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Grabbing Slices of the Diminishing Legal Spend Pie: Legal Project Outsourcing, Downsourcing and Insourcing

                                                                             Jerome Kowalski

                                                                             Kowalski & Associates

                                                                             June, 2011

 

The law firm as general contractor

What follows is a basic economic proposition:  The amount spent globally on legal services is both finite and is shrinking. The number of players actively grabbing a slice of the legal spend pie is increasing.  Providers of legal services are not limited to law firms:  Efficient, lean and tech savvy legal project outsourcing companies are nibbling away at that pie.  For law firms to maintain their piece of the pie, they must compete with the burgeoning legal project outsourcing industry as well as law firm competitors.

These lessons were driven home at the recent Global Legal Project Outsourcing Conference in New York, in which I recently participated.  A brief slideshow showing the historical perspectives of how we arrived at this juncture and where we are heading can be accessed through this link.

The recent report from Dan DiPietro, the oracle of Citibank, who heads Citi’s mighty law firm financing division regarding the First Quarter of 2011 is that revenue and demand for legal services are up only modestly, and expense increases likely to outpace or at least equal revenue increases. DiPietro predicts firms will see continuing pressure on profit margins.  To meet these escalating demands, law firms are more regularly turning to outsourcing – indeed, clients are increasingly requiring that law firms do so.

With the total international market for legal services reaching $400,000,000,000 in 2010, the LPO market reached $200,000,000 in that year and The New York Times projects that the LPO market will reach some $2,400,000,000 by 2012.  Yes, as the Times reports, the LPO market will still be but a tiny fraction of the total international legal spend.  But, frankly, the projection only addresses true outsourcing.  It does not address the issues of downsourcing or insourcing, which are, as we previously reported are doubtless going to be pillars of the law firm of the twenty-first century.

We all certainly understand legal project outsourcing, namely, as the Times described it, “companies that in recent years added to the financial woes of the American legal profession by sending work to low-cost countries like India,” the Times went on to report that outsourcing firms “are now creating jobs for lawyers in the United States” by establishing centers in various tertiary markets in the United States, where labor costs are lower than in major metropolitan areas.

Downsourcing differs somewhat from outsourcing.  In a typical downsourced project, legal work is transferred from a law firm’s major urban centers to lower labor cost branch offices.  A second example for downsourcing is when a corporate client engages in a convergence program and engages a select number of law firms to serve as preferred counsel and these favored counsel, most often in consultation with the corporate client, engages lower cost law firms to handle discreet tasks.

The third leg of the stool, insourcing, is a variant.  It derives from a “make or buy” decision tree and the “make” rather than “buy” decision is driven by the availability of a number of alternatives.  These include creating a temp staff for a particular project or the ability to provide the service through a law firm subsidiary or affiliate.

LPO’s original provenance was on the Indian subcontinent. They have since spread globally to Israel, Ireland, Great Britain, Costa Rico, South Africa, Canada, New Zealand, Australia and elsewhere.  Currently employing some 16,000 people, LPO’s are clearly destined for explosive growth.

The related downsourcing and insourcing phenomena are proliferating domestically and aboard in abundance.  Centers for both insourcing  and outsourcing, owned by both law firms themselves and traditional third party LPO providers are sprouting in West Virginia (Orrick), Ohio (WilmerHale),  Belfast (Alan & Overy and Herbert Smith), Texas (Pangea3), North Dakota (Integreon) and Kansas (UnitedLex).

Yes, as the Times noted, professional salaries at these entities are substantially lower than rack rates at major law firms, ranging from 50% of the so called “going rate” of $160,000 at BigLaw firms, ranging downwards to $20 an hour. But, there seems to be no shortage of lawyers signing up for this duty.

I’ve previously addressed the concept of law firms enhancing their profitability by establishing subsidiaries offering services complementing the traditional array of legal services offered by a full service commercial law firm.  Pillsbury Winthrop has taken a quantum leap forward.  The law firm established a practice group it calls “PEARL,” an acronym for Pillsbury E-Discovery Alliance of Resource Leaders The focus of this group is electronic document discovery (“EDD”), which has become an onerous cost of litigation and has otherwise dampened many an appetite for corporate litigation. Pillsbury’s business model was to establish an alliance with a group of LPO’s, consisting of ACT Litigation Services, Discovery Services LLC, Integreon Discovery Solutions, Ji2, Protiviti Inc. and TransPerfect Legal Solutions, each of which has a contractual relationship with Pillsbury.  The essence of the model is that Pillsbury is primarily the general contractor for EDD and the named entities serve as Pillsbury’s subs.  As GC, Pillsbury serves as discovery counsel on litigation and takes full responsibility for compliance with EDD obligations.  Using best practices and other efficiencies, David Stanton, the capable leader of this group, boasts that PEARL can beat the prices charged by competing LPO’s by 60%.

