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The billable hour creates perverse incentives

March 27, 2013

The New York Times yesterday carried an article highlighting a law suit that revolves around law firm fees and charging practices. A client of DLA Piper has not only refused to pay his bill, but has filed counter-suit alleging ‘a sweeping practice of overbilling’ and seeking punitive damages of $22.5 million.

The disclosure process has resulted in a number of emails becoming public, which reveal interesting exchanges between the attorneys involved in the case. When asked to comment, a number of law professors comment on the growing hostility to current charging methods and one observed that ‘the billable hour creates perverse incentives’.

While lawyers come in for specially strong condemnation on this issue (doubtless because of the scale of their fees and hourly rates), there is plenty to suggest that this is a more generic problem related to the services industry. TPI set up an entire division scrutinizing invoices from outsourcing service providers and found typical error rates equivalent to 7%+ of annual charges.

It seems surprising in today’s technology-driven world that service agreements still rely on either fixed fee or hourly rate billing. Performance or outcome based contracts remain the exception, but may be part of the answer for clients. Other solutions may come from the increased involvement of Procurement in oversight of law firm billing, plus a drive for greater transparency in the billing system (e.g. remote access into real-time charges, as opposed to monthly bills).

Overall, the formula and methods for services pricing and charging seem due for an overhaul and an area where surely there must be innovation.

2 Comments
  1. Ian Heptinstall permalink

    My only surprise is why someone thought it was “perverse”. If you pay someone by the hour you are incentivising them to maximise the number of hours. It is quite simple. You are also penalising them if they find a way to meet your requirement in fewer hours than you expect.

    It also creates an industry of contract enforcers, one fighting for the supplier’s entitlements, the other arguing against the quantity claimed

  2. PS. Having looked it up, “perverse” can have several meanings. My comment was based on it meaning “not having any logical basis”, making the point that the contract form encourages such behaviour, and so it is entirely logical. I’ve not read the case and am assuming we are talking about more than just fraud.

    However it can also mean “wrong or unjust”, and in such cases I agree that this kind of contracts is perverse – paying for quantity when what you want is quality.

    Maybe there are many “perverse-squared” contracts. Internally consistent and logical, but that make little real business sense.

    IH

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