Best Practice: Can you make money from contingency fee work?

Asked and Answered By John W. Olmstead, MBA, Ph.D, CMC Q. Our firm is a 12 attorney general practice firm located in the Phoenix metropolitan area. In additional to general practice, we do a fair amount of insurance defense work as well. In an effort to improve firm profitability we have been considering alternative fee arrangements - particularlly contingency fees - with some of our existing clients as well as venturing into personal injury plaintiff work. Can we improve profitability by doing more contingency fee work? A. The CEO of the Howrey LLP, when interviewed about the law firm's recent dissolution, advised that deferred profits from contingency fee work led to the firm's demise.  Howrey is a good illustration of what can happen when the risks of contingency fee work is not considered or managed. Contingency-fee work can pose major risks for law firms, as they earn no fees if they lose those cases and sometimes have profits deferred in protracted litigation. In addition, cases can be lost with no fee whatsoever received. Whether your firm is considering "big deal" litigation or bread and butter run of the mill personal injury litigation you may want to consider the following: 1. Don't dabble in contingency fee work. Take it seriously and insure that your case portfolio is adequately diversified. 2. Reduce case portfolio risk and improve case profitability by implementing a sound case intake system to insure that you are selecting quality cases. 3. Realize that you have to spend money to make money and that you simply may not have the financial resources to take on certain cases. Learn how to say no and when to refer these cases out to others. 4. Insure that you have an adequate portfolio of cases (number of cases, size and type) to insure diversification and manage risk. 5. Analyze the profitability and return on each case and ascertain what can be done differently on future cases. Typical metrics include effective rate and/or LODESTAR. In essence the fundamentals of risk and return is at work and should be considered when accepting contingency fee work. You are betting that you can beat your hourly rate that you receive (or would receive) on hourly work. Contingency fee work often involves the risk of no fee at all, financing the case, long time periods before the case is concluded and fees are received, client advance investments, etc. For these risks the firm should be able to expect a premium. In other words - the effective rate on contingency fee cases should (on average) be greater than that for hourly work. Many law firms are not receiving a "risk premium" at all and are often, on average, obtaining an effective rate close to their bill rate. So, do consider the risk involved and evaluate methods of mitigating the risk as much as possible. In general - don't dabble - but work to a portfolio of cases large enough to diversify your risks. Herbert Kritzer has done extensive academic research over the years on contingency fees which can be found in his book - Risks, Reputations, and Rewards: Contingency Fee Legal Practice in the United States. The book can be ordered from Amazon.com. Link to Amazon While I have outlined a cautious approach here I want to also clarify that I have many clients that are doing very well and making a lot of money doing contingency fee work. It is the firms that did not grow up doing contingency fee work that "dabble" where I see the problems. So proceed with caution - but go for it if it makes strategic sense for your firm. Click here for blog ideas for personal injury firms Click here for articles on other topics John W. Olmstead, MBA, Ph.D, CMC, (www.olmsteadassoc.com) is a past chair and member of the ISBA Standing Committee on Law Office Management and Economics. For more information on law office management please direct questions to the ISBA listserver, which John and other committee members review, or view archived copies of The Bottom Line Newsletters. Contact John at jolmstead@olmsteadassoc.com.