This article identifies current trends in the management of law firms. Its findings are based on the results of the PLC Law Department benchmarking survey on law firm partnering 2009 (see About the survey). It aims to provide useful comparative data for senior lawyers tasked with managing legal functions.

PLC Law Department is keen to hear your views and experiences on any of the themes that have emerged from this survey. Please contact William Long if you have any comments, and we will post them here.

Fourteen main trends emerged from the survey results. A series of graphs highlighting these trends is also provided.

The cost-efficient delivery of legal services, already a priority for legal departments, has become imperative as the economic crisis deepens and budgets are constrained.

Internalising work is an approach that companies have been increasingly adopting in recent years (see previous benchmarking surveys Law firm partnering 2008 and Finding, keeping and motivating talent 2008). Respondents to the Law firm partnering survey 2005 indicated that there were nine areas in which over half of work was dealt with by law firms – this year there were only two.

As belts are tightened, under a "make or buy" analysis externalising work can seem an expensive option compared to squeezing more from internal resources. At the same time, in-house lawyers may in some instances be viewed as more effective than their private practice counterparts – they could benefit from an increased knowledge of the business and may be more versatile.

Last year's Finding, keeping and motivating talent survey revealed that the majority of general counsel were looking to increase the size of their legal teams to deal with the increased workload (click here for more on this) – but as the recession deepens the challenge to do more with existing internal resources remains.

The internalisation of legal work has an obvious knock-on effect for companies' relationships with law firms. Work is being internalised in areas where the legal department can be expected to already have a significant level of expertise, such as dispute resolution, corporate transactions or company law. By contrast, those areas in which more work was outsourced this year than last year (such as IP, and IT and e-commerce) typically require specialist expertise. This suggests that companies are only prepared to meet the expense of instructing law firms where they have no choice – in particular where they need specialist expertise unavailable in-house (see Trend 12).

How law firms will react to the increasing imperative to prove value, in a climate which is exerting extreme pressure on their own budgets, remains to be seen. There are some indications that law firms are becoming more open to moving away from the hourly rate in order to reassure clients that they are getting value for money (see Trend 9 and Case Study: ITV plc). As well as increased flexibility on fees, there is also a suggestion that law firms should position themselves to take on the high-volume, specialist or high-value work which is less likely to be internalised (see Trend 12).

It is unclear to what extent the internalisation of work will succeed as a cost-saving measure in the long-term. While respondents have been reporting a gradual internalisation of work for two years (see Trend 1, Law firm partnering 2008 and Finding, keeping and motivating talent 2008), this has not been accompanied by a reduction in either external or internal spend on legal work, which have in fact both continued to increase.

An increase in internal spend is a predictable consequence of the internalisation of legal work, as more internal resources are required to get the job done. The extra demand on internal budgets are in theory outweighed by savings in external spend.

However, responses to this year's survey show that spend on outside lawyers has in fact also increased for around two fifths of respondents. For some, this is the result of an unavoidable uplift in work, with some respondents citing large M&A transactions, litigation or restructuring costs as reasons for the rise. The responses also, of course, reflect the fact that for at least part of the period in question (November 2007 - November 2008) the impact of the credit crunch will not have hit most companies. Nevertheless, the continued increase of both internal and external budgets is an unsustainable situation in the current climate.

Therefore it comes as no surprise that two fifths of respondents expect their spend on outside lawyers to decrease next year (only one fifth expected this last year). The responses to this year's survey suggest that this will be achieved through internalisation of work; coupled with a greater inclination towards more value-based methods of billing (see Trend 9).

Reducing the number of law firms instructed can form a key part of a strategy to increase the cost-effectiveness of the delivery of legal services. Together with the efficient use of law firm panels (see Trend 4) it is easier to manage relationships with fewer firms, and it is also easier to deliver on the firms' expectations when it comes to the volume of work outsourced to them.

This distillation of law firm relationships looks set to continue. Over half of respondents expect the number of law firms to stay the same next year, but almost a third expect the number to decrease (almost double the proportion who thought the number of law firms they instruct would decrease last year). The continued pressure to cut back on costs, coupled with the internalisation of work (see Trend 1) is a powerful argument to continue boiling down law firm relationships to the bare minimum.

The last four years have seen a clear trend in favour of the use of panels as a way to get the most out of law firms. Eight out of ten companies have a panel of law firms (whether an informal panel of relationship firms or a formal one set up through a deliberate selection process). The success of this approach is attributable to a number of key factors, including:

The findings indicate that companies are reducing the number of firms on their panel as a means of improving these relationships. Provided that a smaller panel can provide the degree of geographical and specialist coverage required by the business, the objectives of panels summarised above would all be enhanced with fewer firms. A smaller panel can be easier to manage, and general counsel can invest more time in the relationships. In recent years there have been some notable examples of multinational companies that have even reduced their panels to one or two law firms; when handled successfully this can lead to significant savings in overall legal spend (see Case study: Tyco and Case study: Nestle).

