Risk and AFAs: a Perfect Storm for Law Firms
Today’s law firms face unprecedented risk coming from multiple directions. Compounding the risk problem is pressure on firms to implement AFAs (Alternative Fee Arrangements), a term which is often code for fixed-fee pricing. Independently, each of these trends presents a difficult problem. When combined, they represent a sort of perfect storm for legal practices.
While there is no one-size-fits-all solution for law firms, process automation offers a structured approach to estimating and lowering costs, which is perhaps the only way of coping with AFAs. At the same time, process automation can improve quality of legal services, which is the key to mitigating risk.
The many profiles of risk
In an article published on Americanbar.org, “Risk Management: A Systematic Approach for Law Firms,” Malcolm M. Mercer, a partner and General Counsel at McCarthy Tétrault in Toronto, asserts that there are “two principal sources of risk” for law firms: “the firm’s clients and the firm’s lawyers.” To Mercer’s list, I would add a third: the firm’s non-lawyer staff, which could easily contribute to negligence and, thus, exposure. Of course, when the three groups are combined, as they almost always are, risk can have any number of different profiles. Something as simple as a proofreading mistake, for example, could lead to catastrophic consequences.
AFAs, an institution on the rise
Exacerbating the problem of risk is an emerging trend in the legal profession—a shift from the traditional hourly billing model to AFAs (Alternative Fee Arrangements), a term commonly used as a euphemism for fixed-fee pricing. Many types of businesses bill by the hour. For example, in my particular company—HotDocs Corporation, an enterprise software vendor—we have a technical services team that handles complex system integration for customers. Given that we generally have no idea how many hours we may need to invest to deliver an integrated solution, our bids are almost always open-ended proposals based on time to completion. Put another way, we manage uncertainty via the billable-hours model.
Of course, law practices have historically relied on hourly billing for the same reasons that we do. Of late, though, the hourly billing model for legal services is under attack. Dan DiPietro, chairman of the law firm group at Citi Private Bank, says that he “hear[s] continually from law firms about the unrelenting pricing pressures from clients” (”Citi’s 3rd Quarter Law Firm Results: Pricing Pressures”), who are pressing for “alternative fee arrangements” (again, sugar-coating for fixed-fee pricing). DiPietro, himself, recognizes the untenable problem a fixed-fee model poses for law practices, especially the big ones—the Am Law firms—which regularly deal with complex, largely unstructured legal matters. As DiPietro poses it, “how can [law firms] ensure that the work will be completed within the agreed scope and to budget[?]”
The crux of the matter
So back to the three groups that create risk for law firms: (1) clients, (2) lawyers, and (3) staff. In the past, law firms have mitigated risk by hiring the most competent lawyers and the best supporting staff available. The best lawyers and staff are, of course, expensive. The firm would then carefully pick and choose clients so as to avoid high risk situations, another expensive proposition given that some paying customers would need to be turned away.
Based on its careful business practices, over the course of years—or decades—a firm’s brand equity would grow, resulting in the fact that it could name its hourly billing price to blue chip clients, who would be willing to pay it—in essence, handing the firm a blank check for any particular legal matter that happened to come along. The key, of course, to the hourly billing model for such firms has always been brand equity. Now, however, it is brand equity that is under attack.
When a firm’s clients begin pushing for AFAs, the implication is that the firm’s brand equity is eroding. Put another way, clients are basically saying that price is the primary factor in this negotiation, rather than quality. If the law firm doesn’t name the right price—up front—the client will simply go elsewhere. The truth is law firms—from Am Law on down to solo practitioners—are on the path to commoditization. And this reality (un-branding and deescalating profit), juxtaposed with escalating risk, constitutes the perfect storm mentioned above. Make a mistake, and you could be answering malpractice charges. Try to charge enough to deliver quality legal services, and you may be pricing yourself out of the market. At the risk of mixing movie metaphors, it’s the classic catch 22.
Is there a safe harbor?
