The Client Revolution

Hourly billing: the end of the beginning

Over the past day and a half, I've gotten bunches of emails and tweets all asking the same questions: Had I read the Wall Street Journal story? What about the Corporate Counsel piece? Is the billable hour really dead? What do you have to say?

Here's what I have to say:

Come on in. The water's fine. What took you so long?

(Our firm, Shepherd Law Group, completely abandoned hourly billing nearly three years ago. We haven't billed — or even tracked — a single hour since 2006.)

In fact, the billable hour isn't dead (yet), but you're forgiven if you thought this had happened based on what you read Monday. Quick recap: The front page of The Wall Street Journal had a story called "'Billable Hour' Under Attack" (subscription possibly required). The story was written by Nathan Koppel and Ashby Jones, who wonderfully cover the Journal's legal beat. It's a great piece (although I have no idea why "billable hour" is in quotes in the headline). They report on the efforts of companies like Pfizer, Cisco Systems, and American Express to rein in legal spending by moving work away from hourly billing and into fixed-price arrangements. They write:

The companies are ditching the hourly structure — which critics complain offers law firms an incentive to rack up bigger bills — in favor of flat-fee contracts. One survey found an increase of more than 50% this year in corporate spending on alternatives to the traditional hourly-fee model.

Make sure you also watch the video sidebar with an interview of Amy Schulman, Pfizer's general counsel (it's about three minutes):

Also Monday, Corporate Counsel magazine ran a piece called "Two Veteran Lawyers Say Now Is the Time for Fixed Fees." WilmerHale lawyers William Lee and Benjamin Heineman wrote it (I hope they didn't suggest the title). In it, the veteran lawyers decry the billable hour and trumpet the benefits of fixed prices:

For in-house counsel facing tremendous budgetary pressures, the fixed fee addresses the problems caused by the hourly rate, such as unpredictability, high costs divorced from actual value and, most importantly, the maddening law firm definition of "productivity" — defined as more lawyers and more hours per matter.

Both articles are steps forward in the war on the legacy systems and guild mentality entrenched in most law firms and reflected in the billable-hour business model. But don't think for a moment that this is the end of the billable hour, or even the beginning of the end. But it is — to paraphrase Churchill — perhaps, the end of the beginning.

As I've often said, the issue is not about invoicing methods. It's much deeper than that. We're talking about changing the dominant business model of an entire industry, and that's not going to be done with a couple of articles. In fact, these two articles show how far we have to go.

Let me explain: There are three basic concepts that are at the root of misunderstanding about how the law-firm model works. They are cost, profit, and price.

• Cost. No customer anywhere gives a flying something through a rolling doughnut what a law firm's costs are. That's the firm's problem. Think about it: have you ever gone to a store to buy something and wondered about the retailer's costs? Of course not. Yet when you read the veteran lawyers' article in Corporate Counsel, costs are about the only thing they talk about. Clients don't care about whether you can reduce your costs, boys.
• Profit. Profit is what's left for a firm after you subtract cost from revenue. A customer shouldn't really care about your profits, other than having a vague understanding that a vendor needs to make profits (eventually) to justify being in business in the first place. Beyond that, though, the customer doesn't care. In fact, there's no earthly reason why the customer should even know what your profits are. It might be different if you were publicly traded, but no American law firms are. It's ironic that large law firms voluntarily self-report their profits (and more importantly, their profits per partner) and then have clients complain about the firms' profit margins. When you listen to the Journal's video of Pfizer's Schulman, notice how many times she refers disparagingly to law firms' profit margins. ("You're going to have to get used to making less money.")
  


• Price. And what is price? Get ready to write this down: Price is simply the measurement of something's value to a customer. It's as simple as that. It has nothing to do with profit. It has nothing to do with cost. The price of anything is the value that thing has to a particular customer at a particular time. Anyone who tells you otherwise needs to go audit Economics 101 at the local community college.

Nearly all law firms practice cost-led (or more accurately, cost-plus) pricing. In other words, they base their prices on their costs. WilmerHale does. Pfizer's "legal alliance" firms do. All these firms track their lawyers time on timesheets, and base their associates' performance and pay at least partly on hours billed.

Read what the Wilmer veterans have to say about cost:

As in all business, a total price for a matter or a book of business is built up from costs (and, at times, also derived from the significance of the matter). One of the most important issues in setting fixed fees is distinguishing between a law firm's actual costs (which firms see), and the actual costs, plus profit margins for the partners (which is what clients see in a firm's bills). A second, related problem is that the history of costs to the company may be an imperfect guide. Past bills are an aggregation of hourly rates (plus out-of-pocket costs), which may reflect inefficiencies.

Huh? No, fellas. The price depends on only one thing: the amount the customer will pay at that time. You can prattle on all you want about costs and budgets and efficiencies and inefficiencies, but it doesn't matter a whit. It's up to you to set a price that is less than or equal to the value the client places on your service. If you do, you'll be hired for the job. If the value to the client is high enough, you should be able to charge enough so that your revenue exceeds your costs, giving you a profit. But don't expect your client to care about your costs or your profits — that's not their job.

Both articles talk more about controlling costs and lowering law firms' profit margins. They don't talk about increasing value to the client. To really change the system, value — not costs — must lead pricing. Then firms won't have any use for timesheets.

As I said, it's the end of the beginning. But there's a long way to go.

Glengarry Glen Ross, LLP?

My brother Bill Shepherd is a world-class salesperson. Literally. He has sold many millions of dollars of services and products all over the world. (Fans of our sister blog, Gruntled Employees, will remember Bill from "Of sticker shock and empathy," which describes his near-death experience — my wedding).

Bill and I often talk about business — at least when we're not talking about the Red Sox. He often has terrific ideas on how I can further grow my law firm's business. Many of them are about running the firm more like a business than like a law firm — which is something I've consistently tried to do over the past eleven years.

