Measuring ROI in a law firm - even if it's possible, does anyone care?

Many organizations do a poor job of measuring the return generated by their various investments.  As a result, many initiatives fail to deliver impressive results even while the organizations as a whole are performing well.  Imagine a professional sports team that measures only wins and losses and ignores individual statistics such as points scored, penalties assessed or defensive lapses.  How do the coaches know who needs help?  How does the general manager know who to reward handsomely with a new contract?  How do the players know what skills to hone in the off-season?  Obviously a quality sports team will focus on a myriad of individual elements that, combined correctly, produce wins, and, combined poorly, tend to produce losses.  Measuring the return on investment (ROI) of our various expenditures should be viewed in the same light.  After all, if we don't measure how well or how poorly our many initiatives are doing, how can we improve our performance?  As the late legendary Coach John Wooden used to say, "Failure is not fatal, but failure to change may be." I conduct workshops on this topic regularly to different audiences, including law firm technologists, marketers, directors of finance, partners and in-house counsel.  While the ROI discussion may vary depending on the stakeholder, there are a few common themes.

Measuring ROI may not require heavy math, but it very likely involves stepping out of your comfort zone.  The classic example comes from the advertising world where the creative types at agencies devise compelling advertising that catches the eye but may not provoke buying behavior.  As one CEO scoffed when presented with a visually rich and quite expensive campaign idea, "I don't care about creating art, I care about moving units."  In a law firm, a technologist may feel upgrading to the latest voice-over-IP phone system is long overdue, but given the considerable expense and time needed for a firm-wide upgrade, it may require a financial analysis plotting the cost of maintaining an older phone system against the cost and benefits of the upgrade.  A law firm marketer asked to produce a client alert for a news item that every competitor discussed weeks ago may have to (gently!) push back by demonstrating that the optimal window to maximize "click though rates" has long since passed.  ROI discussions often involve the mastery of different dialects to make the case to others.

ROI is a relative measure, not an absolute measure.  In a basketball game if Joe pulls down 5 rebounds per game and Andre pulls down 6, who gets the coach's praise?  What if we learn that Joe is 6 feet tall and Andre is 7 feet tall?  If all other factors are neutral, we should expect Andre to significantly out-rebound his shorter peers.  In this light his performance is not very impressive.  If a law firm hosts a seminar that draws 15 people, is that good?  If we invest $2 million in three lateral partners and they deliver $2.5 million in new billings in year one, is that acceptable?  There is often not a specific hurdle past which everyone can objectively state that "We achieved a successful ROI."  It's only by comparing the ROI of an initiative to alternatives that we can ascertain whether the ROI is acceptable or not.  If the 15 attendees of our seminar represent top-level decision makers at target prospects, this might be a much better investment than a larger event with 90 client attendees representing staff lawyers with no input on outside counsel selection.  What if we delayed implementation of a key client program by two years in order to invest in our lateral recruitment, but even a conservative estimate of our cross-selling forecast suggests that we could have generated $5 million in new billings from existing clients?  Were the lateral recruits such a good investment after all?  Good organizations compare the relative ROI of various initiatives and the best ideas must earn the capital investment.

ROI can only be measured over time.  Law firms generally operate on a cash accounting basis, which involves counting revenues and expenses one year at a time and distributing excess (a.k.a. profits) to partners annually.  This forces a one-year-at-a-time mindset, whereas most businesses operate on an accrual basis, which makes it much easier to consider investments over a longer period.  Imagine the junior partner, looking to improve his networking at the country club, who takes a golf lesson.  At the end of the lesson if he hasn't dropped his handicap from 30 to 5, he typically doesn't quit in disgust because he recognizes that improvement takes time.  Yet this same partner may sit on a cost-cutting committee that votes to "eliminate the trust & estates practice group because last year it wasn't as profitable as other practices."  But simple analysis may indicate that 35% of our highest-revenue litigation cases come from companies whose CEOs are T&E clients.  And of these CEOs, 60% were T&E clients first, indicating that the T&E practice is an effective feeder for the litigation group.  Removing this feeder skyrockets the "cost of sales" for the litigation group, instantly eliminating any savings from disbanding the T&E group.  Your mileage may vary, of course, but only by studying trends over time can we make these connections.  By viewing ROI as a snapshot in time, we tend to make flawed decisions.

There's so much more to say on this topic and it's particularly needed now, as law firm leaders are scrutinizing expenses across the board and struggling to find the right formula to generate profits.  One universal challenge is that measuring ROI forces us to address sacred cows, those pet expenditures that we just know are good ideas but that no one can prove.  Telling a partner that he cannot continue to invest in a luxury sports box is a lot more challenging for the executive committee than laying off secretaries, after all. But the bottom line is that measuring ROI allows us to make informed choices about where and how to spend the firm's capital... even if some of the final decisions are dumb ones.

