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Managing Outside Counsel: How Internal Audit Can Assist

Jose Tabuena | September 22, 2015

Jose Tabuena Icon - 0815It’s hard to miss the headlines about recent major internal investigations that organizations have essentially been forced to undertake. From the National Football League’s DeflateGate, to major colleges, to General Motors, and (many) more, notable high-profile scandals have resulted in an influx of work for investigatory lawyers to act as finders of fact rather than advocates for clients. These lawyers have broad discretion and minimal oversight, and their findings can have a wide-ranging effect—and can even force the organization to change its ways.

In a past column I wrote about how performing an audit of the legal department can be valuable for addressing areas of regulatory compliance, financial reporting, and operational efficiency. The general counsel also faces financial responsibilities such as monitoring budgets and reporting on expenses, so another focus of internal audits could be evaluating controls that can reduce legal costs and improve the department’s efficiency.

Analyses of legal operations may involve detailed testing on case files and interviews about file content. Metrics relevant for the general counsel have become more readily available, and the auditor can seek or commission studies for such data.

To evaluate the value for the work done for (and ultimately by) the legal department requires a look into the company’s legal spend data. Understanding this data can validate the objectives and accomplishments of the department.

An emerging approach is the use of benchmark reports. Credible benchmarks can be developed if you collect data and are able to examine it in an objective way. The information then becomes actionable, in that you can make informed decisions on both your performance and the performance of outside counsel. Benchmarks are a comparative tool, as they can be used to compare past performance of a specific law firm against itself or to compare groups against one another.

Keeping outside counsel in check to ensure your funds are being used efficiently can be a challenge. Credible benchmarks can be identified in the everyday details of the legal invoice. Uniform Task-Based Management System (UTBMS) codes indicate phase, task, and activity information. Looking at the codes can help corporation law departments manage what work is (and is not) performed on matters—how often, how long, and at what cost.

Outside Counsel

An internal auditor can assist the legal department in reviewing and monitoring legal invoices. First consider implementing basic controls, such as billing software that can check for arithmetic errors, duplicates, and possible abuses. Billing guidelines are another key control. The guidelines should provide clear instructions for how outside counsel should operate and bill when providing services. Other controls include the practice of bidding out legal services, and periodically rotating the use of law firms to ensure efficient and effective representation.

The practice of validating whether resources are used in an efficient manner is part and parcel of running an effective business and applies just as well to the use of legal services.

The auditor can initiate substantive testing by running a variety of analytics. Examples include trending legal expenses from month-to-month and year-to-year. Again, to enhance the data analysis, auditors can measure results against comparable organizations within the same industry. Auditors should be alert to spikes and dips in the data set as a beginning point for further testing. Another test is to determine whether the rate charged for legal services corresponds to the contract for legal services. Trending hours billed over time, sorted by attorney and by service type, can identify aberrations.

The following are examples of billing practices that organizations should watch for based on analysis of actual invoice data:

  • Timekeepers who bill exactly eight hours to a matter per day;
  • Timekeepers who bill very small increments of time over the course of a matter;
  • High turnover in timekeepers during a matter;
  • Partners regularly billing in whole hour increments;
  • Timekeepers who show up on the bill halfway through the matter.

Using Benchmarks

In-house counsel charged with supervising the initiation and management of internal investigations and litigation can introduce a few benchmarks to create a system for evaluating, tracking, and controlling the costs of litigation.

Firms like CEB (formerly Corporate Executive Board) have collected actual invoice data and created a dataset for analysis. CEB states that benchmarking legal costs can assist you to:

  • Negotiate rates with law firms by showing actual prevailing market rates practice, level, and city.
  • Create more accurate budgets: budget matters by phase or activity with a data-informed projection of what the matter phase should cost.
  • Set triggers to signal when matter spending gets out of control. A few high-cost matters usually represent a disproportionate share of a company’s legal spending.
  • Set staffing expectations by matter and matter type using a point of reference for how other matters are being staffed.
  • Decide when to send matters to smaller firms, or smaller markets, to be handled more cost-effectively.
  • Build models for flat- and fixed-fee legal work based on historical costs and cost models for similar cases on an hourly basis.

To manage litigation and internal investigations from the outset, organizations have started asking outside counsel to providing key estimates before the start of a matter. These key measures include the (i) expected fees and costs to litigate or investigate the matter; (ii) expected time until final resolution; (iii) predicted outcomes, particularly in a litigated matter. Of course litigation results and investigative findings cannot be guaranteed, but experienced outside counsel should be able to predict a range of outcomes.

With those basics established, in-house counsel can start tracking the estimates. A mechanism can be put in place for regular communications with outside counsel to monitor progress on the matter. Both litigation and investigation management are dynamic processes, and they can require significant strategic and tactical adjustments during development of the matter. Also keep in mind that cost and time estimates, along with the actual costs incurred, will be useful as you build your internal benchmarks for managing outside counsel.

Ideally with benchmarks you can strive to evaluate the performance of your existing law firms using criteria identified by general counsel. With benchmarks you can assess your approach for managing outside counsel, including a review of compliance with billing and staffing guidelines, budgeting templates, and early matter assessment process. The benchmarks can also aid in the use of alternative legal service providers and review opportunities for unbundling, offshoring, or using contract attorneys. The benchmarks themselves can be used as a basis of comparison for selection of outside counsel. The accuracy of estimates that a firm has provided could be used to mull continued use of their services.

Companies have also started using benchmark data for considering alternative fee arrangements and including an incentive component. Fixed fee and cap arrangements work well in more routine matters that are predictable (based on your data) in cost and the range of outcomes. Benchmarks can assist in more complex matters that do not lend themselves to fixed fee or limit.

For example, a fee arrangement can comprise fee reductions in exchange for an incentive for a positive outcome. Hourly rates could be reduced when the total cost exceeds the original estimate, but the law firm can make back some or all of that discount depending on the outcome and other measures.

Of course you cannot eliminate all the uncertainty of litigation and factors that can lead to the expansion in scope of an internal investigation. But having information to evaluate a law firm’s performance and ensuring regular tracking the progress of a matter can reduce the potential of big surprises down the road. The practice of validating whether resources are used in an efficient manner is part and parcel of running an effective business and applies just as well to the use of legal services.