One of his suggestions was to do what most businesses do to stimulate sales: hire salespeople. That's an idea that makes a lot of sense. But there's a major problem. Salespeople are generally paid on a commission basis. Rule 5.4 ("Professional Independence of a Lawyer") of the Model Rules of Professional Conduct (which govern the conduct of lawyers in almost every state) mandates that

A lawyer or law firm shall not share legal fees with a nonlawyer ….

(There are four exceptions, which aren't relevant to our discussion; they have to do with dead lawyers and things — call Haley Joel Osment). Bottom line: you can't pay commissions to nonlawyer salespeople. So that idea's a bust.

Or is it?

If you can't pay commissions to nonlawyer salespeople, what about paying commissions to lawyer salespeople? Saleslawyers, if you will. (You would never call them that, of course. They would be business-development attorneys, or something.)

As our friends over at the incredibly well-written, popular, and snarky blawg Above the Law have chronicled, it has been a tough year for associates at large law firms. (See their joint project with Law Shucks: the Layoff Tracker.) There have been more than 5,000 associates laid off by major US law firms since the beginning of last year.

What percentage of the 5,000 laid-off associates would have the aptitude and desire to be commissioned saleslawyers? They would still be lawyers, of course. But their focus would be on selling their firms' services to prospective clients. They would get valuable experience interacting with clients and learning about their firms' practices, but they wouldn't have to worry about billable-hour requirements and office memoranda. And if they were good at their jobs, they could make a bunch of money.

What do you think? Too Willie Loman? Too Alec Baldwin in Glengarry Glen Ross — "Always Be Closing"? (Warning: Alec Baldwin had a NSFW vocabulary even back then.) Too unlawyerly?

I particularly want to hear from associates, especially laid-off ones. Could you see yourself working as a business-development attorney? Put your thoughts in the comments below, or reach out to me with an @reply or DM on twitter at @jayshep.

• • •

By the way, just how popular is Above the Law? Well, last Thursday, ATL ran a seven-word blurb in its daily "Non sequiturs" post that included a link to this blog. Those seven words plus a link caused Client Revolution traffic over the next two days to increase by 2,300 percent. Yowza. Thanks, guys!

Free your mind, the cash will follow

During our family vacation last month, I was sitting on the beach talking about my blogs with my mother-in-law. (I mean, doesn't everybody do that?) Lily is pretty sophisticated about the world of tech; she was the first person I met who had starting using The Google back in the day. But she was concerned about my blogging.

Specifically, she was worried that I was giving all this (theoretically) valuable information and advice to you fine folks in the blogosphere. How do you make any money when you give away stuff for free?

A fair question, and as it turns out, the central question of Chris Anderson's fantastic new book, Free: The Future of a Radical Price. This from the book's jacket:

Now, in Free, [Anderson] makes the compelling case that in many instances businesses can profit more from giving things away than they can by charging for them. Far more than a promotional gimmick, Free is a business strategy that may well be essential to a company's survival.

Obviously, technology features heavily in the book. Google is the poster child of the Free Economy. Think about all the Google goodies you use in a day: Gmail, Google Docs, Google Maps, Google Reader, and The Google itself. Now think about how much money you spend on these products and services. That's right: nothing.

Yet Google took in $22 billion in 2008, of which $13 billion was profit — a 60 percent profit margin. That's some pretty good cash for a company that gives away so much for free.

But don't think that the whole premise is based on the Google model, which gets its money from all the advertising it sells. (Google is an advertising company, not a search company.) Other examples abound: Anderson talks about free CDs, free silverware, and almost-free air travel (on Ryanair). The secret (hugely oversimplified here) is to give away something for free (bags fly free on Southwest; the Genius Bar at Apple Stores) to increase customer demand, then find a way to charge for the things (plane tickets, iPhones) around the free thing.

And giving things away doesn't necessarily mean making less money on the free thing. Moby released a new album, Wait for me, and decided to give away a track for free. He wrote in an email (not to me):

But here’s something funny: the best selling itunes track is ’shot in the back of the head’. Why is that funny? Because its the track we’ve been giving away for free for the last 2 months and that we’re still giving away for free. Odd.

Not odd if you read this book. And you should.

Lawyers: what can you give away for free to help increase your business?

Buy Free here. Or read some of it for free on (ironically) Google Books.

Are your associates working?

When I talk to other lawyers about our law firm's business model, their reactions range from envious to incredulous. No, we haven't billed an hour since 2006, I tell them. OK, fine, they say. But don't you internally (they sometimes say "secretly") keep track of your associates' hours?

No, I tell them.

Then comes the look on their faces like I'm an idiot or a rube or a naif. Often they wait a moment to see if I wink or otherwise let them know that I'm joking. Once they see that I'm serious, they almost always ask this question:

"Then how do you know if your associates are working?"

I lean in, like I'm going to let them in on my secret formula.

"By managing them."

This is the point where they usually wander off, muttering and shaking their heads.

Seeing a timesheet with a figure like 8.4 hours on it at the end of the day doesn't tell me that an associate has been working. And it certainly doesn't tell me anything about their work. What law firms have done over the past three generations is replace the need to manage associates with an overly simple reliance on hours billed.

A law-firm partner — a manager — has to do more than look at a number on a timesheet to actually manage his or her associates. The partner has to know what the associate is working on, and how it's going, and if he or she needs any guidance. A number on a sheet doesn't tell you this.

If you want to know whether your associates are working, you have to manage them. A timesheet can't manage anything.

Price cuts?

We recently covered JetBlue's dramatic new All-You-Can-Jet pricing program (see "JetBlue and alternative billing"). It struck me that if an airline can offer unlimited flights (for a month) for a fixed price, then companies in other industries — including law firms — could do something similar. Well, just the other day, my wife and I were walking down Boston's tony Newbury Street when we saw this sign:

$495 per year unlimited haircuts. Includes: Haircut • Scalp Massaging Shampoo Conditioning Treatment • Shoeshine & Beverage plus 10% off all services

The company providing the service is called Barbershop Lounge. (Warning: when you go to the website, some mildly annoying Euro-technopop starts playing. Why do web designers do this?) The company pitches itself as a high-end men's salon, and it has done a nice job of getting some press. (See this Forbes article.)