By way of disclaimer, I’m a software guy, born and bred. For me, the answer to most business problems can be found in well formed computer code. With that said, from my perspective, there is a safe harbor from the risk/AFA problem for some law firms in some circumstances. Beyond standard software platforms and basic business applications, which are in wide use throughout the legal industry, the technology that may go the furthest toward solving the risk/AFA conundrum is process automation, of which there are two types that are most relevant to law practices:
· Business Process Management systems (BPM)
· Document Generation Platforms
BPM
BPM is a management strategy based on the premise that an enterprise can be viewed as a collection of related processes, each of which consists of a series of steps or stages, and that, by better managing each of the processes, an enterprise can become more efficient and, thus, more profitable.
BPM suites are software solutions that facilitate the modeling of each of the processes within an enterprise as a software application—commonly referred to as a workflow—that guides users through the steps in the process. Beyond workflow modeling, BPM suites enable an enterprise to deploy, analyze, and refine its workflows, and, in doing so, continuously evolve as an ever more profitable organization.
So what does BPM have to do with law firms? Well, law firms, like all other organizations, suffer from inefficiencies in their processes. These inefficiencies can cut into profits and lead to risk. For example, Mercer points out that “some firms . . . operate as a collection of solo practitioners rather than as a cohesive entity,” a reality that “definitely contributes to client risk.” Mercer goes on to explain why:
. . . the firm should be involved in deciding which clients and matters to take on to make it possible to consider the various current and future implications for the firm as a business entity. In other words, acting as a firm permits deliberate choice as to the best work to take on, versus just taking whatever walks through the door—the usual result of an individual making the choice.
One technological solution to the problem Mercer describes is BPM, which would allow a firm to construct a sophisticated client intake workflow. Such a workflow could walk the attorney—or staff member—through the intake process, automatically checking for conflicts and evaluating client risk. The workflow would impose governance on the process, reducing risk, and increasing efficiency.
And that’s just one example. Most law firms could easily identify dozens (if not hundreds) of manual processes, which, if transformed into automated workflows, would not only increase efficiency, but would also reduce risk—from clients, from lawyers, and from staff.
Document Generation
Document generation is a subset of the business process automation movement and deals specifically with automating the production of complex, transactional documents. In use, a document generation app presents a wizard-like sequence of interactive, data-gathering forms, designed to guide a system user through the data-gathering process. Enterprise-grade systems allow for data mapping to existing data storage systems and provide flexible APIs, enabling the integration of document generation apps into broader workflows.
Within the context of escalating risk and the concurrent AFA movement, automating the generation of transactional legal documents should be a firm’s first technological task. ROI on document generation is well documented, with many firms reporting that production time for generating some documents going from weeks or even months down to just a few hours. Understanding the human resource requirements and time involved for generating transactional documents constitutes a major step toward managing fixed-fee requirements imposed by some customers.
Furthermore, automating the production of transactional legal documents eliminates much of the risk associated with producing documents using some less evolved methodology. Many firms are still using a combination of searching/replacing, cutting/pasting, merges, macros, etc. to generate documents, opening the door for human error at multiple points in the process. And human error is one of the greatest sources of risk for today’s law firms.
Summary
Process automation is appropriate and applicable to some processes and some documents but not applicable to others. As for BPM, transforming real-world, manual processes into automated workflows can yield tremendous benefits, both in terms of reducing and fixing costs and in terms of eliminating human error, and in the process, mitigating risk. Again, some processes lend themselves to effective automation, while others don’t. Consequently, law firms looking to apply BPM broadly need to pick and choose their battles.
Likewise, document generation is highly applicable for some documents and less applicable for others. The two issues to consider with document generation are structure and frequency of use. Documents that are highly structured—that is, largely governed by business logic—can be transformed into process apps. But given the complexity of a particular document and the frequency with which it is required, the effort to automate it may not make sense. Given that enterprise-grade document generation systems are capable of automating virtually any document, regardless of its length or complexity, the determining factor for automation then would be frequency of use.