Another BigLaw Firm Cuts Lawyers and Staff – Now What?

Law Firm Patton Boggs Lays Off 65

The above article cites another cost-cutting campaign by a large US law firm.  65 associates and staff are let go to trim costs because of reduced profits:

“Mr. Newberry said the layoff of 30 lawyers and 35 staffers were an effort to “align head count with revenue”…There were no partners who were let go, Mr. Newberry said. The firm now has 455 lawyers.  But in recent months the firm has notified 18 partners their contracts won’t be renewed unless their performance improves.”

As a general observation, law firms often cut associates and staff during tough times but don’t cut partners.  Why not cut unprofitable equity partners as well and optimize your firm’s leverage?  Cutting associates and staff boosts short-term profit but often sacrifices long-term profit by reducing leverage.  This is a real problem for most law firms, and highlights the deficiencies of the traditional democratic law firm business model.

Most law firms focus on short-term costs like associate and staff head count, but don’t address the really important “costs” such as unproductive partners and equity partner head count.  Many large law firms have 20%+ excess capacity in their partner ranks, which is a huge drag on PEP profitability.  You need to cut your ownership ranks and optimize leverage to compete with new law firm business models and ABS structures coming out of the UK. Easier said than done, however, when the owners must hold a democratic vote on who’s going first..

Win-Win Alternative Fee Arrangements

Originally published in ABA Law Practice Magazine

MANY LAW FIRMS WONDER HOW THEY CAN OFFER alternative fee arrangements (AFAs) to their clients and still maintain profitability. If you approach it properly, you can earn an even greater profit with AFAs, such as fixed-fee billing or hybrid billing options, than with conventional hourly billing. At the same time, you can increase your clients’ satisfaction levels and strengthen your long-term strategic partnerships. AFAs offer great potential for a win-win scenario.

Law firms have been providing AFAs for commodity personal legal services, such as residential conveyances and wills, for years. But that’s not the case for most business law and litigation work. Clients are asking for AFAs in these areas, but law firms aren’t rushing to offer them. This drives clients to look for options, and forward-thinking small firms are increasingly using AFAs to steal large clients away from big law firms.

In a climate where major clients are pushing for—and getting—discounts of 20 percent or more, the legal industry needs to adjust to current trends if it wants to survive and thrive. A New York State Bar Association report issued in April 2011 states that alternative billing will be the legal industry’s dominant form of billing in the future. It’s time to get on board with this concept.

GETTING STARTED

To succeed using AFAs, you need to present a unique value proposition. Unless you offer your clients something your competitors don’t, you’ll soon find yourself in a price war. That’s just a race to the bottom, as there’s always someone willing to charge less.

Start by asking your clients what they value most. Many law firms are afraid to ask this question, as they feel the value of their services is worth less than the price they’re charging. But asking about what they value most, as well as their strategic goals, adds value to your services by showing the client that you really want to be a strategic partner. Once you know your client’s goals, you can organize your legal services to best meet his or her long-term needs.

Another important way to add value is to put the client’s profits ahead of your own. Most law firms start their strategic planning by setting their own profit targets, instead of thinking how they can help their clients increase their profits. When you help your clients achieve their profit targets, they are happier and more likely to give you more work—which means your profits increase as well.

The Association of Corporate Counsel (ACC) offers some great tips for adding more value for clients in the document “51 Practical Ways for Law Firms to Add Value,” available on its website.

Ron Baker, a CPA who has written several books on the concept of value pricing and has thousands of loyal followers, has been using this concept in the accounting industry since the early 1980s. His ideas apply directly to the legal industry as well.

Baker proposes the formula “value = customer profit – price.” In other words, value is defined as the impact your legal work has on a client’s profit, less the price you charge for your services.

