UK: WHY THE PROFESSIONS ARE MAKING CONTINGENCY PLANS. - Is payment by results good for consultants, and their clients?

Last Updated: 31 Aug 2010

Is payment by results good for consultants, and their clients?

Performance-related fees landed BZW in trouble last year when it emerged that the investment bank, which had been supporting Northern Electric's defence against CalEnergy, had negotiated a success fee payable in the event that its actions succeeded in repulsing the bidder. (As it happened the defence failed.) Nevertheless professional firms are increasingly prepared to work on a performance - or contingency - basis. Indeed they may be encouraged to do so by clients who expect the carrot of a contingency fee to sharpen the professionals' effectiveness. Isn't it in keeping with the times that advisers should share some of the risk with their clients, rather than calculate their fees according to the cosy old hourly-rate-times-hours-worked formula?

Solicitors in England and Wales have been allowed to charge conditional (not contingency) fees since 1995. Unlike their US counterparts who can negotiate the lion's share of whatever damages are awarded, British solicitors are more circumscribed. They may only charge up to a 100% premium on the usual fee, and according to a spokesman for The Law Society a 25% or 30% 'uplift' is more usual. Only personal injury, human rights appeals to the European Court and some insolvency work are suited to this charging structure, he points out, and comparatively few such cases come to court.

It's very different in the world of business consultancy. Around 15-20% of Andersen Consulting's work (outsourcing excepted) is currently charged on the basis of savings achieved by its consultants, reveals Hugh Morris, partner in charge of public services.

A typical charging structure would be a flat fee, set at about half the normal rate, topped up by a percentage of the savings realised over a given period. 'It's something we started to do in response to individual client circumstances and demand,' explains Morris. 'We began to explore it about four or five years ago.'

While 'the push certainly came from clients', the change in billing structure also reflected a recognition within the firm that 'we needed to put our money where our mouth was, that we were sufficiently confident in being able to underwrite our results'. These days Andersen's cut of the savings achieved on a consulting project is typically of the order of 10-20%, but it depends on the risk involved. In the case of an outsourcing contract the number could be as high as 50%. 'People want to keep us to lean margins on basic services but encourage us to make operational savings,' says Morris.

The warehouse management software and consulting firm Interlink adopted a similar formula some 18 months ago. This followed its takeover by the Dallas-based Thomas Group which once levied consultancy fees wholly on the basis of results achieved. More recently, however, the parent has charged a one-off fee and negotiated a proportion of savings achieved through its recommendations. The group realised, explains Phil Starmer, in charge of Interlink's operations in Britain and Europe, that without any upfront financial commitment 'the customer doesn't care, it doesn't put its heart and soul into the project'. A half-and-half approach represents the best of both worlds, Starmer maintains. It means that the client has invested enough to want to see the project succeed, but need only pay the full whack if and when the promised results roll in.

The trouble is that it's seldom possible to say with precision how much of a saving, say, was due to the intervention of consultants and how much to extraneous influences. The difficulty of attributing cause and effect is one reason to be shy of innovative charging structures, warns Toby Robinson of Kalchas Group, a strategic consultancy. 'Sometimes we are interested in theory but if we can't find the right metrics we might go for a flat fee. We don't want to get into the argument of "Yes, there were improvements but what caused them?"' Moreover, as Robinson points out, many clients prefer to know in advance, even if approximately, what the bill is going to be.

Morris recognises these fears too. 'After their initial enthusiasm some clients become concerned that you might take too great a slice of the pie.' For this reason he foresees little change in the proportion of Andersen's consulting business which is charged by results.

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