Complex Litigation Services (Part 4) – Why Are Rates So High?
We have now set the stage for the key part of our discussion about complex litigation and our final two posts on this topic: the costs in the marketplace for complex litigation services and how Hilgers Graben uses business principles to drive down those costs.
To summarize to date: in Part 1, we discussed what complex litigation services look like by focusing on the key team roles; in Part 2, we covered the various types of firms that could provide these services, both large and small; and in Part 3, we explored the special case of a “virtual” firm.
In this Part 4, we look at Big Law costs, the primary drivers of those costs, and how those costs impact the cost you pay when engaging Big Law to handle a complex litigation matter.
There is no debate that the billable rates at these kinds of firms are astronomical. Partners are over $2,000 at many Big Law firms. Associate rates often land close to, or over, $1,000 per hour. Even non-attorney paralegal rates can be near or over $500 per hour!
Why are the costs so high?
Like any business, a primary driver of the cost to the customers is the cost to the business to deliver those services. Law firms are not exempt from this rule.
Large law firms have almost uniformly built expensive cost structures that lead to high fees for clients, whether through billable hourly rates or alternative fee arrangements.
What are these cost structures?
The common way law firms think about what makes up their hourly rates is the “one-third” rule.
This rule says that one-third of the billable rate goes to the attorney doing the work; one-third goes to the firm to cover overhead; and the final third goes to firm profit.
While inexact, it is a directionally helpful framework for understanding why law firm costs are so high.
Let’s break it down. We’ll start with the first portion: the costs of attorneys. The war for talent in Big Law is driven in part because there is competition around salaries. While law firm billing rates are not generally known to the public (which limits the impact of competitive forces) law firm associate salaries generally are public. Big Law salary memos are widely shared on major media sites like Above the Law and are in wide circulation. They have become a perceived marker as to whether a large law firm fits among the “elite,” and therefore more able to attract new talent and top clients.
While competitive pressures typically lower costs in most industries, when it comes to Big Law attorney salaries there is a perverse outcome—the competitive pressure that increases costs. When salaries rise at one of the industry leaders, like Cravath, other firms tend to follow. In a recent Law.com article, a CEO at a large law firm made the point: “You’ve got a lot of firms out there that from an image perspective believe they have to match the Cravath scale or at least get very close.”
What do these salaries look like?
They frequently top $200,000 per year for a first-year attorney fresh out of law school and exceed $400,000 per year for more senior associates. After adding benefits and other employment costs—which may range up to 25% or more of the overall salary of the individual—attorney salaries are a formidable set of fixed costs for large law firms.
The second one-third of the billable rate is overhead. By some metrics, overhead per law firm can be up to $250,000 or more per lawyer.
There are many reasons for these high overhead costs, but for this post we highlight two. The first is Big Law’s reliance on large office space with high-end finishes. Large commercial law firms have massive spaces, measured not in the tens of thousands but hundreds of thousands of square feet—in some cases, over 200,000 square feet, 300,000 or even nearly 600,000!
In the most expensive real estate markets, the average starting rent can be in the $70s / square foot, and for larger cities in the $50s / square foot. When you add in high-end finishes like marble countertops, expensive artwork, and so on, the cost goes even higher. What does that mean in cost per lawyer? According to one report, the average space at Am Law 100 firms is 985 square feet per attorney. In the big cities, that can be up to $50,000 – 70,000 or more per attorney for office space. This becomes another enormous cost driver for large firms.
A second primary cause of high overhead costs is the “geography tax.” The highest per hour rates at law firms, and the biggest annual increases of those hourly rates, occur in big cities. Cities that had the highest hourly rate increases in 2022 were Washington D.C., Chicago, Los Angeles, New York, San Francisco, and Seattle. These cities are also where most Am Law 100 lawyers are based. As we all know, everything is more expensive in big cities—from the attorneys and support staff to the bottled water, utilities, and other ancillary services.
The final one-third of the billable hour component is profits-per-equity-partner. Like associate salaries, this metric is both public and perceived as critical to hiring the “best and the brightest.” Profits-per-equity-partner is simply the profits generated by the firm in a given year divided by the number of equity partners.
This is such an important metric that it has its own Wikipedia page!
When you start to add these up—associate salaries north of $200,000, overhead north of $200,000, and publicly disclosed profits-per-equity-partner often north of one million dollars—you can start to see the significant drivers of cost for large firms and, correspondingly, why their hourly rates are so high.
Not only are these costs high, they are largely hard-coded into the current system. A firm wanting to think differently than the pack on associate salaries and compensation will face great in risk stepping away from what its peers in the Am Law 100 do—no longer able to compete for talent in the backward world of elite law firms. Likewise, firms that have long-term office leases cannot simply rip them up—fixed costs are just that, fixed. And there is little hope that the Am Law 100 firms will move away from the profits-per-equity-partner metric either. They are all basically caught in an ever-increasing cost spiral.
These high costs—along with the lock-step salary model, yearly increases for rent, and competition for growth in annual profits-per-equity-partner—create enormous upward pressure on billing rates at large law firms.
It is also why alternative fee arrangements (AFAs) at most large law firms do not really result in true savings to clients. Firms have revenue targets they have to meet, and if the underlying cost chassis is expensive, it does not matter what body style is put on top. It ultimately all costs the same to the client.
The bad news for clients from this discussion? The primary market option for complex litigation services will be immutably high-cost for the foreseeable future.
The good news? There are opportunities for nimble marketplace competitors to disrupt the market, re-think the necessity of these costs, and provide the same services at a much lower rate.
In our next and final post in this series on complex litigation, we will talk about how Hilgers Graben has attacked these cost structures to provide high-end complex litigation services at a markedly lower cost.