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Eight Tips for Controlling Costs for In-House Lawyers Working in Private Equity

When deal flow falls, cost scrutiny rises. Among the budgets that are vulnerable – are those belonging to enabling functions like legal.

I know this firsthand as a former lawyer who later went to work in private equity as an investment manager. Still later, I’d combine these two passions as an entrepreneur, that in part, keeps close tabs on the legal community in private equity.

As such, my team has commissioned three independent surveys of 560 in-house lawyers working in PE. The first one was published about two years ago – when the world was just coming to grips with the conclusion that the pandemic would be prolonged.

At that time, in-house lawyers in PE felt intense pressure to reduce their legal spending. The driving reasons included drops in M&A and fundraising activity, which everyone expected to decline further. Of course, that didn’t happen, and PE went on a record-breaking tear.

No one was sure then, and two years later, we’re still in a similar spot. The word “uncertainty” has become cliché, but here we are again, staring at the crystal ball, trying to make an educated guess as to what will happen.

If your PE firm is transitioning into control mode, the surveys produced may prove instructive. Below are eight tips for controlling legal costs in PE based on the collective findings.

1. Make controlling legal costs a priority

This seems like an obvious point, but it easily gets lost in the shuffle. A little effort can go a long way, especially if budgets tighten.

For example, one survey found one in five large PE firms (22%) say they make no effort to actively manage legal costs compared to just 4% of mid-sized firms. At the same time, seven in 10 large PE firms reported they were billed for legal work that was, in hindsight, considered unnecessary or redundant.

Large PE firms were classified as those with $10 billion or more in assets under management (AUM), while mid-sized firms had between $3 billion and $10 billion in AUM.

2. Know your comparables

It’s easier to justify legal spending when you know how yours compares to the industry. Here are a few industry averages:

  • Spending with law firms. US PE firms spend an average of $10.5 million on outside counsel, while UK PE firms spend $8.6 million.
  • Cost per M&A transaction. On average, US firms spend $353,000 for outside counsel for a typical acquisition. The average is lower in the UK at $253,000.
  • Number of law firms on a panel. A plurality (47%) of US PE firms works with between 6-10 outside law firms. In the UK, 60% work with 1-5 firms on average. 

3. Formalize the legal budget approval process

While many businesses centralize all legal spending through the law department, PE firms tend to empower deal teams to instruct law firms directly. This provides speed and agility to pursue competitive deals – but means legal expenses can quickly spiral without proper oversight.

If you can’t centralize legal spending, consider a formal budget approval process. This will help get the deal, legal and finance teams aligned around parameters for the scope of work and costs. 

Mid-sized PE firms are more likely to have such a process in place. For example, 74% of mid-sized PE firms enforce a formal budget approval process for new matters, compared to just 55% of large PE firms.

4. Consolidate your law firm panel

Panel consolidation is a proven way to trade volume for a lower price point. In other words, sending more of your legal work to fewer law firms in exchange for more favorable rates. Our research shows only 23% of PE firms are doing so compared with 40% of venture capital firms, which suggests this is an area of opportunity.

There is a cautionary tale here too: you don’t want to become over-reliant on too few firms because you lose your leverage. “You do that and you end up with a panel that looks like a garage that has a Mercedes, Ferrari and Rolls Royce in it,” according to Jason Winmill, of the legal department consulting firm Argopoint, in a recent Corporate Counsel article.

5. Watch for large one-off legal expenses

Legal costs can spike significantly over one-off legal expenses. About 80% of PE firms in the US and 70% of PE firms in the UK, experience large one-off legal costs – defined as those exceeding 5% or more of the total legal budget.

The matters most prone to spiking are those pertaining to employment, regulation and litigation. Importantly, these costs are not tied to the core functions in PE such as deal making or fundraising and therefore could be potentially avoidable. 

6. Incentivize predictable pricing

When I worked in PE, we’d engage a law firm to help us with due diligence on a deal. They’d give us a cost estimate and we’d all get to work. After the deal closed, the law firm would produce an invoice and say, “I know we told you the cost of legal services would be $300,000 but here’s an invoice for the $1 million we booked on the clock.”

This happens a lot. Bill Priestley, the Chief Investment Partner at Epiris, says this is one of the “bugbears” of legal fees. Our research found more than six in 10 PE firms (65%) routinely receive invoices that are higher than expected.

Why does this happen? Law firms can be extremely diligent and run down every possible risk. It’s very thorough legal work, but it might be more than what’s needed for a typical deal, and it’s expensive.

One way of managing this is to incentivize predictable pricing. Create a key performance indicator (KPI) that encourages outside counsel to ensure invoices match estimates. We’ve observed in-house counsel successfully implement hold-back agreements as one example.

That doesn’t mean costs can’t change if the scope changes. However, you should have a conversation about those changes long before the invoice is sent.

7. Options for dealing with ‘surprise’ invoices

In-house lawyers working in PE employ a range of options in responding to higher-than-expected invoices. These include the following:

  • 76% frequently negotiate discounts in response to surprise invoices. 
  • 74% delay payment on legal bills that exceed their expectations.
  • 72% regularly challenge individual line items on law firm invoices.

These options are adversarial. A better and more collaborative approach is to remove the opacity around billing, provide transparency, and reduce the risk of being surprised by an invoice.

8. Invest in modern legal tech

PE firms may well be a classic case of the ‘cobbler’s kids that don’t have shoes.’ While PE firms invest billions of dollars in innovative technology companies that are changing how we work –they don’t always use such tools to manage their own affairs.

Legal expenses are a case in point. The majority of both mid-sized (70%) and large PE firms (65%) are still highly reliant on manual data collection and they conduct legal budget planning and analysis in spreadsheets.

That’s a big job to perform in a spreadsheet. Averages aside, PE firms spend anywhere from $2 million to $25+ million annually on legal costs. Even more, it’s often parsed out among a half dozen law firms and hundreds of legal matters, making it difficult and time-consuming to obtain a complete and accurate view of legal spend.

Equity narratives have changed to profitable growth

If the world does experience an economic slowdown, that could prove to be a buying opportunity. However, even if that occurs, chances are the pace of deals will slow compared to the last couple of years.

More importantly, equity narratives have changed. Where investors once embraced ‘growth at any cost,’ the most prominent narrative now, and for the foreseeable future, is ‘profitable growth.’ That all but guarantees costs of every variety, including legal, will be subject to greater scrutiny. Spending processes must change to match the story.


Nicholas d'Adhemar is Founder and CEO at Apperio


The views expressed in this article are those of the author and do not necessarily reflect the views of AlphaWeek or its publisher, The Sortino Group

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