Pillsbury’s PEARL business model is far more telling – and perhaps, foreboding – than it appears at first blush.  First, it appears to me that Pillsbury has recognized that it is competing directly with LPO’s for the legal spend. It seems to have neutralized some measure of this direct competition by drawing these competing vendors under its own tent.

More striking to me is Pillsbury’s role as general contractor – at least for EDD purposes – with all of the duties, responsibilities and liabilities attendant to that role. As I see things over the hazy horizon, law firms will increasingly fill this role as general contractor in a broad variety of contexts.

LPO’s are openly and actively marketing their services to both law firms and corporate general counsels, as well as GC’s new comrades in arms, procurement officers.  LPO’s routinely enter into direct contracts with corporations with competitive pricing and GC’s, when retaining outside counsel, frequently compel counsel to engage its designated LPO, with the law firm serving primarily as a general contractor.

New realities require that work on major projects or ongoing engagements, certainly not limited whatsoever to litigation, is carefully identified and scrutinized with identified tasks being assigned to the lowest cost component in the service supply chain. Compensation for these tasks is increasingly unrelated to the time required to complete them.  Rather, fees are based on piece work, capitation, gigabytes of data or simply fixed prices.

Thus emerges the law firm as general contractor, traffic cop, chief quality control officer and insurer of the work of its subcontracting competitors.

© Jerome Kowalski, June, 2011.  All rights reserved.

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11 Responses

  1. Which US law firms have built / are building low-cost document review centers?…

    Demand for legal services has remained fairly stagnant for the past four years. At the same time, corporate clients, buffeted by The Great Recession and cognizant of the excess of supply over demand for legal services, have continued to exert extraordi…

  2. […] recession, we must recognize that the core business of law firms is being eaten away at both the top levels by legal project outsourcers and at the lower end of the spectrum by Internet based providers of legal […]

    • Some areas of practice, such as real estate, have drastically collapsed due to the recession, some areas such as litigation, document review, and corporate compliance, among others, have gained ground, resulting in a good amount of business directed to LPO firms in India.

  3. […] posts, law firms are faced with threats from, among other things, Internet based legal providers, legal project outsourcing companies and alternative fee […]

  4. […] services, unregulated entities not owned or even having lawyers perform the legal services. We also addressed the issue of unregulated LPO’s, similarly not owned by lawyers and often heavily populated by […]

  5. […] The need to make these investments is becoming increasingly crucial, indeed vital,  as alternate vendors of legal services continue to gain market share.  One of the only ways to meet this competition is through acquisition of state of the art […]

  6. […] At the outset, LPO’s marketed their services to law firms, offering to serve as their subcontractors. Law firms, in turn, often simply “marked up” the fees charged by LPO’s, on the rubric that the firms were assuming some level of supervision and risk and, well, it was a pretty easy way to make a couple of extra bucks. In short order, sophisticated clients, dealing with sophisticated LPO’s,  entered into direct contracts with LPO’s, having general counsel use the services of LPO’s directly.  Corporations, the ultimate consumers of LPO services, used their economic prowess to extract favorable pricing from LPO’s and often then directed their outside law firms to utilize the services of LPO’s with which the corporate clients had favorable pricing arrangements.  These LPO’s were essentially “designated subcontractors.” […]

  7. […] There was also rising concern at Citi concerning the continued growth of Alternative Fee Arrangements and lowered reliance on billable hours, which Citi is concerned might result declining law firm profitability. As I have discussed in the past, AFA’s can actually enhance profitability, if properly managed, and current economic climes, with both declining demand for legal services and increased competition for those legal services require law firms to be more agile and develop new, more efficient and more profitable models for the delivery of legal services. […]

  8. […] in general, as the legal spend for outside counsel continues to diminish and, at the same time, competing vendors, not always traditional law firms, compete for pieces of the diminishing pie. More significant […]

  9. […] some engagements, a law firm will essentially function as a general contractor, with clients directing the law firm to subcontract work to a variety of vendors.  There are many […]

  10. […] The thin barrier preventing LPO’s from grabbing even more slices of the legal spend pie will easily evaporate.   There are a variety of different means for those affiliates to establish or acquire a United States law firm.  Thus, an LPO could easily establish a very real law firm branch office in the United States, populated by US duly qualified lawyers which in term could make eviscerate the thin boundary which would give these offshore entities the ability to offer the full array of legal services – including appearing in judicial proceedings,  signing legal opinions and direct counseling, […]

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