Combined with the clear trend towards the use of panels, and towards fewer firms on these panels (see Trend 4), these findings are further evidence that general counsel are seeking to tighten control of and deepen relationships with their law firms. While these trends were evident in the relatively comfortable economic environment a few years ago, the new heightened pressure on the legal function to deliver cost-effective advice has led to the increased adoption of formal selection and management processes.

The use of a formal panel (set up through a deliberate selection process rather than a series of historic law firm relationships) augments the practical benefits of panels (see Trend 4). Law firms are typically selected following a request for proposal and interviews with shortlisted firms. This process helps ensure that companies get the most out of their law firms in terms of value and quality, and enables the company and the law firm to get to know and understand each other at an early stage.

Once a law firm has been selected, a well-crafted engagement letter can do much to ensure that the relationship is mutually beneficial, by establishing clear parameters at the very beginning. In 2005, around 60% of companies always or usually used engagement letters, which had risen to around 65% last year. This year there was a sharp increase to around 75%, which may reflect new demands for close scrutiny when it comes to the management of law firm relationships.

Since 2005, PLC Law Department benchmarking surveys on law firm partnering have consistently shown that overall general counsel retain tight control over the selection, instruction and management of outside lawyers. This year, the picture remains the same, with business colleagues having a very limited role in the relationship.

Reasons why the general counsel should maintain tight control over external lawyers include:

The top three factors influencing the choice of law firms according to this year's respondents were:

However, the ability to manage costs is becoming increasingly important when it comes to the selection of law firms:

The top three selection criteria this year (see above) have consistently been the most important factors revealed in PLC Law Department benchmarking surveys since 2005. Taken together they amount to the basic requirements for any law firm to begin to compete in the corporate marketplace. When it comes to distinguishing between the many law firms that excel in these areas however, other factors come into play.

While cost remains a relatively minor factor when it comes to selection criteria (around 57% of respondents rated it as very or extremely important), this represents a significant increase on last year (around 45%) and 2007 (around 49%). It is likely that this rise in importance is attributable to the pressures of the economic climate; once firms have successfully established that they can deliver on the most crucial requirements, ability to do so in a cost-effective manner is now essential.

Law firms' ability to demonstrate cost-effectiveness is a recurring theme in this year's findings. When asked to rate the usefulness of law firm technology, a significantly larger proportion of respondents pointed to electronic billing and time reporting online as very or extremely valuable than was reported last year. Likewise there has been a marked rise in the proportion of respondents who rate details of cost and approach to billing as very or extremely important when it comes to law firm pitches.

Diversity issues have moved higher up the agenda of the business world in general in recent years, and this has been accompanied by a steady growth in the proportion of general counsel who ask for diversity information when selecting law firms. While only a fifth of respondents ask for this information, this represents a substantial increase since 2007, when only around 3% did so (see Diversity: an opportunity to change the legal community for the better)

Most general counsel appear to remain wedded to an hourly rate, which has accounted for the majority of work billed for by law firms for many years. However many senior in-house lawyers express significant frustration at the time-based invoice on the basis that it does not truly reflect the value of the work that has been done and provides no incentive for law firms to build efficiencies into the way in which they work. This year's findings indicate that the stranglehold of the hourly rate is beginning to weaken and there has been a significant decrease in the amount of work billed in this way.

One company that has moved away from hourly billing entirely is ITV plc (see Case study – ITV plc). Group legal director and general counsel Andrew Garard describes what he perceives to be the main defects in the hourly billing model:

In recent years, companies have increasingly outsourced elements of business processes (HR, customer support or IT systems for example) to jurisdictions that can perform these functions more cost-effectively. By outsourcing business processes on a multi-jurisdictional basis, companies have also achieved a high degree of global standardisation.

The uptake of legal process outsourcing (outsourcing low-risk, commoditised elements of the legal process) has been less dramatic. Notably this year some multi-national companies have rolled out an LPO strategy. But the findings of this year's survey reflect a degree of reluctance on the part of general counsel to engage with LPO as a cost-saving strategy. Over half reported that they envisaged that LPO would have only a slight impact, or no impact at all, on their delivery of legal services over the next five years.

However, while there is some ambivalence about the impact of LPO on their own in-house teams, the findings suggest that general counsel are much more open to the use of LPO by their law firms, particularly if this leads to better cost management and focus on higher value work. Despite some concerns over practical implementation (one respondent commented "I would have serious concerns over the quality of work"), over half would like their law firms to engage in LPO, and two thirds feel that the successful use of LPO would help achieve these aims.

In common with views on law firms' use of technology (see Trend 14), general counsel are prepared to be enthusiastic about any measure taken by private practice counterparts that results in cost savings. "Even if these measures don't benefit us directly, if firms are more efficient then they should lower their fees to us," said one respondent. "I have no view on LPO, but would appreciate lower billing rates," agreed another.

Companies' readiness to encourage any cost-saving measure on behalf of their law firms, and their hesitance to undergo the expense and risk of setting up similar measures themselves, is understandable in the current climate. However, as internal budgets continue to rise (see Trend 2), there is arguably now a stronger case than ever to examine its potential.