Here's what I like about this from a marketing point of view. The fixed price tells me that I'm going to pay this much and no more, no matter how many haircuts I need to get in the next year. The sign spells out all the things I get in this deal:

• The haircut. OK, well that's sort of a table stake.
• Scalp massaging shampoo. (I would have used a hyphen after "scalp.") Most places are going to wash your hair before cutting, because it makes it easier to cut. Scalp massaging sounds nicer, although it kind of has to happen anyway. How else do you get the shampoo into the hair?
• Conditioning treatment. I think that's just a fancy way of saying "conditioner." But kudos for that.
• Shoeshine & beverage. OK, that's something new. But I'd pay $5 for a shoeshine and another dollar or two for a soda, so I'm happy.
• 10% off all other services. That's where the real genius comes in. Get people to come in for the (relatively) inexpensive haircut. Make the real money by cross-selling higher-value services. Brilliant.

Most companies are too afraid to make an offering like this. As I mentioned in the JetBlue post, they worry that someone might take advantage of them. "What if someone comes in every day and gets a haircut? That's 260 haircuts [they're open five days a week], at an average price of $1.90 a cut. How can we make a profit on that?"

Again, dumb question. Most people won't get a haircut a day. A few may get more haircuts in the course of the year than usual, but many others will end up getting fewer. Rather then focusing on the average price per cut, the company should be looking at the total value of the client relationship. Barbershop Lounge obviously is.

Lawyers: are you going to admit that a barbershop is more sophisticated in its pricing than a law firm? How would you do something like this in your firm? Or would you? Share your thoughts in the comments.

In the meantime, don't be afraid to take a little off the top.

JetBlue and alternative billing

One of the things that scares law firms the most about fixed pricing is the fear that clients will "take advantage" of them. That clients will use their services more than anticipated, driving up their costs (and cutting into their all-important, initial-capital-letters Profits Per Partner). "We can't charge them a fixed fee," they whinge. "We don't know how often they'll call. We don't know what the costs will be."

These concerns haven't stopped JetBlue Airways from doing what most law firms are ascared of. JetBlue announced that it is offering unlimited flights for a month for a fixed fee of $599. (See their press release.) The month runs from September 8 to October 8 — there are no blackout dates — and covers flights to all 57 JetBlue cities. (Sign up here.)

Now let's play law-firm lawyer: "But what if someone takes advantage of JetBlue and flies twice a day, every day during that month? That's 60 flights for $600? How can JetBlue make a profit on ten-dollar flights?"

Dumb question. First of all, no one's going to do that. Or at least not enough people to make a difference. (Maybe one guy, hoping to get on the "Today Show.") Who the heck wants to fly that much, even on a comfy JetBlue plane with individual TV screens? To be sure, some people will take an unusually high number of flights, lowering JetBlue's average revenue per flight for those passengers. But it's just as likely that some people will take only one flight (or even none), increasing the average revenue per flight. And even if it doesn't come out even, it's a safe bet that JetBlue will attract enough new customers to make up the difference — and some of them will become raving fans of JetBlue. And they'll tell their friends and relatives. (Or get on the "Today Show," attracting more publicity and more passengers.)

Keep in mind: airlines are among the most sophisticated of companies in terms of pricing. It is not random that the guy sitting next to you paid twice as much you did for the same flight. They know what they're doing.

How many law firms would admit to being less sophisticated than an airline? Probably not many.

We applaud JetBlue's fixed-pricing move, and hope that they give it a chance to succeed and make it a more-permanent option. (We also applaud their correct hyphenation of "All-You-Can-Jet Pass.")

Lawyers: how would you implement a legal version of the All-You-Can-Jet Pass? Drop your ideas in the comments. Happy Jetting!

It's not about invoices. It's about risk

When people talk about hourly billing and (gak!) alternative billing (I loathe that term), they often think that the subject is "different methods of invoicing." And really, when it gets right down to it, who cares about invoices? I mean, it's not a fundamentally interesting topic. Most people think that lawyers and law firms exist to rip them off. A client worrying about a firm's accounting method is like a nonswimmer on a sinking ship worrying about whether the water is cold.

But it's not about invoicing at all.

It's about risk.

Clients hire lawyers and law firms to help them deal with risk. They hire a trusts-and-estates lawyer to reduce the risk of their assets not going where they want after they die. They hire a securities lawyer to reduce the risk of getting in a jam with the SEC. They hire an employment lawyer to reduce the risk of an expensive employee lawsuit disrupting their workplace.

A client hires a good lawyer to reduce risk.

But most lawyers actually create more risk for their clients by billing hourly. Billing by the hour means that the client has no control over how much the job is going to cost. No control, and no certainty. In other words, more risk for the client (and no risk for the law firm).

But fixed pricing lowers the client's risk, by giving the client certainty in the cost. And the law firm can lower the client's risk even more by sharing it with the client, using a holdback (where part of the fee is held back unless the law firm succeeds) or a success bonus.

The bottom line is that clients want you to reduce their risk, not increase it. That's what they care about.

Not invoicing methods.

Whose price is it anyway?

Think about it: Have you ever gone into a shopping mall and found a storekeeper asking you what something was worth?

"I'll take this one," you say. "What do I owe you?"

"I don't really know, sir. There are a lot of variables. What do you think? How do you think we should price this?"

Absurd, right?

Yet in my many conversations about fixed-price lawyering and law-firm value, one question keeps coming up: Who should lead the way to fixing the broken system?

Law-firm lawyers say that change has to be initiated by the clients themselves, by in-house counsel. Tell us what you want, the firms plead. Tell us how you want us to bill you, and then we'll do it look into it. If you don't give us guidance, we'll just have to stick with hourly billing. It's what we're all used to anyway.

And these comments are usually met with bemused silence from the in-house counsel.

On the other hand, the clients are looking for the law firms to lead. We're not here to tell you how to run your business, they say. Make us an offer, and we'll consider it. But you need to go first.

