Legal Rates: Judgement Awaits

A controversy which has been simmering for several years now could boil over at any moment with the consequence being higher and more frequent court damage awards being made against insurers, predict senior partners of litigation defense firms. The issue at stake is attempts by insurers over recent years to “cap” external legal expenses and exert what many defense lawyers believe to be excessive controls and reporting procedures onto their external legal defenders. The result of which has already seen several high profile defense lawyers defect to the legal ranks supporting plaintiffs against insurers. And, the commentators in this article warn, there will be an even larger outflow of legal talent from the defense bar unless firms and insurers can find a workable solution to the structure of legal fees.

This is really a very simple problem,” comments Lee Samis, a senior partner at Samis, Blouin, Dunn, “the economics are shifting in favor of plaintiffs [against insurers]”. Samis is referring to what many in the litigation defense profession regard as a growing estrangement in the relationship with the property and casualty insurance industry as a result of attempts by the latter to freeze legal related expenses. As several lawyers consulted in the research of this article point out, senior defense lawyers are currently being paid by insurers about a third to half of market-related hourly rates.

The result of this estrangement has seen a number of high profile defense lawyers abandon ship and take up position acting against insurers. As Samis observes, the reimbursement available by representing plaintiffs has been very attractive to some former defense lawyers, and the loss of skills to “the other side” is beginning to show in the increased frequency and value of “bad faith” judgements being handed down by Canadian courts against insurers. “Fifteen years ago, the very best civil litigation lawyers were the lawyers who worked for insurance companies…Now, the best lawyers are often the opponents of the insurance industry, not the champions. We have already seen that the lawyers representing the plaintiffs in some very notable cases are individuals who used to be defense lawyers. Their current notoriety flows from their actions against their former client base, the insurance industry. The change in the legal community is just getting underway, much of the change is yet to come,” says Samis.

In addition to the disagreement over appropriate rate structures, two other factors are leading toward an adverse court environment for Canadian insurers, Samis notes. Firstly, there is no question that Canada is rapidly moving toward a more litigious environment similar to the U.S., while a greater number of lawyers are going after contingency fee business. Samis explains, “a contingency fee is a fee paid to a plaintiff’s lawyer which is calculated as a percentage of the amount of money recovered, regardless of the amount of time, effort or skill applied to the job”.

All provinces in Canada except Ontario currently sanction contingency fee-based litigation, Samis observes, “in Ontario a version of contingency fees applies to class actions and, legal or not, contingency fees are part of most litigation”. The percentage of an award that a contingency fee may be ranges from 35% to 50%, he adds, “this is pretty good incentive to take a chance on something new and untested”.

Damage awards rising

Although the Canadian insurance industry does not keep a historical record of legal damage costs incurred, data compiled over the 1990s relating to auto claims in Ontario, Alberta and the Atlantic provinces would seem to support the view that insurers are facing a steadily rising cost in legal damages, concurs Paul Kovacs, chief economist for the Insurance Bureau of Canada (IBC).

IBC figures suggest that the percentage of auto claims relating to bodily injury (BI) and accident benefits (AB) payouts has risen from an average of 42% in 1991 to more than 54% by 1998. While the frequency of auto collision claims dropped during the same period, there was an increase in the value and number of BI and AB related claims. “…rise in the frequency of bodily injury claims suggests that those who are involved in accidents are now more likely to claim for injuries than in the past,” remarks Kovacs. In fact, IBC data indicates that there are currently around 163 BI claims per every 1,000 collision claims compared with 75 BI claims per 1,000 collision claims in 1991.

And, Kovacs points out, the rise in BI claim costs is not restricted to provinces with a tort system of injury compensation. “A similar trend is apparent in Ontario where a threshold tort system with generous no-fault benefits has been in effect to varying degrees since June 1990.”

While the above figures are far from conclusive in establishing whether insurers are facing more frequent and costly legal damages, the IBC does keep track of the industry’s external legal expenditure. This data suggests that insurers spent around $465 million on legal defense in 1999 compared with $235 million in 1993 – as a ratio to net premiums earned, this equates to 2.51% in 1999 and 1.59% in 1993. The cost of external legal expenses jumped significantly year-on-year from 1993/4 with a 28% increase, and again in 1995/6 with a 30% surge. From 1996, the industry’s cost of external legal expenditure evened off with a total 15% rise in the four years leading up to the end of 1999. In contrast, Kovacs’ research estimates that the average real cost (less inflationary adjustments) of auto injury compensation rose by 47% from 1991 through to 1998.

Endangered relations

The dramatic leveling off of insurer expenditure on external legal expenses in 1995/6 coincides with an industry-wide move to shift a greater portion of the legal function inhouse, as well as introducing rate cutting programs, commentators note. And, it is no coincidence that the said increase in court damages against insurers occurred mainly from 1996 to date, observes one agitated defense lawyer.