Given the continued increase in legal spend (see Trend 2) and the rising importance of cost management in the relationship with external lawyers (see Trend 11), value for money is a pressing concern for general counsel.

However, there appears to be a disconnect between any objective standards for the performance of law firms and general counsels' perception of their value in reality. Nearly two thirds believe that law firm value is subjective and cannot be measured (this figure was around 70% last year and just over half in 2007). 9% rely on reports from their law firms, around one in five use manually entered data from invoices and other sources and around 7% use data from electronic invoicing and other sources.

The findings suggest that assessing the value of law firms is not a matter of simply wading through invoices and data surrounding legal spend. While cost is increasingly vital to the relationship, also essential is the ability of the law firms to understand the business, to solve problems and to deliver from a technical point of view. The extent to which a law firm does this over a period of time may be best judged by the subjective impressions of the general counsel.

Despite this, measuring spend on external lawyers is an essential starting point when it comes to determining value for money. The findings suggest that general counsel could do more to achieve a comprehensive view of external spend. Nearly half take no formal steps to monitor their law firms' adherence to terms, a remarkable finding in view of the pressures they are under to deliver on cost-efficiency. Two fifths use excel spreadsheets to measure legal spend; a method which can deliver much less useful information about the efficiency of external lawyers than more sophisticated technology (see The transparent billable hour).

However, some respondents commented that they had taken steps to objectively monitor law firm value and adherence to terms. Examples of approaches taken included:

It is interesting that the vast majority of respondents do not rely on the expertise of their company's procurement department when it comes to buying external legal services. A minority use procurement staff to draw up requests for proposal, benchmark pitches, or to provide oversight of the tender process. However purchasing legal advice is clearly believed to be distinct from purchasing other business services, and at least amongst lawyers the sense appears to be that it is best managed within the legal department.

Legal work is increasingly being internalised (see Trend 1) in an effort to cut back on the cost of legal services, and where it is outsourced to law firms, the extra cost must be justified. The main reasons for sending the work out, however, have changed little over recent years.

A lack of specialist in-house expertise has been the predominant reason for outsourcing legal work since 2005. This is unsurprising given that nearly two thirds of general counsel prefer to recruit generalists than specialists. As companies build teams that are versatile and flexible, there is no choice but to rely on external advisers for highly specialised work.

The fact that nearly a third of work is outsourced because it involves work that the internal team has the expertise to do but not the time or resources suggests that there is room for still further internalisation. It may be that in the long term it is cheaper to internalise this significant tranche of work (through hiring more lawyers for example) than to rely on external resources where specialist expertise is not at issue.

The findings also indicate that general counsel have succeeded in finding cost-effective solutions to dealing with routine work internally (for example by bringing this within the remit of the internal team or enabling the business to prevent or avoid routine problems). This year only around an eighth of work was outsourced because it involved routine work that was more cost-effective to outsource – a fifth of work was outsourced for this reason in 2005.

As more work is internalised, and companies outsource work to smaller panels (see Trends xx and xx), competition among law firms is now even fiercer. The ability to communicate to general counsel that the firm can be an invaluable partner to the legal function is more important than ever. As law firm budgets are ever more constrained, those who can focus their resources on the most persuasive methods of getting the message across are those who are most likely to succeed.

This year's results show that the most successful methods are those that demonstrate the firm's expertise, and their willingness to provide "value-added" services. Two fifths of respondents are strongly persuaded by law firm publications – free updates on new regulation or newsletters in specific practice areas or sectors work well. Similarly over half now rate client seminars as persuasive – these represent an excellent opportunity for the prospective client to meet the individuals on whose expertise they will come to rely. At the same time legal departments can benefit hugely from the opportunity to get up to speed with developments.

By contrast, marketing methods that are not closely linked with the specialist expertise that law firms offer, and that do not in themselves add any value to the internal legal function, are less likely to succeed. Only around 6% of respondents were strongly persuaded by marketing brochures about practice groups and services; only 2.3% rated invitations to sporting and cultural events in this way. Significantly, 30% of respondents agreed with the statement that "in general my law firms do not have much concept of what value-added service means to me and this company." The message for law firms is clear; focus resources on marketing methods that focus on value and make in-house lawyers' lives easier.

Last year's benchmarking survey on law firm partnering reflected ambivalence among general counsel about the significant value law firms could provide through technology. This year, despite the relative reluctance to use technological spend management solutions (see Trend xx) above, respondents are more enthusiastic about a wide range of ways in which law firms can deliver value to them through technology.

While only one piece of technology is rated as very or extremely important by over half of respondents (secure e-mail – a given in today's business world) there has been an increase of around 10% in the proportion of respondents who rate other law firm technology in this way. Over a third of respondents agreed with the statement that "Firms could certainly add value through improved use of technology." Technology clearly has an increasingly central role to play in the delivery of valuable legal services from law firms to their clients and it appears that in-house departments are at last waking up to its potential to build efficiencies and save costs when it comes to instructing outside advisers.

Please click here for a series of graphs illustrating the main findings to emerge from this year's benchmarking survey on law firm partnering.