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William Byrnes (Texas A&M) tax & compliance articles

Conditioning Drivers for Legal Process Outsourcing Growth

Posted by William Byrnes on July 21, 2009

Conditioning Drivers for LPO Growth

The previous blocticle post addressed the market for LPO and BPO in India relative to the USA.  Hereunder we shall address the cost structure that is driving the LPO market and its transfer of transactional based legal services to functional equivalent yet substantially lower cost practitioners.

Litigation Costs

For medium size businesses, legal fees as a percentage of income are growing.  In 2007 electronic data discovery expenditures increased 43% to $2.7 billion and are projected to reach $4.6 billion by 2010.[1]  A recent Fulbright & Jaworski client study found that approximately 10% of the clients responding reported legal fees represented about 5% of the company’s gross annual revenues.[2] 

The recession has greatly impacted legal services, in particular client’s willingness to pay substantial fees for traditional associate and paralegal level work.  This, firms have been driven, sometimes specifically by clients, to legal process outsourcing (LPO) in India.

Compliance Costs

The Regulatory Environment [3]

For the past several years, the US banking industry and its legal/audit counsel has focused on regulatory issues, such as the corporate governance provisions of the Sarbanes-Oxley Act (enacted in 2002) and the banking-related parts of the USA Patriot Act (enacted in 2001). These provisions are having a bottom line impact in terms of increasing expenditure resulting primarily from increased staffing and technology.  The provisions of the USA Patriot Act require increasing investments in technology (though many in the industry have questioned the effectiveness of these investments in preventing the funding of terrorist groups or activities) and staff hours that smaller community banks have contended impact them disproportionately.  

Increasing Compliance Costs

Senior banking management perceives rising and unpredictable compliance costs that undermine US global competitiveness as the most significant threats to the future growth of banking.[4]  The cost of AML compliance increased around 58% globally but 71% in North America between 2004 and 2007.[5]

A 2005 survey of Florida, in particular Miami, banks engaged in international banking estimated the staffing cost of AML compliance at nearly $25 million. The study concluded that compliance costs are not uniform across institutions, even after making adjustment for sizeLarger institutions (measured in terms of deposits) typically devote more resources and spend more on compliance than smaller ones, of course, but the compliance burden does not rise proportionately with size.  That is, survey data indicates that economies of scale in compliance are present, and that compliance costs per dollar of deposits is greater for smaller institutions than for larger ones.[6] Even after the dramatic increases in compliance costs and regulatory complexity since 2001, the regulatory environment is likely to become increasingly challenging in coming years.

In a 2006 Economist Intelligence Unit survey, international senior bank executives were asked about the costs of compliance with government regulation. When asked what changes they expected in the regulatory environment over the coming three to five year, over 91% stated that they expected regulations affecting their institution to grow in complexity and breadth, 88% stated that compliance with industry regulations will become more onerous, and 81% reported that they expect penalties for non-compliance to increase in severity.[7]

As a result, the international banking industry in Florida has been characterized by consolidation and contraction since 2000.  The number of foreign bank agencies operating in Florida fell from 38 in 2000 to 31 in 2005.[8]  There were 10 Edge Act banks operating in Florida in 2000, but only 7 in 2005.  The number of international banking employees (in foreign agencies, Edge Acts and the international divisions of domestic banks chartered in Florida) declined from 4,660 in 2000 to 3,027 in 2005.

Based on a survey of banks significantly engaged in international banking Florida International Bankers Association (FIBA) was able to estimate the Florida international bankers staffing cost for 271 full-time employees of anti-terrorism/anti-money laundering compliance at nearly $25 million in 2005. [9]  The average survey respondents indicated that it devoted 2.9 FTE employment positions to BSA/AML compliance in 2002 versus 6.8 FTE positions in 2005. The number of full-time employees devoted to compliance represented 9% of the workforce in 2005.  Staff resources devoted to compliance increased by 160% between 2002 and 2005.

Document Review & Customization Costs

In 2003, a legal forms publisher, Socrates Media, reduced the cost for a fifty state customized residential lease from approximately $400,000 to $45,000 via the Hyderabad company QuisLex.[10]

A company’s legal department can reduce its document review costs from $7 to $10 per page in the US to approximately $1 per page with Indian counsel.[11]  Whereas New York associates undertaking document review may earn a $160,000 base annually, similarly reviewing Indian associates earn less than $10,000.[11]  Contrast the annual increase of labor supply of 200,000 Indian law graduates (of a 1.2 billion population) versed in the Common law to that of the USA, being 50,000 for 300 million population.

 A US legal secretary’s average hourly cost is $63 under the realistic conditions of 80% annual time utilization ($50 if 100% hourly utilization) based upon an $85,000 annual employee cost including salary, benefits, and payroll tax.[13] That of the New York associate will be double. In 2003, University of California (Berkeley) reported that whereas US paralegals and legal assistants may average $18 hourly, the equivalent India positions earn between $6 and $8.[14]

In our next blogticle we will address areas best suited for legal process outsourcing.  You may follow new blogticle postings via Twitter (http://twitter.com/williambyrnes).  Feel free to comment.  Professor William Byrnes (www.llmprogram.org)

[1] India Lures Corporate Outsourcing, Jonathan Hill, Law Technology News, October 14, 2008.

[2] India Lures Corporate Outsourcing, Jonathan Hill, Law Technology News, October 14, 2008.

[3] Standard and Poor’s Industry Surveys: Banking (Dec. 6, 2007).

[4] The Washington Economics Group, The Economic Impacts of International Banking in Florida and Industry Survey: 2005.

[5] KPMG’s Global Anti-Money Laundering Survey 2007.

[6] The Washington Economics Group, The Economic Impacts of International Banking in Florida and Industry Survey: 2005.

[7] Economist Intelligence Unit, Bank Compliance: Controlling Risk and Improving Effectiveness (2006)

[8] In 2005, however, 7 of the 31 international banks had no deposits booked in Florida, while in 2000 only 2 of the 38 had zero deposits.

[9] Note that these cost estimates only include manpower or staffing costs, and do not include costs such as transaction monitoring software, possible IT investments and services, legal counsel and similar support.

[10] U.S. firms outsource legal services to India, Cynthia Cotts and Liane Kufchock, Bloomberg News, August 21, 2007.

[11] Offshoring Legal Services to India: an Update (Market Research Report), Valuenotes Database Pvt. Ltd., July 2007

[12] India Lures Corporate Outsourcing, Jonathan Hill, Law Technology News, October 14, 2008.

[13] Why and What Lawyers Should Consider Outsourcing, Ron Friedmann LLRX.com, Sept 1, 2008 (available at http://www.llrx.com/features/legaloutsourcingoptions.htm)

[14] Outsourcing the lawyers, Krysten Crawford, CNN/Money October 15, 2004; Outsourcing Legal Services Abroad, K. William Gibson, Law Practice Magazine Volume 34 Number 5 July/August 2008 Issue Page 47.

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