And these comments are usually met with bemused silence from the outside lawyers.

The 25,000-member-strong Association of Corporate Counsel has taken a leadership role in the discussion, issuing its ambitious "Value Challenge" to the law firms who serve its in-house members. It's a good start, and they're doing a terrific job educating their members about what they can do to increase the value of their outside legal work.

But in the end, it has to be the law firms who must lead the change away from the legacy systems and guild mentality to a partnership based on trust and effectiveness.

I want to hear from you, law-firm lawyers and law-firm clients: Who do you think needs to make the first move? Who should propose a new model? Leave your thoughts in the comments, or send me an @message or direct message on Twitter: @jayshep. (Make sure you tell me which side you work on, firms or clients.)

And while you're at it, take this quick, single-question poll.

A one-question test for your law firm

To figure out how good your lawyer is, give him or her the following test. It only has a single question, so it will only take about three seconds to administer. On the other hand, it will take considerably longer to answer. And it should.

Here it is:

Question One How much will this cost?

That’s it. Five words only, but it’s the whole ballgame. If your lawyer can’t correctly answer it, then you’ve got the wrong lawyer.

Now for the Teacher’s Guide:

• Every case, every matter, every job will have a different answer.
• The answer your lawyer gives you won’t necessarily be the same as the answer he or she gives another client.
• “It depends” is not an acceptable answer. Neither is “Well, there are variables ....”

One of the commonest complaints I hear from CFOs and general counsels is that law firms pitching their wares always talk about how good they are and how experienced they are. Unlike other vendors, they never talk about how they’re going to save the company money. That’s because the law-firm business model doesn’t provide a means for doing that. In the billable-hour system, costs are passed on to the client, meaning that there is no incentive to reduce them. Meaning that they won’t.

A fixed price avoids that problem, and requires the law firm to be efficient. But a fixed price also requires the law firm to know and understand the value of its services, something it can only do well if it really knows its business.

Many lawyers have insisted to me that you can’t put a fixed price on litigation. There are variables, they whinge. We can’t control the costs. What if the other side hits us with a bunch of discovery? What then?

What then indeed.

If your law firm knows its business well, then it should know the value of the service it provides. Hiding behind a fear of variable costs is an admission that you don’t really know your business. An airline doesn’t say “there are variables” when charging you for your ticket. And yet headwinds, storms, airport congestion, and overtime can dramatically increase the airline’s cost of a particular flight. But your ticket price won’t change after they sell it to you.

The Red Sox won’t say “there are variables” when selling you a ticket for tonight’s Yankees game. Yet Sox-Yankees games tend to be much longer than other games; plus it’s raining lightly with more weather expected. A longer game, especially one with rain delays, means increased costs for the Red Sox in wages, overtime, electricity costs, and so on. But your ticket price won’t change after they sell it to you.

The Red Sox know their business. The airline knows its business.

Does your law firm? Give it the one-question test.

Lexis, coffee filters, and associates: law firms' overhead

My law firm pays the same amount for LexisNexis online research every month. For a fixed price, we get unlimited access to the caselaw and statutes that we use in our practice. Now don’t get me started on the absurdity of paying money for free, public-domain, governmental content; that’s a topic for a different post. Instead, let’s talk about how we handle this expense.

Unlike many firms, we don’t pass this cost along to our clients. For one thing, it’s impractical to do so. Who wants to bother with dividing up the total monthly nut for all our Lexis research and then apportioning it by client? What if we reuse research originally done for one client in another client’s case? Who pays?

Who cares?

Online research is overhead. It’s the cost of doing business as a modern law firm. We don’t apportion our rent, insurance, taxes, coffee, or legal pads (actually, who even uses legal-sized legal pads anymore — it’s an eight-and-a-half-by-eleven world, kids). Yes, it’s possible that in a month where we do a ton of research for one massive case and an unusually small amount of research for all our other cases, it could seem fair and appropriate to have the research-heavy client bear the expense of the legal research. But why would we? Again: I’m not going to have that client pay its “fair share” of rent for that month. So why is online research different?

It’s not as if my online-research expenses go up as a result of this heavier usage. As I mentioned, I negotiated a fixed fee with LexisNexis. (And your firm should, too, unless you’re too ill informed to understand the value of your monthly legal research. In which case, get better informed.) If I do a ton more research in June than in May, my expense isn’t going to go up. So why should I bother to “pass along” (or worse, pass along and mark up) these costs to the client. Overhead is overhead.

My costs are my costs. They don’t change much month to month. I pay our rent, payroll, insurance, taxes, fees, supply costs, and so forth every month, and it comes out about the same each time. This is the cost of doing business, and as long as we can bring in enough revenue to cover it, then we’ll remain in business.

Which brings me to associates and their time.

Why do law firms feel the need to “pass along” the cost of the associates? How are associates any different from LexisNexis or coffee filters or photocopy toner? Most law firms pay their associates an annual salary, divided up into monthly, semimonthly, or biweekly pay periods. As with LexisNexis, insurance, and coffee filters, the firm knows what its monthly payroll nut is going to be. Whether they work harder or less hard, for one client or fifteen clients, the associates’ pay isn’t going to change from month to month. The law firm’s cost isn’t going to change either. So why feel the need to apportion this cost to clients?

Associates are overhead. Just like coffee filters.

(Partners are too, but that gets more complicated. Let’s stick with associates for now. And coffee filters.)

Law firms don’t apportion and pass along their rent, insurance, taxes, coffee-filter expenses, or fancy-artwork costs to clients. Why not? Because it’s all overhead, and clients wouldn’t tolerate it. Send a client a bill for some portion of your month’s rent and see what kind of reaction you get. You’ll have clients marching in with rulers and floor plans to make sure they’re not getting ripped off. (That’s not actually true; the clients would simply fire you.)

So why do they tolerate it with associates’ time? Habit. And a sense that they have no other choice.

