Don’t Try This Alternative Fee Arrangement At Home

rewwThis article originally appeared in the Los Angeles Daily Journal.

Lawyers, on the whole, make pretty poor business owners. Ask any MBA graduate or marketing guru. I never gave this a second thought during my first decade of practice, when I was too busy wondering why I wasn’t earning as much as some of my classmates (while admittedly earning more than others) to think about the bottom line. It turns out, however, that stars really must align in order for a billed hour to ripen into a collected greenback. A client is needed who not only can afford to pay, but who will pay. This axiom is apparently so obvious that most law schools don’t waste even a minute teaching it. Go figure.

Talk of alternative fee arrangements is all the rage. While opinions differ about which arrangements work, or are really “alternative,” I can identify one arrangement that is virtually guaranteed to fail, eventually: I call it the “hourly-contingency” model.

I was introduced to the mechanics of the hourly-contingency model by a colleague with whom I worked a few years back. I considered him a dunce then, and I remember him as one now. But I’ve come to realize that the hourly-contingency model as he structured it — however inadvertently — is actually a common practice by litigators everywhere, from solo practitioners to BigLaw firms.

Here’s what I’m talking about. A client finds her way into your office with a set of facts that simply scream for redress. It’s a business spat, a breached contract or a real estate deal gone bad. Her case is sufficiently textbook. There are promising facts on the plus side and manageable details on the negative. The biggest plus of all is a solvent defendant. You discuss costs; she’s prepared to pay. You sign her up and you’re off to the races.

Things start out well. The opposition balks at your demand. This was expected. You file a complaint, exchange discovery, some documents, emails, computer files, etc. Some key early depositions are conducted. The facts that made the case attractive remain strong and you continue to believe you can manage the negatives. But one thing does change: your client, so gung-ho to sue and so prompt to pay at the outset, has been slow to return calls and even slower to pay her bill. As soon as her A/R hits 90 days you call her in for the “talk.”

As you expected, money has gotten tight. Your client still wants to pursue the case and promises to pay, but just simply can’t right now. You extract a small check toward her A/R, send her on her way and privately vow to handle the case more “economically” going forward, at least until your client gets current.

Only your client never gets current. And your opposition decides to ramp things up, making it impossible to handle the case more economically. A few months and another “talk” with the client yield nothing, not even another check toward her now rapidly growing A/R. Well, you think, the case should settle soon, and she can get current with the proceeds …

Where the story goes from here doesn’t matter. Or, actually, it makes all the difference, and that proves my point. Either the case settles or gets tried, a favorable result is reached and the client pays up, or things don’t go well and you end up eating a substantial chunk of your bill. When this happened to my … er … colleague, he ended up eating about $80,000 in unpaid fees, not because the client did not want to pay, but because she couldn’t and he had allowed the case to get into this unfortunate posture.

The hourly-contingency case. You bill clients for your time, but there’s no guarantee you’ll collect unless you win. But it’s not a true contingency fee because there’s no bonus for a great result to justify the gamble of taking the case on contingency. It’s not what either the lawyer or the client intended, but both acted in concert, if purely through inertia, to allow it to happen.

How do you keep an hourly case from unintentionally going contingency? It turns out it’s not terribly complicated, but it does require discipline. And it begins with a retainer check. I left this out of the hypo above, and I could just hear readers muttering under their breath, “Of course there’s a retainer, right?”

I left out the part about the retainer because lots of lawyers do business with new clients without a retainer. It’s not because lawyers, even those who lack business acumen, do not understand the wisdom of collecting a retainer up front, it’s that we really don’t enjoy doing it. It’s an uncomfortable conversation. But it’s a necessary one. Lawyers who are diligent about getting a retainer fee are less likely to get stuck holding the bag if a case, a client, or both go south.

Lawyers and clients can agree to apply the retainer to the first billings, or for the funds to be held in client trust until the close of the case, and applied to unpaid invoices or refunded at that time. Beware: all but the wealthiest clients will want — and may expect — the retainer to be applied right away. But this would be no help at all in our hypothetical above. The upshot is that it takes discipline, both to ask for the retainer, and to retain the retainer until the case is closed and the client is current.

If it takes discipline to protect yourself with a retainer, it takes far greater discipline to recognize you’re sliding into the hourly-contingency situation and to cut the client off. This is particularly true if, as in our hypothetical, you share your client’s belief in the quality of her case. And could there be a more uncomfortable conversation? The temptation exists to believe if you just hang on a little bit longer the case will settle and you’ll get paid.

It’s only with discipline, by tempering that temptation, that you can prevent a case that’s headed for the hourly-contingency sinkhole from getting there. Leave this particular alternative fee arrangement for someone else.

About Alex Craigie

I am an AV-Preeminent rated trial lawyer. My practice focuses on helping companies throughout Southern California resolve employment and business disputes. The words in this blog are mine alone, and do not reflect the views of the Dykema law firm or its clients. Also, these words are not intended to constitute legal advice, and reading or commenting on this blog does not create attorney-client relationship. Reach me at acraigie@dykema.com. View all posts by Alex Craigie

2 responses to “Don’t Try This Alternative Fee Arrangement At Home

  • Ron

    Our firm has long used an hourly – contingency fee, which, under appropriate circumstances, gives our firm an option to switch from an hourly fee to a contingency fee, if the client’s fees are more than 60 days old, after 30 days notice to the client, of our intent to exercise that option. The client then has the option of avoiding that conversion, by signing and returning a substitution of attorney within the 30 days.

    I would appreciate any thoughts which the subscribers may have on this approach.

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