Written by Rees W. Morrison, Esq.
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(In 2011 the General Counsel Metrics, LLC final release had 54 manufacturing companies from the US or Canada whose combined revenue was $123 billion. That large set of departments employed a total of 1,234 in-house lawyers. This article draws on that data.)
Roughly two-thirds of a typical legal department’s expenditures goes to law firms. As compared to employees with their relatively fixed costs, what you spend on law firms varies more from year to year.
The median in manufacturing is 0.15 percent for “external legal spending as a percentage of revenue.” So, manufacturing companies in 2011 spent on outside counsel about $1,500,000 for every $1 billion of revenue.
Each law department benchmark illuminates only one aspect of the efficiency question. All benchmarks can be manipulated.The company could fire in-house lawyers, and look good on Lawyers per billion but pay through the nose for costly lawyers in law firms. Or the company could bulk up inside, use law firms less, but total legal spend per unit of revenue might go out of whack. Individual benchmark metrics can be hydraulic, squeeze one down and another one may bulge up.
For this reason, the best measure is the broadest, “total legal spending as a percentage of company revenue.” Total legal spending consists of “external spend” added to “internal spend.”
Internal spend typically consists of three-quarters for compensation and benefits, including bonuses and equity awards, but also allocated overhead, IT charge-backs, facilities charges, travel, CLE, and other internal operating expenses.
In 2011, the median of total legal spending ran at about 0.12percent of revenue. Keep in mind that “total legal spend” understates “total” because it excludes fines, settlements, and judgments. At the first quartile among manufacturing companies, the total-spend was .17 percent of revenue while the third quartile was .45 percent.
One other figure is often evaluated, how much it costs per hour to maintain your internal lawyers.Since few inside lawyers track their time, analysts assume they could each charge 1,800 hours per year for services to their internal clients. GC Metrics tells us the median “hourly rate” they would have to charge to fully cover their internal costs is $190. Compare that rate to the overall effective billing rate you pay your main law firms and you make tangible the cost-savings of busy in-house lawyers.
Imagine a $2 billion manufacturing company based in the United States or Canada and in the middle of the pack on legal staffing and spending. According to the GC Metrics survey, it would have 4.9 lawyers and 9.6 total legal headcount, which would cost $2,400,000 internally. Each lawyer would have to “charge” $190.07 per hour for the department to “recover” these costs. This prototype would also spend $3,000,000 on outside law firms for a total legal spend of approximately $5.5 million.
Where does your company stand?
Adjust for your size, since as companies grow their normalised metrics improve. Economies of scale operate here so bigger is better for legal costs and personnel numbers. Also, adjust a bit if your legal department is mostly based in a relatively low-cost or high-cost city.
Law departments should calculate the corresponding figures back three or four years. Ideally, having done both the historical trending and the current comparison, you have an objective dashboard with which to evaluate aspects of the performance of your legal team.
If your company lags one or more of the medians for your industry, what can you do?
- Hire good lawyers and keep them
- Retain and manage law firms cost-effectively
- Invest to prevent legal problems; use supportive technology
- Focus on high priority issues
- Know your client’s business inside and out
Law department benchmarks, such as those readily available from General Counsel Metrics, provide manufacturing companies with standard terminology and objective data. They give executives a shared basis for discussing the legal department’s headcount, cost, and performance – and suggest areas to work on and improve.