MANY ATTORNEYS ASSUME alternative billing arrangements are limited to basic legal matters such as simple estate planning, organizing a new business entity or an uncontested matter in court. I would like to share with you a story illustrating why this isn’t always true and show you how you can apply what I learned to the more complex matters of your practice.
In 1978, I moved from a litigation firm to a transaction-based firm. I wanted to put deals together instead of tearing them apart. The next year, Oklahoma began nearly five years of unprecedented oil and gas drilling, fueled by demand and favorable tax laws. My firm, with its strong securities and tax practices, was uniquely positioned to ride the wave of deals during that time period. Many of those deals were private placement drilling programs, rig syndications and mineral syndications.
Early in the process, I observed several points about the economics of a private placement:
At the start of each deal, the client was concerned with the cost of the deal because it was coming out of his or her pocket.
- If the deal closed, cost was not important because it was coming out of the deal—other people’s money.
- If the deal didn’t close, collecting the unpaid portion of the bill became a problem and often had to be heavily discounted to get payment.
- If the deal did close, a higher rate charged for specialty expertise was appropriate because malpractice risks were higher. But if the deal didn’t close, there was no such risk, and charging a premium hourly rate wasn’t really necessary.
In 1980, as a newly minted partner and having worked on a significant number of deals the year before, I began to offer clients for which I had billing responsibility a choice: billing using an hourly securities rate, or billing a fixed fee through delivery of the placement memorandum with a success fee paid at closing if the deal closed. I have been offering this alternative or a variation of it ever since. For all of the private placement work I have done over the last 32 years, nearly every client offered this alternative arrangement has elected the fixed fee with a success fee option. Even when there was follow-on or multiple placements done for the same client, that client continued to elect the alternative fee arrangement.
Why? I believe most clients—particularly the more entrepreneurial clients doing private placement deals—don’t like the uncertainty of hourly billing. Hourly billing is hard to budget for, and there can be a feeling on the client’s part of the loss of control of costs and sometimes accountability. The fixed-fee/success-fee option addresses these concerns.
HOW TO ESTABLISH THE FEE ARRANGEMENT
How do I establish what the fee arrangement will be? First, not every deal can be well enough defined, and sometimes you don’t know the client’s goals and abilities to close the deal at the beginning of the project. If the client’s financial expectations or requirements are such that it appears unlikely the deal will close, the fixed fee/success fee will not be offered, and an evergreen retainer requirement would be appropriate with an hourly rate quote.
WHAT ARE THE TOOLS TO USE TO DETERMINE THE APPROPRIATE FEE?
Know your costs. What does it cost you to pay for the beer and the beans? Whether you are considering an alternative fee arrangement or not, every lawyer should know what it costs to keep the doors open. You need to know what your cost is per hour to make certain your fee—whether by the hour or by the project—covers your costs.
Data mine your files. Your most valuable tool in establishing what the appropriate fee should be is the information in the files and bills of similar prior projects. In reviewing your files you should determine the following:
- The documents necessary for the project
- How much time it takes to prepare each document
- What the variables are in each document
- What the standard or basic provisions are
- How much time is spent with clients and how frequently
- If other parties are represented by counsel and how much additional work was involved in dealing with counsel
- How many revisions you typically go through
- What documentation and time are required when the deal closes
Determine the best- and worst-case scenarios. Do this when establishing a project to determine the appropriate fixed-fee portion of the fee. The best-case estimate should be roughly equal to the standard hourly rate with the worst-case scenario being not lower than the cost of providing the services.
Using these tools will help you to establish a fixed-fee arrangement for even the most complex transactional work. The more you work with a fixed-fee quote, the more comfortable you will become in getting it right. As for establishing the success-fee portion of the alternative fee, the factors I consider are the size of the deal, the amount of the fixed-fee portion and the risk being taken that the deal will not close. I generally start with an amount that is equal to the fixed-fee portion and then adjust that amount up or down depending on those factors. An $8 million deal will generally have a higher fee than a $4 million deal.
A written engagement letter or agreement is recommended (and may be required in your jurisdiction). Make certain the scope of the work you are performing is clearly defined. As important as the scope, it is also advisable to state what is not included in the fee.
FIXED FEE WITH SUCCESS FEATURE OPTION
The following is from a fee agreement I use that outlines the fixed-fee/success-fee option for the client’s consideration:
- Payment of a fixed, nonrefundable fee of $10,000 payable as follows: $5,000 on commencement of the work, and $5,000 upon the private placement memorandum being completed and ready for printing. This would be for the organization, securities, blue sky legal work for Oklahoma (filing fees and other states’ legal fees would be extra), and other work outlined above for the offering under Scope of Representation. If the offering is not closed for any reason, no additional fee would be due.
- If the offering is successful, an additional fee of $8,000 would be due at the first closing. Additional closings (if any) would be on an hourly-rate basis.
- The legal work for state blue sky filing varies depending on the state in which the offering is sold, but generally they run $250 to $350 per state. The filing fees for states we have discussed generally range from $250 to $1,000. The Oklahoma securities filing fee will be $250.
- All major expense items, such as filing fees, travel and printing expenses, will be paid directly by you. Expenses advanced by the firm, such as long distance, copies, fax, etc., will be billed monthly and paid on receipt.
This quote is based on the work outlined above. If the offering necessitates an undue number of meetings, numerous client or regulatory changes, or significant additional work beyond the outlined Scope of Representation and the firm’s estimate, the firm reserves the right to charge an hourly rate of $325 for attorney time, $165 per hour for associate time, and $85 per hour for legal assistant and intern time after we have notified you of problems and scope of the additional work and you have agreed to it. However, we do not anticipate these additional time charges will be necessary.
Financially, how has this worked for the law firm? Here is some baseline information from my practice: Over the last two years, my overhead expenses or cost per hour was $113.29. My standard hourly rate was $275 per hour, and my securities rate was $325 per hour.
Over the last 25 private placements quoted during that two-year period, 20 deals were offered the hourly rate or fixed-fee/success-fee basis. Sixteen clients selected the fixed/success option, none selected the hourly option, and four decided not to do a deal. Of the 16 going-forward deals, eight closed and eight did not. On those deals that did not close, the lowest realization rate was slightly more than $200 per hour, and the highest realization rate was slightly less than $275 an hour. On those deals that closed, the realization rate was $731.35 per hour.
As can be seen, for the deals that didn’t close, each one more than covered the overhead expenses, with some nearing my standard billing rate. With the deals that did close, my average realization rate was $618.06 over my overhead expenses. The clients were happy and I certainly was, too.