Private equity (PE) firms are holding their in-house lawyers responsible for outside counsel costs, but the organisational structure of PE houses and lack of data inhibits their ability to control legal expenses. That’s according to a new study by Apperio titled Responsibility Without Control? Challenges Facing Private Equity Legal Leaders in 2021.
The study, which is based on an independent poll of 160 in-house legal professionals at PE organisations, found about two-thirds (62 per cent) are accountable for selecting preferred law firm partners. However, fewer than half (46 per cent) are responsible for approving budgets on new legal projects – and just about a quarter (28 per cent) are tasked with measuring outside counsel performance.
“This puts inside counsel in a tough spot because the finance team is leaning on their lawyers to control outside law firm costs, but the deal teams are frequently instructing outside counsel directly and comparing their relative value in isolation,” says Apperio Founder and CEO Nicholas d’Adhemar, who is both a former lawyer and PE investment manager.
About one-fifth of respondents say certain legal matters always go over budget, according to the survey. These matters include investment financing (28 per cent), regulation (22 per cent), fund structuring (17 per cent), and litigation (21 per cent). In addition, another roughly 50 per cent of respondents say these matters are sometimes susceptible to exceeding the budget.
Even more concerning, more than half (54 per cent) say finance teams have resigned themselves to the idea that legal expenses will always be unpredictable. That notion suggests over-budget matters are becoming a cultural norm.
While this may sound like a potential windfall for law firms, the survey suggests otherwise:
• 76 per cent of PE legal leaders frequently negotiate discounts in response to surprise invoices ;
• 74 per cent delay payment on legal bills that exceed their expectations ;
• 72 per cent regularly challenge individual line items in law firm invoices; and;
• 81 per cent are considering working with alternative legal service providers (ALSPs) in the future.
The distributed authority structure in private equity is a significant factor that can lead to uncontrolled legal costs – and a sometimes-fractious trilateral relationship among legal, finance and deal teams. However, restructuring isn’t feasible because this model provides dealmakers with the agility to rapidly pursue attractive deal opportunities.
Still, in-house lawyers may worry their lack of control over budgets may be roiling their relationships with business peers. The survey found 78 per cent of respondents say cost overruns cause friction between legal and finance – and 79 per cent say surprise legal invoices create friction between the legal team and the wider PE organisation.
A focus on gaining better visibility into ongoing deals and associated matters, with timely spend data, is taking centre stage. For example, nearly three-quarters (74 per cent) of senior legal leaders surveyed say legal spend optimisation is a key priority for 2021. Further, 84 per cent agreed that having access to current, or live data, around legal expenses would improve a deal team’s ability to take corrective actions and avoid budget overruns.
“Deal teams ultimately have the power and incentive to make changes that will achieve efficiency gains, but they don’t have the benefit of oversight and deep legal knowledge to manage this alone,” adds d’Adhemar. “In-house lawyers do have this experience and with improved data and analytics, can bring increased predictability and value to their PE organisations.”