Jack Fireman, who is a senior partner of legal firm Fireman, Lofranco – and regarded as the most high-profile of the former defense lawyers to have switched sides in the courtroom battle – regards the establishment of “Legal Guard” in Canada as being the final straw that “broke the partnership’s back” in terms of relations between insurers and their defense lawyers. Formed in the U.S., Legal Guard is what insurers refer to as a “billing review program” initiative. Legal Guard was brought into the “no fault” provinces of Ontario and Quebec around the mid-1990s. The objective of Legal Guard is to review and qualify the billing of outside legal advisors to those insurers subscribing to the service. Karin Ots, vice president of legal services at CGU Group Canada, who is regarded as an ardent supporter of Legal Guard, stresses the view that the program is intended for “billing review” and not to “lock-in” legal fees by applying bullying tactics. However, this view is not shared by many of the defense lawyers working for the insurance industry. They not only regard Legal Guard as being an insurance-wide attempt to unfairly cap legal fees, but that it has brought about added complications and inefficiencies to the system. For instance, one lawyer refers to a recent incident where a billing for “pre-court preparation time” had been rejected by Legal Guard on grounds that “permission had not been given for preparation time”. Other criticisms of dealing with Legal Guard (which are not necessarily the views of the individuals quoted in this article) ranged from response delays to an unnecessary time absorbing paper deluge. “I’m happy not to have to deal with the hassles of working with insurance companies,” comments Fireman. “Legal Guard is the most degrading thing for a litigation defense lawyer. Not only are we expected to justify our expenses to some young adjuster who knows nothing, but now we have to go through the same process dealing with a third party.”

Common ground

Ots notes with a hint of rancor, “you’re not left with a great s ense of commitment to a partnership [between insurers and litigation defense lawyers], when you hear senior partners of firms you have had dealings with are talking of switching sides just because they can make more money that way”.

Insurers faced significant rises in legal fee billings during the 1990s, she points out, and these costs still remain a significant portion of claim expenditure. So, yes, she confirms, insurers as an industry are looking at various ways to restrain costs incurred. In that respect, Ots says the insurance industry has always been a “stable provider” to the legal community, but it is a highly competitive business with not much room for adjustment on the operating margin. Secondly, she observes, the bulk of the industry’s legal business is commodity-type claims (particularly in no-fault jurisdictions) which simply do not justify the cost of assigning senior legal representation to such cases. “We believe that sometimes senior lawyers are handling files which doesn’t make any sense in terms of justifying the expense of that person’s time.”

Furthermore, Ots spins a counter-attack, suggesting that the law firms in question created their own problem in setting reimbursement packages of recruits they hire at way too high a level. “I think the legal firms fighting this have to realize that there are cost constraints on insurers, and that part of the problem lies with the fact that they’re paying excessive salaries. Legal Guard has been painted as an ‘evil’. What I would like to see is its [Legal Guard’s] opponents come up with another concept than hourly billing. I think that, from both sides, there is a concern with the current hourly rate system. At CGU, we are currently looking at several alternatives.”

Paul Iacono, a senior partner at Iacono Brown, believes that the current hourly fee system charged by lawyers can continue to work effectively. The real issue at stake, he says, is that the “relationship” in terms of trust between defense lawyers and insurers has to be rebuilt. “In the past, fees were determined by the value the client [the insurer] got from the service, there was a relationship. If a relationship based on trust exists, then there wouldn’t be a problem. If an insurance client came forward and said, ‘we have a problem, we can’t afford these costs,’ then something could be worked out. Really, there doesn’t have to be a problem, there are all sorts of solutions out there.”

Brian Reeve, a senior partner at Cassels, Brock & Blackwell, concurs that a “middle ground” has to be found in reaffirming relations. He also acknowledges the fact that insurers like many corporate entities are facing major cost pressures and this need to cut back on expenses will reflect on the industry’s service partners. “It’s a fact of life, even the banks are beginning to ‘commoditize’ legal services.” As such, he expects legal firms serving the insurance industry will have to look at alternative means of growing their practices other than defense work. For instance, Cassels, Brock & Blackwell has significantly expanded into corporate business and, as Reeve states, “we’ve moved to the ‘insured’ from the ‘insurer’ in representing industry clients, which could be say, Chrysler, in dealing with product liability.”

But, in focusing on the worsening legal environment facing insurers, Samis believes the insurance industry can ill afford to abandon long-term partnerships with its defense bar. “What you get is what you paid for…and there’s lots of reasons for insurers to be worried about [negative] developments in the judicial system.”

Iacono predicts, “some of the schemes [legal fee saving programs] insurers are moving to will probably reduce litigation expenses, but the indemnity cost will rise. The plaintiffs’ bar is a lot more organized today, and they are making a lot more money than those on the defense bar.” The kind of cost monitoring programs thus far brought about by insurers has simply created a huge administrative burden for defense lawyers, Iacono notes, which is not cost effective. “You’re turning lawyers into paper shufflers.”