Lawyers don't have skin in the game
Updated: Feb 20
September 2015 the United States Environmental Protection Agency (EPA) issued a notice of violation of the Clean Air Act to German automaker Volkswagen Group. We all know what happened next and ‘Dieselgate’ became a lawyer bonanza in its own right. Almost five years down the line the total legal costs (fines, damages, lawyers) for the car manufacturer have already mounted to a staggering 30 billion euros.
Last week, on February 14, it was an article in the Financial Times that caught my eye. It read that Volkswagen had failed to reach a settlement with Germany’s largest collective lawsuit. Based on recently implemented class action legislation, the German consumer rights group VZBV (VerbraucherZentrale BundesVerband) had filed a lawsuit on behalf of over 400.000 private individuals seeking damages for the alleged value loss their diesel car had occurred.
On 14 February VW had offered 830 million euros in settlement to the plaintiffs, but it had refused to pay an extra 50 million euro to the lawyers representing VZBV on top of that 830 million. Long story short: no settlement because the lawyers demanded 50 million in fees.
50 million in legal fees is a mind-blowing amount. If we would assume a blended rate of 330 it would take 100 lawyers each one-year full time on the matter to amass 50 million in legal fees.
A little research on the internet seems to point towards a very small 2 partner law firm located over two small towns far away from the main German business centers. Taking into account the typical blended rates of law firms in that region, 330 euro would already be way above the average. Having only 10 instead of 100 lawyers it would take 10 years full-time for all lawyers to approach 50 million in fees. The diesel scandal only started less than 5 years ago. So, from a time-based compensation perspective 50 million surely remains outrageous.
There is of course another way of looking at this. Percentage-wise 50 million would be 6% of the 830 million settlement. To place this into perspective let’s look at investment banks. For the Alibaba IPO the banks charged 1,2% and for Facebook’s IPO this was 1,1%. Obviously, the main sum was bigger, but the percentage is significantly lower than 6%. Even Wachtell Lipton, which is a mythical law firm in its own right and known for not charging by the hour, does not charge anywhere close to 6%. There is no escaping: from whatever perspective you look at this, 50 million in legal fees remains outrageous. It looks like someone it trying to get rich fast. Ambulance chasing on steroids.
Let there be no doubt that in this case the individual car owners who signed up to the VZBV class action are totally free to sign away 6% of any compensation they receive to the lawyers. But then they have to pay the lawyers and not Volkswagen on top of the compensation. The way it is represented now is that the claimants do not want to fork out the money to pay their lawyers.
No skin in the game
Let me introduce you to the concept of having ‘skin in the game’ (explained in more detail in my book ‘Death of a Law Firm’ – chapter 6). To have "skin in the game" is to have incurred personal risk (monetary or otherwise) by being involved in achieving a goal. Someone with skin in the game risks a personal loss. If I invest my own money, I have skin in the game. If I invest someone else’s’ money I do not have skin in the game. A lawyer is someone who, in the end, by definition acts on someone else’s behalf. Although the stakes might be high, it is the client who bears the risk of failure. At most, depending on the fee structure, a lawyer will risk his or her compensation if the outcome is unsuccessful. Lawyers may act like being a high stakes player but in reality, as an individual, they have little to lose.
If you as a person have skin in the game and invest a lot of money that you might lose, you are also entitled to big rewards. Things are different if you can only win and not lose. Under such circumstances a more modest and proportionate approach would be appropriate. The lawyers representing the plaintiffs in the VZBV case do not seem to have skin in the game. The worst that could potentially happen is that they did not get paid at all. As long as you have other clients and matters to work on as a firm, that should be a manageable risk. Also, from this perspective there is no rational justification for demanding 50 million in legal fees.
The TGO Value Matrix© shows that there is a clear relationship between return on investment for the client and the value perception regarding the costs of legal. In general clients do not mind spending money on lawyers as long as it helps them make profit (or prevent a loss). In situations where lawyers have a significant impact on the client’s bottom line and where the number of experienced lawyers is limited, paying millions in legal fees is not seen as bad value. For example, when two large multinational companies merge with a deal value over 50 billion, paying 50 million in legal fees would not be seen as disproportionate (as historical data shows). But in the VZBV matter, a tiny local law firm representing individual consumers in a 840 million settlement is hardly the same as a global elite law firm representing a multinational in a very complicated 50 billion global cross border merger.
The legal industry is not a lottery or a casino. There should always be a reasonable relation between value created for the client and the amount charged. Lawyers who want to bet and potentially make extravagant amounts of money should perhaps try their luck at the Baden-Baden casino.