Think Tank: AFAs: Facts, Stats and Debates on the State of Alternative Fees in 2017

Think Tank: AFAs: Facts, Stats and Debates on the State of Alternative Fees in 2017

By Craig Dekshenieks, Director, Content & Marketing Operations, Aderant

What is the state of alternative fee arrangements (AFAs) in 2017?

The proverbial legal answer – “it depends” – could well be an appropriate answer.  This is because credible arguments can be made both for and against AFAs.

On one side of the scale, opponents say AFAs are more hype than substance. Most clients aren’t asking for them – and those that do are either dabbling or just it as a negotiation tactic to ask for a discounted hourly rate.  After all, many GCs earned their stripes in law firms operating under an hourly billing model.  The billable hour remains familiar and old habits die hard.

“…advocates point to a drumbeat of industry reports and surveys, that generally suggest more and more legal work is being priced under a model other than the billable hour. “

On the other side, advocates point to a drumbeat of industry reports and surveys, that generally suggest more and more legal work is being priced under a model other than the billable hour.  This is a result of a confluence of factors including flat demand for legal services, falling realization rates, new competition, and the corporate mandate for predictability in legal pricing.

Alternative Fees Facts and Stats

At Aderant, we’ve observed, most law firms have historical records that can facilitate data-driven conversations about pricing with clients.  In fact, we’ve been focused on providing firms with the integrations and analytics to mine case management and practice management systems in order to drive competitive and profitable pricing.

As such we’re are very interested in AFA trends, as are our clients, and in turn, our clients’ clients.  As we scan legal sources for current statistics and benchmarks as to the state of AFAs in 2017, we thought it useful to share what we’ve found.

1) AFAs account for 26% percent of outside spend

Twenty-six percent of the work corporate legal sends to outside counsel is structured under an AFA, according to Corporate Counsel magazine.  Moreover, 42% of top corporate legal leaders are inclined to increase this percentage over the next 12 months.

The article is citing data from the 2017 Chief Legal Officers Survey by the ACC. In 2017 the ACC surveyed nearly 1,100 in-house counsel in 42 countries.

The annual survey has found similar trends for the last several years.  For example, the same survey in 2016 found the larger the law department, the more likely it was to use AFAs – and most favored flat fees for an entire matter (41%).

“Across the board, use of AFAs continues to trend upward,” according to an ACC statement.

2) Total value of AFA work is estimated at $20 billion

According to a report titled, BTI State of Alternative Fee Arrangements 2016, AFAs added up to “$21.1 billion of outside counsel spending in 2015, up from $13.1 billion in 2013.”

The report, produced by the BTI Consulting Group, Inc., says this accounts for 35.6% of outside counsel spend, much of which stemmed from larger companies. Flat fees were also the preferred AFA in this study. The consulting firm says “60% of clients prefer fixed fees – 3 times more than the next runner up – capped fees at 20%.”

The findings are based on 322 “in-depth telephone interviews” with corporate legal decision makers. The reports note the analysis, in part, is also derived from conducting 4,500 corporate counsel interviews over 16 years.

3) AFAs as a competitive law firm advantage 

While just 28% of firms proactively initiate AFA conversations with clients, the vast majority (84%) of this segment report a profitability level comparable to traditional hourly billing.

That’s according to the 2016 Law Firms in Transition report by Altman Weil. The consulting firm says that 40% of this group found AFAs to be more profitable (i.e. 40% of the 28%).

“We see a 7-year trend of compelling success enjoyed by firms that take a proactive approach to alternative fee arrangements,” according to the report. “The lesson is that firms that make a rigorous effort to understand and manage a new or evolving market tactic like alternative fees generally succeed in doing so, and enjoy increasing benefits over time.”

It’s worth pointing out, the study also found 97% of law firms invoice some legal work “on a basis other than rates times hours.”

Is this the Death of the Billable Hour?

If the data points towards a tipping scale in favor of the AFA, the 2017 Report on the State of the Legal Market could add weight:

“One of the most potentially significant, though rarely acknowledged, changes of the past decade has been the effective death of the traditional billable hour pricing model in most law firms.”

That “effective death” is more nuanced than merely counting billable hours – the report is quick to say most firms still follow an hourly billing model for most matters. However, it’s the stark contrast of the data the report depicts visually that demonstrates even as law firms have increased standard hourly rates, realization rates have continued to fall.

So, while the report says “AFAs probably account for only 15 to 20 percent of all law firm revenues” the effect of “budget-based pricing” arguably pushes this percentage higher. The report concludes that AFAs and budget-based pricing “combined may well account for 80 or 90 percent of all revenues.”

The high percentage was a stretch too far for D. Casey Flaherty, a legal operations consultant and the founder of Procertas. He compiled a list of 20 links dating back to 2005 – all foretelling of the impending death of the billable hour.

While many legal departments do have documented budget requirements, few actually enforce them “in any meaningful way,” he wrote. “And it is [a] passing few that seem to impose discipline around the budget number to the point where it functions as a cap.”

Yet it there’s another way of looking at this as Toby Brown, a reputable pricing expert, who is often spotted on the speaking circuit, noted in the comments of Mr. Flaherty’s commentary.

He tends to answer the AFA question with another question: When someone asks him how much legal work is structured under an AFA he responds, “How much work done by firms is performed without pressure on rates or hours?”

So, what is the State of AFAs in 2017?  It depends.

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