reduce the chances of litigation, bringing more work inside, and using a range of law firms in lower-cost markets to address matters of varying complexity. These corporate legal departments may be willing to tolerate the traditional billing model, with discounted rates, if they bet that they will get a better return on that investment over a fixed-fee AFA.

Until we have access to better data on the return on investment of AFAs versus other means and in its use to address goals other than predictability, it is hard to say whether AFAs should be the principal tool in every case.

Don’t get me wrong, I am a fan of AFAs and have used them myself where it made sense for my business. But I believe that corporate legal departments should think of AFAs as a tool, not a strategy. Unlike Shook Hardy partner Paul Williams, I believe that one reason C-suites are taking their time in adopting AFAs also has to do with our misreading of what their goals actually are and whether they are right for every client.

Roya Behnia was senior vice president, general counsel and secretary of Rewards Network Inc. (NASDAQ: DINE) until December 2010 after completing the sale of the business. She led the legal, human resources, and compliance functions and served on the company’s executive management committee where she was centrally involved in developing and implementing business strategy for the company. She has been an in-house lawyer since December 1998, working with Brunswick Corporation and SPX Corporation. Before that, she was a partner at Kirkland & Ellis.

Editor’s note: The New Normal is an ongoing discussion between Paul Lippe, the CEO of Legal OnRamp, Patrick Lamb, founding member of Valorem Law Group and their guests. New Normal contributors spend a lot of time thinking, writing and speaking about the changes occurring in the delivery of legal services. You’re invited to join their discussion.

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