1. Implementing Value-Based Fees Practical Advice and a Chance to Practice
Lisa Damon, Seyfarth Shaw
Kathryn Kirmayer, AAR
Joe Otterstetter, 3M Company

2. Evolving Definition of Success
Consistent Delivery
Efficiency & Predictability
Business Acumen
Substantive Legal Knowledge
Drives Need for
Project & Process Management
Maturing expectations of internal clients
Cost reduction pressures
Internalizing work
Unbundling legal services
Multiple players involved
Outside Counsel no longer the General Contractor
Law Departments taking a leading role to provide direction, continuity and coordination
Source: UnitedLex

3. Getting to Better Outcomes, Faster Cycle Times, Cheaper Spend
Process Improvement
Legal Project Management
Value: Yours Mine, or
Ours?
Value Pricing

6. Association of American Railroads
6 lawyers
Litigation (direct and amicus)
Administrative proceedings (STB, DOT, EPA)
Legislation
Standard-setting
Internal counseling
incl. 2 for-profit subsidiaries

8. 500+ Legal Professionals in 42 Countries
March 31, 2017

9. Assuage the Fear and Inertia Around VBFs
Our Objectives
What is (and is not) a “value-based fee”?
Build common understanding
Why would I want to use them?
Can they represent a better proposition for clients and firms?
How do we create value-based fees that work?
What type of fee agreements work best in what circumstances
Fee agreements that meet client needs
The firm’s interests and obstacles
Assuage the Fear and Inertia Around VBFs

10. What

11. What is value-based billing?
Any fee arrangement in which you …
…pay for results, not activity.
(usually abandons rate x hours)
(examples to come)

12. What impact could the outcome have on business?
Focus on “value”
How important is this matter to the business compared to other matters?
What impact could the outcome have on business?
Cost to provide the service (input) is a consideration, but not the only consideration
What are the business risks or potential benefits associated with the matter?

13. What is not value-based billing?
Rate discounts (including volume discounts)
Blended rates
Not-to-exceed fee caps
Mere budgets
The first step of the revolution was outrage.
Led to trying to “manage the devil we know"
Squeeze -- Rates too high – refuse to raise them
Leverage -- Converge – make yourself more impt, more leverage
Procure – RFPs
Manage – outside counsel guidelines
Some success – but not real success
Not real fun for clients
Not sustainable for law firms
And it led to…

14. “I bargained for really low hourly rates…
“I bargained for really low hourly rates…. Why are my bills still so high…!?”
New devil emerged
Hours, not rates, drive bills.
A lawyer at $1000 may be far more cost effective than a lawyer at $300, if he’s more than three times slower.
Unless you manage the hours, you can meddle with the rate all you want.
Hours are driven by efficiency – why be efficient?
Plenty of reasons NOT to be:
Revenues – cynical view
Risk – real root cause.  
Law firm has risk of outcome, insurers of safe and reliable results. 
Not in our nature to cut corners or do “good enough” research –
Talk more in a minute, but solution needs to take into account both incentives and disincentives
Efficiency
Risk

15. QUICK QUIZ Q: When is a flat fee really not a value-based fee?
A: When it is calculated based exclusively on predicted SVOT.
3rd generation – “fake” flat fees.
estimate hours, multiply by rate, add cushion, and voila!
no connection to goals, to value
no risk taking
no incentive to find a new way to provide service

16. Why?

17. Leads Change in the Turns
Source: 2017 Report on the State of the Legal Market
Thomson Reuters and Georgetown Center for the Study of the Legal Profession
January 2017

18. Source: Altman Weil Law Firms in Transition, 2017

19. 58% of firms find VBFs at least as profitable as hourly fees
Source: Altman Weil Law Firms in Transition, 2017

20. Firms that proactively embrace VBFs seem to fare better than those who react

21. % of law departments that used AFAs
A tipping point?
77%
~15%
Estimated share of AFA spending
% of law departments that used AFAs
Source: HBR Consulting
2016 Law Department Survey

22. “Microsoft wants 90 percent of the legal work performed by its outside firms to be compensated under alternative fee agreements.”
Source: 8/9/17

23. It isn't hard to see GSK and Microsoft as just the tip of the spear, and to foresee a time when AFAs are the norm, rather than the exception. Change won't come overnight—this is the legal industry after all. But it does now seem inevitable. Smart firms will embrace it and lead from the front. Stragglers may find they are left behind.
Source: 8/11/17

24. Alignment of Firm and Client Interests
A means to a means to some really good ends.
VBB requires…
identification and
alignment of interests...
A Better Way… not just to get spend down…that is benefit, for sure, but not only one and not most immediate.

