When legal departments are looking to hire outside law firms, cost is key, and bigger isn't always better, according to a new survey that shows roughly a third of chief legal officers are shifting outside legal work to smaller firms with lower rates.

This year, 31 percent of CLOs reported that they'd moved outside work to firms with lower billing rates while also noting that they are “successfully using smaller law firms that offer quality work and service at considerable reductions in cost,” according to Altman Weil Inc.'s 2018 Chief Legal Officer Survey. That finding is similar to last year's study, which showed that 33 percent of CLOs had shifted outside work to lower-priced firms.

“An overall sense is a lot of firms [legal departments] are feeling that they can't hammer down rates on the big firms. And they don't like contract lawyers, and they're not going to alternative service providers. So what do they do? Shift to lower-cost firms,” said Rees Morrison, a principal of Altman Weil who co-authored the study.

The management consulting services firm based its 19th annual survey results on responses from 279 law departments that are primarily in the manufacturing, technology, insurance and retail industries. More than 40 percent of the respondents reported between $1 billion and $5 billion in revenue for Fiscal Year 2017.

The survey showed that many law departments are negotiating discounts with outside counsel. In fact, 62 percent of law departments said they'd successfully negotiated for reduced fees with the median discount being about 10 percent off regular hourly rates. But there's a point at which the haggling hits a wall: 55 percent of the CLOs said outside firms push back when asked for bigger discounts.

“Larger law departments are most likely to receive discounts—but they are also most likely to face resistance from outside counsel,” states the survey. “This may be because large departments are often working with the largest and most sophisticated law firms, the segment of the market where demand is most likely to outstrip supply.”  

The survey also found that 47 percent of law departments are now sending some of the work that they once gave to law firms to outside vendors that aren't law firms. Litigation discovery, including electronic discovery, and document review are the most common types of work that get outsourced to vendors. The finding falls in line with a trend toward unbundling legal services, according to Altman Weil.

Law departments are hiring, budgets expanding

While law departments are angling for better deals when they have to look outside, they're also continuing to grow in response to increased workloads: 42 percent of the respondents said they planned to hire more in-house lawyers in the next year—and only 7.5 percent planned to cut staff.  

“This degree of growth—in which four or five times as many departments plan increases over decreases—is part of a long-term trend the survey has tracked since 2010,” the survey states.

As legal departments expand, so does their budgets. More than half of the law departments in the survey reported spending increases from 2017 to 2018, while only 29 percent said they'd tightened the purse strings and spent less during the same time.

And for the first time since 2011, the survey showed that, despite the push for lower rates and the shift to smaller firms, more law departments had spent more on outside counsel over the past year than those that had cut back: 42 percent compared with 32 percent, respectively.

Looking ahead, more than 40 percent of the CLOs expected that they'd spend more on outside counsel in 2019, while only 29 percent thought they'd spend less.

Other findings:

• When asked what their bosses value most in a law department's performance, aside from solving legal problems, more than 80 percent of the CLOs said controlling legal spending was top priority, followed by managing compliance issues.
• More than 66 percent of CLOs said they'd turned to technology, primarily portal software and e-billing, in an effort to improve their law department's efficiency in delivering legal services. Meanwhile, about 44 percent reported that they were relying more on paralegals and other paraprofessionals.
• Law firms might want to consider providing their legal department clients with data analytics on outside counsel spending. When asked if they were getting useful data on spending from their go-to outside firms, more than 72 percent of CLOs said they were not.