Now folks at other law firms will whine that they need to know how profitable an associate’s work is, and how profitable a particular matter or client is. Without tracking and billing for time, they can’t possibly tell.

Nonsense. Take an accounting class. Profit is revenue minus expenses. The question is whether the firm is profitable, not whether an associate or a client is profitable. The relevant question for a client is whether you’re delivering enough value to the client to justify the best price they would pay. The relevant question for an associate is whether he or she does good work for your clients.

The whining continues: But if we don’t track associates’ time, how do we know if they’re working?

After your accounting class, take a management class. You know by managing your associates.

Bottom line: Overhead is overhead. Clients don’t want to pay for overhead.

They want to pay for value.

The only three ways to lower outside legal spending

There are three ways — and only three — to reduce your company's spending on outside law firms. Two will seem fairly obvious, and they are the most common methods used today by far. They are also fraught with problems: some obvious, some less so. The third way avoids these problems, but it is hard to find law firms who will offer it.

Here they are:

1. Use less. This might sound flippant at first, but it's not meant to be (for once). A company can reduce its spending on outside law firms by choosing to use them less. For some matters, this is doable. For example, certain tasks usually handled by outside counsel can be reassigned to in-house lawyers. But many matters require the specialization that is easier to get from outside law firms. Unless a company has a large law department, it's hard to have the handful of in-house counsel specialize in the many areas that a company might need help in. And oftentimes, especially with litigation, using outside counsel just can't be helped.

   Now think about this for a moment: Why does in-house counsel tend to cost less? Because in-house lawyers aren't paid hourly — they're paid an annual salary. They have no financial incentive to take longer to complete a job; instead, they have a built-in incentive to be efficient. Fixed costs lead to efficiency, and efficiency saves money. If you don't believe it, answer one question: Do you track your inside lawyers' hours? I didn't think so.

2. Use lower-quality counsel. Once again, sounds flippant; isn't meant to be. Just as you can spend less money on a car by buying a Dodge Avenger instead of a Lexus ES 350, so too a company can spend less by hiring lesser outside law firms. Both the Dodge and the Lexus will get you where you need to go. Do you really need the best law firm for every matter?

   Granted, your overall cost of ownership might actually end up being higher with the cheaper car. Lower fuel efficiency, less reliability, more time in the shop. Usually, whether it's cars or lawyers, you get what you pay for.

3. Used fixed-price lawyers. This is the much-less-common option. But it has the benefit of lowering your costs without lowering the quality or forcing you to make do with less than you need. Why? Because fixed-price lawyers have a financial incentive to be efficient. Unlike hourly billing lawyers, they don't get paid more money for taking longer to solve your problems. What is more, fixed-price law firms can staff your cases without regard to billing requirements and billing-rate structures. If having four lawyers working on your case at a crucial point will lead to a better, faster result, then the fixed-price law firm will do that. At a fixed-price law firm, the "cost" of the extra lawyers is irrelevant.

   "Wait!" you cry. "What about forcing our law firms to give us discounts?"

   Discounts, schmiscounts. See "Legal advice: 30% off! (Why discounts don't always save you money)" for an explanation on why discounts are just a whitewashed version of Door No. 2.

   To be sure, a law firm only gets the true efficiency bump from fixed pricing when its entire business model is based on fixed pricing. An hourly billing firm can always give you a fixed price for a particular job, but if they still pay their associates and staff their cases based on billable hours, the economic efficiencies of fixed pricing won't come into play.

Now I'm not claiming that all fixed-price lawyers are high quality. There are better fixed-price lawyers and worse fixed-price lawyers, just as there are better hourly lawyers and worse hourly lawyers. The pricing structure alone is not a measure of quality. But what I am saying is that a high-quality fixed-price lawyer will save you money over a high-quality billable-hour lawyer. Often between 20 and 30 percent.

So if you want to lower your outside-counsel spending, you have three choices, and only three choices: lower usage, lower quality, or fixed pricing.

Choose wisely.

Top ten Twitterers for innovative lawyers

There's no denying that Twitter has gone from a mere internet fad with a quirky name to a legitimate innovation in today's business world. There are more than six million users, and more than a few of them are lawyers. And within this group of twittering lawyers, there are a bunch of lawyers and friends of lawyers (yes, such an animal exists) who are committed to innovation. If you have a free Twitter account and have any interest in innovative lawyering, you could do worse than to follow them (that is, read their tweets). To help get you started, I've come up with a top ten list.

Here they are with their Twitter handles (plus real names if they're different) and Twitter bios. The order is arbitrary, but you really can't do a top ten without numbers. Just click on their links to follow them. They will help you innovate.

1. @kevinokeefe Lawyer, dad to 5, husband to saint, Cubs-Packer fan. CEO of LexBlog, provider of professional blogs to law firms & operator of LexTweet & LexMonitor.


2. @matthomann Legal Thinker. Innovational Speaker. Creative Facilitator. Dad.


3. @lancegodard International legal business development and marketing consultant. I help law firms grow and prosper.


4. @nikiblack Legal technology consultant (www.lawtechtalk.com) & crim. def. attorney trying to drag the legal profession into the 21st Century while enjoying good food & wine.


5. @riskin (Gerry Riskin) Lawyer/Consultant, http://www.gerryriskin.com/cat-about-gerry.html


6. @carolynelefant Practicing lawyer, marine renewables expert, avid blogger, Solo by Choice author, CEO (MyShingle.com), mom.


7. @alexisneely Mom, Family Financial and Legal Expert on TV, Changing the Way Lawyers Think And You Think About Lawyers, Wrote a Book For Parents Who Care What Happens. 


8. @karasmamedia (Kara Smith) Principal & Founder Karasma Media the first Harlem based boutique specializing in social media public relations campaigns for the legal marketing industry. 


9. @bobambrogi Lawyer, writer, consultant.


10. @glambert (Greg Lambert) Law Librarian, Blogger, geeklawblog, Competitive Intelligence, Social Media, Knowledge Management (KM), Speaker.