In his book Implementing Value Pricing, Baker propounds an eight-step plan for pricing a fixed-fee job up front. Baker’s concept of value pricing is very different from the value-billing concept most lawyers have understood for decades. For example, lawyers working on an hourly basis often try to charge a premium at the end of the file, based on extra “value” as they themselves perceive it. On a $30,000 file, if the lawyer recovers a significantly higher amount for the client than expected, he or she might try to charge a premium of 20 percent, or $6,000. The client might respond, “Why are you charging me a premium? Didn’t we have a contract for an hourly fee?” The lawyer then points out that the fine print of the engagement letter allows him or her to charge a premium on top of the hourly rate—a premium set at the lawyer’s discretion rather than the client’s perception of added value. At this point, the client often just says no, decides to use a different lawyer next time, or both.

Under Baker’s value-pricing system, you calculate the value and price up front, not at the end of the file, as is done under hourly billing. Discussing the premium parameters before you start work on the file ensures that there are no surprises for the client. Rather paradoxically, the client is often willing to pay a premium for certainty about the premium, thus boosting your returns on these AFA files.

Through similar means, pricing up front can also garner you a larger retainer. If you have scoped out the work properly and can give the client a solid idea of what the total legal fees will be, he or she will probably be much more willing to give you a retainer for at least half of the fixed fee up front. Under hourly billing, the client is more hesitant to pay a retainer up front, due to uncertainty. In short, you stand to get both a larger premium and a larger retainer simply by setting clear parameters.

So you need to negotiate both the value and the price of the legal work at the outset in a conversation with the client. Ask the client what he or she values most, and let the client’s perception of value—not yours—determine the price you charge for your legal services.

DETERMINING COST

Once you’ve set the price for your fixed-fee service, you need to determine the cost to do the job. You’ll need to budget costs to arrive at your desired profit margin. If you can’t keep your costs below your offered price, you should simply decide not to take the job right now.

Baker’s value pricing approach suggests that you should do your time sheets up front, not as you are doing the work. It’s true that this lets you determine your costs for pricing purposes in order to achieve your desired profit margin. However, I recommend that you still track time to understand the costs and profitability of previous files. Your time sheets provide important guidelines for costing out future jobs and thus ensuring that you price for optimal profitability.

Clients often try to use AFAs to get a discount on fees. Offering discounts, though, can oblige you to get pretty creative to compensate for the loss in profit. For instance, if you provide the client with a 10-percent price discount and your profit margin is 40 percent, you’re looking at a 25-percent cut in profit. A better alternative is to focus on building your value proposition to attract more premium work.

To keep overall costs to a minimum under alternative billing, you need to use leverage to your advantage by moving the work down to the lowest possible level of staffing. Smart firms are implementing project management techniques to increase effectiveness and efficiency.

Using AFAs may also oblige you to improve your fee-budgeting skills. Most lawyers aren’t very good at budgeting, as they’ve never had to do this under hourly billing. You should be prepared to do more work on this up front to meet your profit margin targets.

Clients want the AFA issue addressed now. So get ahead of the curve: Partner with them, instead of resisting them, and prepare for alternative billing. By providing more value to clients and increasing efficiency, you can offer a better service while increasing profitability. That is the ultimate goal.

This information or any portion thereof may not be copied or disseminated in any form or by any means or downloaded or stored in an electronic database or retrieval system without the express written consent of the American Bar Association.

Increasing law firm profitability – what’s working and what’s not?

Originally published in Canadian Lawyer

Leverage

One of the fastest and easiest ways to increase profitability is to increase leverage by moving work down to the most efficient staffing level.  I’ve noticed some firms are adding non-equity partners to increase leverage and profitability, and this is a trend that continues to build. Clients are pushing hard on rates and don’t want to pay to train associates.  Non-equity partners, by contrast, hit the ground running and don’t incur training and supervision costs. Firms don’t break even on associates until three to five years of call on average, while non-equity partners are profitable right away.

Other ways to use leverage:

– Large national firms are pushing out underperforming partners with practices that don’t meet their minimum size standards, as they continue to lever themselves for maximum profitability.

– Personal-injury firms are outsourcing legal work to India to reduce costs.  This is quite a step forward in Canada, where until recently our privacy laws have made law firms hesitate to make this move.  If the outsourcing company’s servers are based in Canada and the work is being checked by Canadian lawyers, then this option can work well.