25. Alignment of interests leads to…
Results that match true goals  better results
Incentives to increase efficiency & improve processes  sustainable reduction in spend
Risk-sharing
Improved relationship
Reduced stress
Better-directed management time
Increased/deeper partnership
Better results means results that reflect all company’s particular goals that can be addressed with the matter.
Not just “win”. Or “lose less”. Business objectives, legal dept objectives…
Will see reduction in spend – will be sustainable, and without impact on quality
Risk sharing is benefit standing along – control, predictability, etc.
Nirvana == strategic partnership: got your back; worrying about your worries. Not focused in selling more paperclips

26. For Clients All of the above…and Business need for cost predictability
Clients can handle risk-taking but they hate surprises
“More with less”  pressure for better value and lower cost
Most clients are happy to pay for truly exceptional outcomes
Alignment of compensation with business objectives helps to ensure that we’re on the same page
VBB helps to build long-term, high-trust relationships

27. How does risk impact efficiency?
Where does risk fit?
Budget risk
Outcome risk
Two devils in old model – inefficiency and risk.
They are related – if you bear all the risk, finding efficiency harder.
What are the aspects of risk in any legal matter?
Outcome risk: failed, got wrong result (including hit to reputation, etc.)
Cost risk: spent too much
How does risk impact efficiency?

28. 1. Lawyers hate risk. And things they can’t control.
Trained in law school to be scrupulously thorough and precise, consider all possibilities, have an answer to every question. Hired by clients to “protect their interests”. Knights in armor.

29. 2. Successful business requires risk-taking.
Joe – comment on 3M.
Law firms have been innoculated from economic risk taking for a long time

30. New World Risk Judo Use risk-sharing to achieve alignment
Conscious and explicit outcome and cost risk allocation
Identify risks
Who defines?
Identify options
Make choices and allocate risks.
Then price accordingly
Commit to stand by the risk allocation you’ve agreed (both sides)

31. [Why] is “why” still a question?
It ain’t broke.
Don’t mess with success…2d guessing…support from “The Top”?
We here at [x] don’t do VBB.
My law firm hates it/never raises it/won’t do it.
How to define success…don’t really know my costs (allocations)…no “should cost” data…?
Bad first-date experiences*
Lack of training or tools (models, templates, how-to’s)
No confidence
No time
Quick list

32. [Why] is “why” still a question?
“VBB may be fine for commodity work, but my matter is too…
…unpredictable
…complicated
…important and risky
…unique.”

33. Barriers inside lawfirms
Politics
(and other complexities)
Info
Motivation
Resources
Process
Info – basic lack of information about what VBBS are and what is possible
Motivation – lack of urgent need; complacency; clients who are happy w a discount
Resources – support personnel, modeling tools, training
Process – approvals, etc.
Partners and politics –
Firms are in business to make profit; partners then divide that profit; partners have compensation systems for doing that which historically reward certain behavior
Key aspect of VBB is that profit margin is no longer guaranteed; will vary.
How to measure?
Can you measure? How to allocate cost? Who bears training costs?
Over what time frame? Over what matters? Over clients? Does practice group take responsibility?
Who wins and loses if profitability is rewarded vs revenue? Is $10 million at low margin as valuable as $1 million at high margin? If low profit work takes up capacity should it be encouraged?
What is firm’s approach to investment – how much risk, over what time measure results? Who gets to decide?
What is vision of firm leadership for all of this?

34. Top 4 Reasons for Consistently Unprofitable Flat Fees
1. Staffing
2. Staffing
3. Staffing
4. Staffing

35. 70% alter fees but not staffing!
Source: Altman Weil Law Firms in Transition, 2017

36. Top 4 Reasons for Consistently Unprofitable Flat Fees
Doing it the Same Old Way.
Staffing
Expectations (efficiency vs. billable hours)
Training
Clients Who Like the Same Old Way.
Define role of each team member.
Be explicit about what you are not going to do.
Ignoring Your Cost Structure.
Hookups.

37. (And how can we work better together?)