And one up and comer: @ronaldbaker. Ron is the guru of value pricing, and the nemesis of timesheets and billable hours. He's new to Twitter. (His brand-new bio: "Quest: To bury the billable hour and timesheets. Founder of VeraSage Institute.") He's a CPA by trade, but he's forgotten more about legal innovation than any lawyer could hope to learn. Without a doubt, one of the five smartest people I've ever spoken with. 

So there's my list. I've doubtlessly left off many who should be included. Please offer up your own additions in the comments, or send me a tweet (@jayshep). I'll probably have to do another top ten list.

To learn more about Twitter and to get a free, twitterable corporate Twitter policy (that is, a Twitter policy that is exactly 140 characters long — the maximum size of a tweet), head on over to our sister site, Gruntled Employees.

[Updated 2 April 2009 to include Ron Baker's bio.]

Are café owners smarter than lawyers? (Links fixed)

This is a repost of yesterday's post, which was beset by bizarre and crazy problems. The first problem was the accent in the word café. It turns out that a Mac or an iPhone can handle this no problem. But apparently, Windows boxes and BlackBerrys ne parlent pas français bien. Hat tip to the worldly Lance Goddard, author of the fabulous Are You Writing This Down? for figuring this out.

Second, I was able to successfully (and quite easily) embed the CNN video link into the post. Unfortunately, the link doesn't work in the RSS feed of the site, which is how many of you read this.

Here then, otherwise unchanged, is yesterday's post, unaccented and with a new video link. Sorry about the mess!

Are café owners smarter than lawyers?

When it comes to understanding how their customers value their services, the answer is probably "yes."

Over the past week, I've been talking to scads of lawyers — both in-house counsel and law-firm lawyers — about how our employment-law firm killed the billable hour and switched to 100% fixed fees. The question I've been getting most often from both types of lawyers is some form of "How do you set the price?" The law-firm lawyers all worry about getting paid enough when opposing counsel run up the interrogatories and depositions, or when a client unreasonably rejects a settlement and prolongs a case. The problem, I tell them, is that they're focusing on their costs.

But clients don't care about your costs. They only care about the value that the lawyer's service has for them. That value is by definition subjective, and it can be difficult to determine. But it's the only thing that matters. If your price is more than the value the client assigns to your service, then he or she is going to take their business elsewhere. Only if your price is less than or equal to that value will the client agree to do business with you.

"But how do I make money that way?" the lawyers ask.

The answer is: by having a service that is valuable enough to allow you to earn a profit.

One café owner in Ohio has taken this to the ultimate conclusion. Sam Lippert owns the Java Street Café in Kettering, Ohio. His menus have no prices. How does he determine his prices? He asks his customers. He tells the diners to pay whatever they think their meal was worth. Does he make money? Since he switched to a pay-what-you-want system, he says his sales are up 50 to 100 percent on any given day compared to his previous menu-pricing system. Why? Because his customers obviously feel that he provides a service worth paying for. And his prices always match the customers' value — because they set the prices.

So why do lawyers find this so hard?

The John Roberts interview on CNN's "American Morning" is above. Or link to it here. A transcript is here.

Are café owners smarter than lawyers?

When it comes to understanding how their customers value their services, the answer is probably "yes."

Over the past week, I've been talking to scads of lawyers — both in-house counsel and law-firm lawyers — about how our employment-law firm killed the billable hour and switched to 100% fixed fees. The question I've been getting most often from both types of lawyers is some form of "How do you set the price?" The law-firm lawyers all worry about getting paid enough when opposing counsel run up the interrogatories and depositions, or when a client unreasonably rejects a settlement and prolongs a case. The problem, I tell them, is that they're focusing on their costs.

But clients don't care about your costs. They only care about the value that the lawyer's service has for them. That value is by definition subjective, and it can be difficult to determine. But it's the only thing that matters. If your price is more than the value the client assigns to your service, then he or she is going to take their business elsewhere. Only if your price is less than or equal to that value will the client agree to do business with you.

"But how do I make money that way?" the lawyers ask.

The answer is: by having a service that is valuable enough to allow you to earn a profit.

One café owner in Ohio has taken this to the ultimate conclusion. Sam Lippert owns the Java Street Café in Kettering, Ohio. His menus have no prices. How does he determine his prices? He asks his customers. He tells the diners to pay whatever they think their meal was worth. Does he make money? Since he switched to a pay-what-you-want system, he says his sales are up 50 to 100 percent on any given day compared to his previous menu-pricing system. Why? Because his customers obviously feel that he provides a service worth paying for. And his prices always match the customers' value — because they set the prices.

So why do lawyers find this so hard?

The John Roberts interview on CNN's "American Morning" is above. A transcript is here.

Expensive associates threatening big-firm model

In the recent past, large law firms could justify skyrocketing salaries for incoming associates by passing the costs along to their clients. But with the economy in shambles, clients are finally starting to say no. And this has put the economic model of large law firms in grave danger.

So says the Boston Business Journal's excellent Lisa van der Pool in her article, "When the dust settles: Surveying changes to the legal landscape." Writes Lisa:

Change is coming to law firms. In the wake of attorney and staff layoffs in recent weeks, the relentless call among clients to slash billing rates, and the sharpened focus on the ballooning salaries for young associates who begin their highly paid gigs with zero experience handling legal matters, change is inevitable.

Tweaks to the model will likely include smaller summer associate class sizes, flexible hourly billing rates and even lower compensation for young lawyers who are still cutting their teeth and don’t deserve their inflated first-year salaries, according to experts.

These experts then play a dirge for the large law firms' economic model. (OK, truth be told: it's me playing the dirge — but others join in.):

"The law firm model that we’ve been using is not going to keep working,” said Jay Shepherd, founder of Boston-based law firm Shepherd Law Group PC. “(The economy) is going to expedite change in the law firm model. I think without the recession, the change would have taken longer to come. We’re seeing a number of industries where the models don’t work anymore: airlines, recording studios, newspapers — and large law firms.”

