Clients and law firms should focus on the health of the long-term relationship rather than the profit margin of individual matters
Anyone who has followed my work or heard me speak on law firm pricing and alternative fee arrangements (AFAs) should know that I’m not a fan of shadow billing.
But what is shadow billing?
In essence, it’s a practice in which a law firm and a client agree to an AFA — in theory, a fixed price — for a legal matter, but then the client asks the law firm to provide comparison data on what the matter would have cost the client had the work been done on an hourly basis instead of the fixed price.
Part of the desire for asking for shadow bills is that clients don’t want law firms to be too profitable at their expense, essentially means the client is overpaying for matters. That’s not an unreasonable desire, but like so many things, the devil is in the details.
And all of this brings about a bushel full of questions. How frequently are shadow bills being requested? What is the actual intent behind reviewing the shadow bill? Are clients looking at the bills as a means to re-evaluate future pricing for similar matters, or are clients using the shadow bills as a way to pay the lowest price on each matter? If the shadow bill shows an imbalance, what is the consequence? What about the unintended consequences of the practice of shadow billing? Do shadow bills encourage slower work on matters so the shadow bill matches the agreed-upon price? And if so, what does that do to the innovation that AFAs are intended to drive?
In truth, we could come up with a nearly endless series of questions, each as difficult to answer as those already listed. There is, however, a way to avoid addressing these difficult questions — move away from shadow billing on discrete matters altogether.
Seeking a way out of the shadows
None of this is to suggest that shadow billing has no purpose or that the time invested into a fixed-fee matter should not be tracked. However, using shadow billing to re-evaluate pricing on a matter-by-matter basis will serve as an innovation killer.
Let’s explore a hypothetical. Let’s say a client and I agree that the exposure from a given legal matter is existential to the business, and so, the client readily agrees to a $1 million fixed fee for my help in solving the problem. I set to work, and my clever mind quickly arrives at a unique solution through a combination of expertise and technology. I present the solution to the client, and they are elated because it’s an elegant solution to a complex problem. What’s better, I showed them the solution a mere 15 minutes after we ended our initial conversation, developing an innovative solution to an existential problem in nearly no time at all.
Using shadow billing to “re-evaluate” pricing on a matter-by-matter basis will serve as an innovation killer.
So, here’s the wrinkle — as I’m sure you can surmise. Fifteen short minutes ago, the client agreed it was worth $1 million of their money for me to solve the problem. If my hourly billing rate is $1,000, did my $1 million solution become a $250 solution just because I arrived at it quickly? The value of the solution didn’t change; rather, the value of the input changed. Should that matter?
If your answer to that question is, Yes, it should matter!, I would ask, Why? The nature of the problem and the threat it posed didn’t change. Arguably, the solution is even more valuable because the client didn’t have to wait for it — their problem is solved now. I did what clients say they want and was efficient and innovative in providing a solution that matched their broader business goals. So, what’s the objection?
For some, the objection would be that the end-result is problematic because it allowed for too much profit. To be somewhat provocative, what difference does it make how profitable the law firm was on any given matter?
Ultimately, in my view, it’s less a question of profits as it is a question of relationships. If I put myself in the client’s shoes, I can understand the desire to ensure that an outside law firm isn’t being too profitable at my expense. Put another way, I want to make sure I’m not being exploited. When framed that way, however, the nature of my concern takes on a new appearance.
If I, as a client, am concerned that a law firm might be exploiting or taking advantage of me, that says a lot about the nature of my relationship with that law firm. It evidences a lack of communication and ultimately a lack of trust. And the blame for that breakdown in the relationship cannot be fully placed on the client. Certainly, the client should have trust that outside counsel is protecting their interests, but in many cases, trust has to be earned.
Earning the trust
Outside counsel generally do an outstanding job earning the trust of their clients in terms of the quality of their representation and matter outcomes. How work is priced, however, can be another matter entirely.
Anecdotally, while clients talk a lot about AFAs, many don’t have a high degree of comfort with them. This can be due to a lack of training and experience with them, or the fact that many General Counsel come from law firm backgrounds and so are much more comfortable with the billable hour (just like their outside counsel). This discomfort can also come from law firm doing an inadequate job of preparing the client for how AFAs are used.
You can find more on Pricing AI-driven legal services here or listen to the latest Thomson Reuters Institute Insights podcast on the subject here.
Indeed, preparing the client has many facets. First, the law firm needs to focus on the value of the solution provided for the problem addressed — the client won’t be the one driving that discussion. Second, the client has to be included in discussions on pricing from the outset and throughout the matter. Truly resolving a matter is a complex journey that often takes unexpected turns, each of which should be addressed directly with the client to determine the potential impact of those turns on the scope of the work to be done.
Finally, the firm may need to re-evaluate certain basic steps such as ensuring that its lawyers are communicating with the client in a common vernacular. If the law firm and the client are not speaking the same language in terms of expectations or even what the term AFA means to both sides, conflict is almost inevitable.
When I said I was no fan of shadow billing, I meant I was not a fan of using a shadow bill to ensure the client got the best possible deal on every matter to the extent that such use hampers the relationship. However, shadow bills can play an invaluable role in transparency when used in an aggregate fashion. In fact, when used strategically, shadow bills can help demonstrate to the client why an AFA is working in their favor, when prices may need to increase, or, in the happiest of circumstances, to justify why a law firm is offering a lower price.
As I said, the devil is in the details. Comprehensive time records used to explore the full scope of work performed for a client can be incredibly insightful. Yet it’s crucial to remember that clients’ use of shadow bills to constantly seek a lower price on each discrete matter can be detrimental to the broader lawyer-client relationship.
