Yes-you read that right-law firms have started competing for client business by submitting bids in an auction the clients conduct for legal fees.  This is yet another consequence of the challenging economy which is forcing companies to tighten their belts and forcing law firms to agree to accept lower fees because of an overall loss of client business.  For example, the mega-pharmaceutical company GlaxoSmithKline requires its law firms to use an electronic auction to bid for the company’s business-thereby giving the firms an opportunity to underbid their competition.

Conducting such auctions is not commonplace (yet).  However in-house legal departments are increasingly turning to auctions, mostly for flat-fee billing projects, to choose outside counsel.  The auction is really a “reverse auction”-the sellers (the attorneys) are the ones bidding in the auction for the business of the “buyer”, i.e. the client.

GlaxoSmithKline has reported that conducting such auctions, even for small matters, has been very effective, and they urge other companies to use the auction in order to reduce their legal bills while maintaining the same level of service.  GSK started using auctions last year and so far it has conducted sixty such auctions involving close to 100 law firms. It has saved more than $21 million so far when comparing the law firms’ initial bids to the final offers GSK made.

The way GSK’s auction works is that bids are solicited from approximately eight different law firms that GSK has already screened for suitability.  Once the bids have been submitted, the firms are informed of the lowest bid (but the identity of the lowest bidder is not divulged) so that they can compare it against their own bid.  The law firms are then given one day to decide whether to change their offer, i.e., lower their fee.  The process can be quite tedious for GSK which sometimes has to review sixty bids.

GSK cautions that it does not always accept the lowest offer.  A lot of their final decision rests on the quality of the firm and the firm with the best chance of succeeding.  As for the firms that do not win the auction, GSK offers them feedback as to what areas they can improve.

These auctions reveal the increased influence of corporate procurement groups on in-house legal departments.  This is just one of the tools procurement departments use to control costs.

In a recent report on alternative fee arrangements sponsored by LexisNexis and conducted by ALM Legal Intelligence, about twenty percent of 140 law departments surveyed indicated that they had implemented reverse auctions or competitive bidding on high-volume and repetitive work.  About 36% of the 194 firms surveyed had been asked to bid on such auctions.

Critics of such auctions claim that it is a “race to the bottom” and that it is simply not an appropriate way to decide on the provider of legal services.  Sometimes, legal services involve issues other than how much to spend on attorney fees, for example, whether the client has to settle for an astronomical sum or whether it can get the case dismissed by paying a lawyer more to stay with a case until the dispositive motion phase.  Also, auctions pose a risk for both the client and the law firm.  Clients have to beware of law firms that are submitting low bids because they are desperate for work-which might be an indication of a law firm that does not deliver quality services.  Law firms should be wary of such auctions because it might eat into their profit margins too much.  Auctions are best suited for routine work that is low risk-but only after the law firms have been properly screened for suitability.

The insurance giant Marsh & McLennan also participates in auctions. It gives law firms several days to complete a template of requested information, including legal plan, staffing model, experience and proposed pricing.  If Marsh & McLennan is interested in a firm that submitted a higher bid than other firms, it might ask the firm if it submitted its best price.  Sometimes, the firms do not submit their lowest bid because they want to leave room for negotiation.  Marsh & McLennan, however, will not inform the firms of competitors’ bids.  Marsh & McLennan uses such auctions for transactions with clear beginnings and endings such as early case assessments in litigation or certain corporate transactions.

There have been times where firms have submitted a bid of zero to Marsh & McLennan in the hopes that they will eventually receive long-term work.  The law firms see it as a pure investment.  Before Marsh & McLennan instituted its auction practice, it would usually reach out to firms with which it had a relationship and after some negotiating, retain them on agreed hourly rates.  Now, Marsh & McLennan solicits bids from a list of preferred firms that have been pre-screened.  The qualifying law firms must bill at 2010 rates, and they must give a minimum of a 10% discount on all matters that are not alternative fees.

Another big name that has been using auctions since 2007 is Deutsche Bank. It calls its auction “Clicks4Legal”.  In their auction, pre-screened law firms submit bids via e-mail on flat fee or capped fee projects.  At first, the law firm quotes were lacking, but they have been getting better over time.  Usually, the lowest bidder gets the assignment because at that point in the process, the price is one of the last factors Deutsche Bank looks at in determining which law firm to choose.  So far the Bank has saved 10-15% in legal fees over the past two years.  An added benefit to using auctions is that the Bank now has a better handle on what its legal costs are going to be going forward which is very important when preparing cost projections.

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