While the article focuses on one of the problems — that of insane salaries for inexperienced junior associates — the real problem is more rudimentary. The legacy economic model at traditional law firms is based on cost-plus pricing. The firms charge their clients a price based on the law firms' costs plus a desired profit. Under this system, there is no incentive for the firms to lower their own costs (and by extension, their clients' fees). And this works fine (for the firms, that is), so long as the clients are willing and able to pay. But recessions have a tendency to smoke out one-sided pricing models. (For more on cost-plus pricing, see "Clients of the world, unite!")

Bottom line: High associate salaries are just a symptom of the greater problem. The big issue is not overpaid associates. Nor is it hourly billing versus "alternative billing." It's about law firms' interests being aligned with their clients' interests, which cannot happen under a cost-plus system like hourly billing.

The Revolution is coming. And the recession is speeding it up.

A corporate lawyer wonders about value billing

A top Boston corporate lawyer who's made a name for himself in the financial industry responded with a thoughtful question to something I wrote earlier. He wanted to know how value billing could work in his environment — a large-firm, corporate-transactional-work practice. To be sure, that's worlds apart from my employment-litigation-defense boutique, but that doesn't mean it can't work for him, too.

Here then is our back-and-forth discussion on the topic, starting with his question:

Here's the million-dollar question on alternative billing from where I sit: I can control everything that happens in a transaction that occurs in my firm, and price around 80% of the various structural things that can complicate a deal. I'd win some and lose some.

The wild card is the opposing lawyer: efficient and competent, or not? How much internal cost do I have to allocate to carrying both ends of the canoe, after setting my fee with the expectation of carrying one end? This seems to me to be the stumbling block for alternative billing in transactional engagements. Thoughts, law-firm revolutionary?

(I think he means me, and not without a tinge of irony.) Thoughts? Yes, many. First, you can't control everything in your firm. You don't know what rabbit trails of online research your junior associates might travel down. You can't always predict if one of your key partners will be overwhelmed with a competing project, or with the flu. Second, if you hold yourself out as an expert — as you should — then you should have enough experience to be able to price things notwithstanding your fellow canoe carrier. Third, why do we think law is any different from everything else? It's not.

Let's say you take a trip to Florida, and your flight cost you X dollars. If a headwind or a storm or congestion around Wilmington, Delaware, caused the airplane to burn up more fuel, will the airline change the price of your ticket after you land? No. Those "variables" didn't change the value to you of your flight. (If anything, the variables made your trip longer and less pleasant, lowering its value to you.) There are variables in everything. Saying "I can't price this because of the variables" is a complete cop-out.

That works for some of my clients, but not all. Clients who tend to use us deal in and deal out see the benefit of pricing in all of the variables. Clients who look separately for counsel for every deal, though, just want the lowest base price. The lawyer who sets a price that factors in all of the variables is going to get killed selling to this second kind of client because the competition will give an estimate based on a smooth execution and add on to that. Because client type 2 here usually purchases on the basis of the lowest base price, the lawyer who successfully prices in all the variables won't get any deals. I'm trying to figure out a way to use alternative billing for the second kind of client — it's much easier for the first.

The easy answer is that you really don't want Type 2 clients. Someone who comes to you for price will leave you for price. So set your price high enough to attract serious clients and weed out those Walmart shoppers.

The more-nuanced answer is that you, like 99.999% of all lawyers, are stuck in the Marxian labor-theory-of-value mindset. You believe that the value of your excellent service is based on the amount of work you have to do to provide it. The funny thing is, your clients don't believe that at all. They, like all customers, measure value subjectively: what it's worth to them at that time.

Plus, your method values all your time equally. To see why that's a problem, read these three posts: — "Billable showers," "What's my time worth?" and "Watching the time go by."

What if Google billed by the hour?

I'm currently reading Jeff Jarvis's excellent book, What Would Google Do? Jeff is one the world's leading experts on digital journalism, and his blog, BuzzMachine, is terrific. The book's even better.

It's not what you might think: it isn't a history of Larry and Sergey creating Google in a California garage, and there are no fawning descriptions of the employee cafeteria and its free-range doughnuts, or whatever. In many ways, the book is barely about Google itself. Instead, it's about how the world has changed over the past ten or eleven years, and not just in a technological sense. According to Jeff, Google represents a new way of doing business, characterized by a commitment to innovation, a different way of generating revenue, and a dedication to speed, simplicity, and constant improvement. That is why Google is the fastest-growing company in the history of the planet.

So what if Google billed by the hour?

Seems like a ridiculous question, doesn't it? Why would Google bill by the hour for organizing the world's information and letting us all search it?

Google's nothing like a law firm, is it? Let's see:

• The geniuses who work at Google are obviously knowledge workers, and highly skilled ones at that. But wouldn't most lawyers agree that they are highly skilled knowledge workers, too? And many lawyers are geniuses (or believe they are).
• Google culls answers to questions from oceans of information. Certainly any first-year lawyer at a large firm (are there any left?) spends much of her time wading through cases and statutes on LexisNexis.
• Google exists to provide answers. And that's what lawyers are expected to do.

OK. There are similarities. So how would it be different if Google billed hourly like most lawyers?

First of all, you could forget about innovation. Google famously encourages its employees — its knowledge workers — to spend 20 percent of their working time on projects that interest them. This is designed to encourage innovation, and it has led to many of Google's most important projects, such as Gmail, Google News, and AdSense.

By contrast, the most important metric for law-firm associates is hours billed. Bonuses and promotions and even job stability all depend on this magic number, leaving no room for innovation or personal projects. If Google billed hourly, there'd be far less innovation.

Similarly, the watchwords of speed, simplicity, and constant improvement would have to be junked. The core principle of hourly billing is "more time means more money." There is no incentive to get the job done faster. Indeed, there is a disincentive to being efficient and getting jobs done fast, because that would mean less time, fewer billable hours, and less revenue.

What about speed? Google prides itself on its speed. Every search-result page broadcasts how fast it delivered the results you wanted. (For example, I just Googled "hourly billing." The website gloated over the mere 0.35 seconds it took to find 1,580,000 results.) But if Google billed by the hour, its alacrity would cost it money. Goodbye gloating.