– Large national firms have outsourced administrative tasks such as word processing and billing to reduce costs.  Many firms are also outsourcing entire facilities-management, technology and marketing departments to local outside vendors such as Ricoh and Pitney Bowes Inc.

Cost Containment

“New business-model firms” such as Delegatus services juridiques inc. in Montreal and Cognition in Toronto are effectively acting as outsourced general counsel for large clients.  They operate on a virtual basis to contain premises costs and have also stripped down the management infrastructure required to run their operations. Their lawyers spend most of their time at clients’ offices, using clients’ support staff on files, which helps keep overhead costs down to as much as 50 percent of the average large firm.

Some firms are getting into project management in a big way, and find that clients are very happy to work with them to reduce their overall legal costs by getting more effective and efficient in how their legal matters are handled. This is a significant trend, and one that some law firms are using as a warm-up to alternative billing.

Centralized Management

Firms of all sizes are centralizing their governance systems to increase their efficiency and profitability. By giving managing partners the power to affect partner compensation, these firms allow the managing partners to motivate partners to do non-billable tasks that help to achieve strategic objectives.

Setting up file-approval systems under the control of a managing partner can lead to significant gains in profitability. In my experience, top-down, centralized management is the most efficient and effective way to manage.

Selecting the right clients is also crucial to becoming more profitable. Successful firms evaluate clients for their profitability, their ability to pay, and their fit with the firm’s strategic goals.

Utilization

Some firms are using “full-day” time accounting where lawyers track all non-billable time in addition to billable time. The idea is to get lawyers to account for all of their available time at the office, e.g. eight or 10 hours a day.  By having lawyers and staff account for all of their time, firms are capturing 10 to 20 percent more billable time and adding significantly to profitability as a result.

Firms should also attend to this non-billable information to ensure that their lawyers are not just focusing on the short term and their own billable hours. As management guru David Maister would say, how you spend your non-billable time is where your real profit is in the long term—for instance, your business-development efforts.  Tracking lawyers’ non-billable time can also reveal whether project-management techniques are working effectively and efficiently.

Another recent innovation is smartphone time-capture technology that allows lawyers to log their time while they work it, rather than afterwards, when their memory is hazy. This is the key to maximizing time-capture percentage.

Strategic Planning

Firms that proactively carry out strategic planning are more profitable than firms that don’t. Today’s highly competitive legal market demands that firms maintain a continuous planning mindset if they want to succeed. In the successful firm, the managing partner takes charge of executing the strategic plan and focuses on getting partners to follow through on their assigned tasks in order to achieve the goals of that plan.  The most profitable firms reward partners who complete non-billable tasks and penalize those who don’t.

The firms that do the best in today’s market are the ones with a tight vision.  They keep their team closely focused on the firm’s strategic goals, as opposed to taking a silo approach in which everyone operates independently. The days are past when a law firm could make easy money while letting every partner do whatever he or she wanted.

Partner Compensation

Your firm will make better profits if it rewards partners for the value they provide to clients rather than if it rewards them only for hours billed. Partners also need to be rewarded for profitable practices, in addition to sheer volume of billings. Those who expend extra effort in the firm’s best interests should be rewarded the most, and those who lever work down to others and unselfishly lead their practice groups should get special rewards.

Generally speaking, firms with subjective compensation systems are more profitable than formula-based firms. This is because the formulas usually drive partners to focus on personal production, instead of helping grow the whole firm.  An “eat what you kill” approach can stunt the growth and profitability of a firm.

People

Firms with strongly defined core values for their people do better than firms without them. In order to succeed, a firm needs a strong culture, where everyone buys in. This helps it achieve its goals faster, and makes its staff work harder and feel more fulfilled.

As the push to acquire the best talent continues, small firms are capitalizing on opportunities to hire senior partners who are close to retirement and are being pushed out of large firms.  Some are leaving early, taking their clients with them, to join small firms and enjoy better work-life balance. This can be a great win-win for both the senior partner and the small firm, as these partners can bring big-firm institutional clients that are coveted by small firms and can significantly increase their profitability.