38. Business Agreements, Not Alchemy
Joe

39. (and real world examples)
VBB Structures
(and real world examples)
Begin by 8:30

40. 1. Flat Fees For time period (e.g., month)* For scope (phase**)
For life of matter
For portfolio of like matters (over time; for LOM)
For broader portfolio***
Beware time-based – does not incent speed
Beware phases that may overlap, or expand/contract
Broader can be everything

41. How Do You Get to the “Right” Flat Fee?
Historical hourly rate data
Specific task-based fee build-up
Historical case volume
Litigation risk portfolio
Demand cost savings as product of law firm experience and efficiencies
“Success” fee component - creative measures of success
Buyer’s market – don’t be reluctant to demand better value
Law firm profits are driven by efficiency and project management
Reference similar matters or similar phases, or
Create a market with quick-hit RFPs. Bodhala, Banyan, Ariba

42. 2. Budgets+Collars (aka flat fees with training wheels)
If SVOT is $85, $115,000 = no adjustment
If SVOT < $85,000, law firm refunds 75% of $ between SVOT and $85,000
If SVOT > $115,000, client pays 75% of the $ between $115,000 and SVOT

43. Budget+Collars
Why: Material variances in expected fee are not always product of inefficiencies, but often can be product of truly unexpected tasks. Pro: Some risk, some protection
If work within expected zone, efficiencies rewarded; inefficiencies penalized
Windfalls and disasters avoided
Con: Requires shadow billing
What is law firm’s incentive? What will next fee be?
Removes some major bonuses of VBB (no hourly bills to prepare and review! No unexpected bills!)

44. Budget + Collar Example
Annual Fee for Litigation Claims Work: Target Budget of $5M for one year
Based on two-year history of hourly billing and projected work.
The budget fee is $5M unless the tracking fees at the client’s rates are less than 90% of $5M ($4.5M) or exceed 110% of $5M ($5.5M)
75% of savings below 90% returned to client; overruns above the 110% level paid by client at 75% of client’s rates
Example 1 Savings Scenario: SVOT-based fees are $4.0M. Firm returns to client $375,000.
Example 2 Overrun Scenario: SVOT-based fees are $6.0M. Client pays firm a total of $5.125 million (half of overrun above collar)

45. 3. Performance Holdbacks
Client or OC holds funds in reserve to grade law firm’s performance
Only partially a success-based payment (or not at all)
Explicitly linked to client satisfaction with OC’s overall performance, e.g.,
Final resolution of case
Accuracy of budget
Achievement of case objectives on time/under budget
Communications performance
Right staffing performance – right level; right team; compliance with client goals (e.g., diversity; development of vertical client team)
Value added services – CLEs; pro-active risk and cost reduction opportunities

46. Holdback Example
Flat fee for all pre-trial proceedings of $2.4M, to be paid at monthly rate of $100,000 over 24 months. $25,000 of each monthly fee retained by client as “holdback.” If case resolved by settlement before trial, law firm paid multiples of the holdback balance, based on certain established targets.
Flat fee deal with client provided for payment of 90% of agreed fees for 12 month period for class action case, with 10% holdback payable based solely in client’s discretion.
These VBB arrangements can be used for plaintiff or defendant.

47. 4. Flat fees with success awards
Identify multiple victories, large and small, possible throughout life of matter
Not all are case-ending, e.g.,
Desired schedule/date for closing or resolution
Discovery limit (e.g., no APEX dep)
Reduction in damages claimed
Reward counsel for achieving victories
Reduce upside on flat fee
Flat fee alone vs. flat fee with victories

48. Flat Fee plus Success Example
Antitrust defense:
Flat fee of $X for MTD
Set at 50% of average price
Plus success fee of additional $X + 10% of 2X if MTD wins
Results in premium of 110% of average price
Flat fee of $Y for SJ
Plus success fee of $Y plus 30% of 2Y if SJ wins
Results in premium of 130% of average price, less loss at MTD phase

49. 5. Contingent Fees Explicitly links OC compensation to outcome
Full contingent fee or reduced flat fee coupled with contingent fee
May include total cap on recovery varying at stage of “success”
Can be used as “reverse” contingency for defense work
Ultimate “value” based fee
Companies in a strong financial position generally not interested in pure contingency fees as a plaintiff – goal of VBB is to drive efficiency, not to shift upside value of recovery.

50. What are the limitations on your ability to implement VBBs?
Why Not?
What are the limitations on your ability to implement VBBs?

51. 5 minutes for questions