As for simplicity, no one ever accused lawyers of worshiping at that altar. Things need to be complex to justify all the hours billed. And constant improvement means spending time on training and development and innovation — all things that detract from billing hours.

Finally, since law firms are run on a cost-plus pricing model, there is no incentive to lower the costs to the clients. That's why even in recessionary 2008, 71% of law firms raised their rates. By contrast, Google developed its AdSense and AdWords models to allow its paying customers (the advertisers) to efficiently and inexpensively buy just the advertising they need, unlike in traditional advertising models. Which is why a company incorporated in 1998 was able to do $22 billion in revenue just ten years later.

But under hourly billing, you can forget about that, too.

The bottom line: under an outdated, labor-theory-of-value system like hourly billing, the most innovative and successful company in history would simply not exist.

So who do you want to be like: law firms, or Google?

Typewriters and carbon paper — tried and true

Imagine if in the 1970s, the former head of a huge law firm came out against the rise of word processors and their challenge to typewriters and carbon paper. Imagine that he scoffed at this notion of "a better mousetrap," groused that people had been trying to come up with new systems for years without much success, and made a throwaway crack about "young people." People probably would have ridiculed him as a Luddite defending the status quo merely because that was what he was used to. Even if the "better mousetrap" did a better job than the old system.

Sure enough, the former head of a huge law firm recently came out against the anti–billable hour revolution. Richard Gary, former chair of Thelen Reid, was quoted in a California Bar Journal article, "Will a bad economy force more changes in the profession?" Here are Gary's thoughts on typewriters billable hours:

Still, he said, he doesn’t think the billable hour is going to disappear. “We’ve been talking about going to a different model for 20 years and it’s never happened. Maybe young people will come up with a different mousetrap.” However, he added, “I still think it’s the best way to measure value because it is a mechanism of measuring the amount of work that a lawyer did for a client on a particular matter.”

Let's read that again: The billable hour is "the best way to measure value ...."

I don't have too much to add here, other than to point out that Gary now runs his own law-firm consulting shop offering "strategic solutions for law firms."

And the 600-lawyer firm he ran for 11 years, Thelen Reid? Above the Law has the 411 here: "Thelen Officially Dissolves." (Ouch.)

I'm not saying that the idea of billable hours being any measure of client value — let alone the best measure — is what's causing firms like Thelen to fold. But it can't be helping.

• • •

Hat tip to Melody Kramer, who wrote about the CBJ article and the Gary quote in her excellent post, "Quality vs. Quantity - the billable hour mousetrap" at the Freelance Legal Professionals blog. Also, the required-reading Greatest American Lawyer had a nice summary post a few weeks back on the CBJ article.

Watching the time go by

When I talk to other lawyers about value pricing, one of the most common objections I hear goes something like this:

"But if I don't know how long something takes, how am I going to know how much it's worth? And how is the client going to know? And what happens if we sail off the edge of the earth?"

OK, maybe I'm exaggerating with that last one. But you get the idea. Most lawyers are so brainwashed about billable hours that they fail to understand how valuing and pricing work in the real world. Even though they do it all ... the ... time.

Watch this real-life example ...

Hey, you! Yeah, you in the downtown office of the white-shoe law firm. Look at that fancy watch on your wrist. What is it? A Tag Heuer? A Breitling? Nice. How much did it cost? $1,500? $3,000? Wow.

Now how do you think the jeweler came up with price? Counted up the number of hours that a handful of Swiss horologists spent constructing it, then added in the cost of the titanium and steel and so forth? Please.

For that matter, how did you — the buyer — decide how much the watch was worth? Did you ask the jeweler how many hours the aforementioned Swiss spent at the watch factory? Of course not.

The price was set by the jeweler based on his or her estimate of what a successful lawyer like you would be willing to pay for the wristborne status symbol that would show the world what a successful lawyer you are. It's a guess, based on past experience of what other successful lawyers have paid before.

And then you decided whether that price was less than or equal to the value you placed on the watch — what it was worth to you at that time in that place. How much you wanted it or needed it. If the price was too high, you didn't buy it. If enough people don't buy it at that price, the jeweler responds by lowering the price (or by improving his or her marketing).

It's that simple.

So use your fancy watch for something worthwhile, and not for keeping track of your billable hours. Your clients don't value your hours. They value the service you provide. The same way you value your Breitling.

What's my time worth?

I can name six different companies that would have been shut down if it weren't for my law firm.

Now, that's not just me bragging or exaggerating or taking more credit than we deserve. In each of the six cases, the company had been founded by someone who had gone into competition with his or her previous employer. In each case, the old company had sued to enforce a noncompete agreement and had asked a court to shut down our client. In each case, we successfully defended the new company, allowing them to stay in business.

Now compare that to other work I've done as an employment lawyer. For example, I'm often asked to write or revise a company's personnel handbook. These handbooks often include provisions that I consider ridiculous. What most drives me crazy are bereavement-leave policies, where employers make hyperlegalistic rules about whose funeral an employee can go to without having their pay docked. (For more on these policies, including an incredible real-world example, see "The world's shortest employee handbook" at our workplace blog, Gruntled Employees.) Needless to say, I'm not a fan of helping an employer decide whether an uncle or a niece is a close-enough relative to justify an employee being allowed time off for the funeral.

As many of our readers know, my firm, Shepherd Law Group, hasn't billed a single hour since 2006. But we used to, and for some of the work I described above, we did.

Hourly billing values equally all the time I spend working for clients, regardless of the project I'm working on, and regardless of the value the client receives.

Is there anyone out there who believes that the work I did to save those six companies from court-ordered extinction was equal in value — on a minute-for-minute, or rather six-minutes-for-six-minutes, basis — to the time I spent tweaking stupid bereavement policies?

If you can honestly say that you think the work was equally valuable, then you are a true defender of the billable hour, and we'd love to hear from you. But I won't hold my breath.