For legal technology readers, feel free to join me as I conduct a webinar with ILTA on August 7, 2013 at 12 PM ET on this topic.  For more information and to register, click here.  Others can click here to read a recap of a recent presentation I delivered to legal marketers in Chicago, thanks to Sania Merchant and the National Law Review.

Timothy B. Corcoran delivers keynote presentations and conducts workshops to help lawyers, in-house counsel and legal service providers profit in a time of great change.  To inquire about his services, click here or contact him at +1.609.557.7311 or at tim@corcoranconsultinggroup.com.

The Fallacy of Merger Math

In recent months, trade publications have been filled with breathless accounts of the exciting and unprecedented number and nature of law firm mergers, each of which creates a distinct advantage over moribund competitors and, naturally, the financial outlook of each merger is rosy. Two firms with overlapping global footprints have joined forces to take advantage of the obvious synergies; two firms with not a thing in common have joined forces to exploit the obvious opportunities; two firms with fundamentally different compensation systems have joined forces without conflict by embracing a novel corporate form that eliminates the mingling of profits; two firms whose respective client bases are perennial adversaries have joined forces because the combined industry expertise of the merged firm’s lawyers will outweigh any potential client conflicts; and so on.

There is always optimism at the inception of a law firm combination, since few partners or clients would embrace a combination positioned as "a last-ditch effort to improve partner compensation when all else has failed."

If we were to analyze law firm mergers by plotting client satisfaction on one axis and partner satisfaction on the other, the resulting scatter diagram would reflect a surprising few combinations that were deemed satisfactory after the fact to all parties. This isn’t limited to law firm combinations; indeed, many corporate mergers go awry for similar reasons including poor execution, loss of key talent, loss of key clients, boardroom battles, mismatched cultures and failure to achieve financial targets. So why do law firm leaders continue to pursue mergers at such a furious pace? It’s a basic law of finance — when you have eliminated all other drivers to achieve growth but one, leaders will pursue the remaining driver with vigor, and call it a strategy. Let’s break this down a little further.

Fundamentals of Law Firm Finance

The basic drivers of traditional law firm finance are captured in the acronym R.U.L.E.S., which stands for Realization, Utilization, Leverage, Expenses and Speed (of collections). Each plays an important role in transforming the raw material of lawyer capacity (time) into profits per partner.

Realization

can refer to the relationship between hours worked and hours billed, or between hours billed and hours paid. In both cases, there is a fall-off. Not all hours utilized can be billed, and as clients have made abundantly clear in recent years, not all hours billed will be paid in full.

Utilization

describes the relationship between available hours and hours worked. A high utilization rate means that few timekeepers are idle, hopefully occupied with billable activities.

Leverage

is the ratio between partners and associates or other timekeepers. With high leverage, more work can be pushed down to lower-cost timekeepers. With low leverage, partners tend to retain and bill more work, even work that might not otherwise justify partner rates.

Expenses

are a huge factor in any law firm, and the largest category by far is personnel, notably lawyer and staff compensation. But real estate, equipment, supplies, artwork, coffee, a subsidized cafeteria and any other non-reimbursable expenses are accounted for here. This category tends to receive the most scrutiny during a downturn, although poor utilization and realization further upstream generally have a far greater impact on profits.

Speed

of collections refers to the process of billing and collecting receivables from clients, a process in which lawyers as a profession are notoriously lax. There is lag between doing work and capturing time entries; lag between capturing time and preparing pre-bills for partner review; lag between pre-bill review and customer invoicing; and lag between invoicing and receiving payment. The combined effect on law firm profitability can be enormous, albeit hidden to most.

The ‘Waterfall Effect’

These five factors inter-operate in a sort of "waterfall effect," starting with the self-imposed revenue cap that law firms choose and, as each factor is deducted from this maximum starting point, ending with profits per partner, a simple calculation derived from dividing remaining profits by the number of partners. What’s that, you say? A self-imposed revenue cap? Few partners, even those tasked with managing their enterprises, seem to understand the nuances and limitations of the hourly billing-based financial structure. And this gap in knowledge has led to an increase in merger-as-strategy at the same time it has limited the growth of alternative fee arrangements, in the misguided impression that any such non-hourly structures are by nature dilutive to earnings.

Maximum Revenue

Law firm leaders can calculate the maximum revenue at any time by multiplying the number of timekeepers by their individual hourly rates and the number of available hours. Period. Clients tend to question invoices reflecting lawyers billing more than 16 hours in a day, let alone 24 hours in one day. Clients have for several years now pushed back strenuously on increases in billable hour rates. So what’s left to increase revenue? Increase the number of available hours to bill, which, said another way, is add more timekeepers. In past years when demand was high, adding another timekeeper was synonymous with adding 2,000 (or more!) billable hours. Now the emphasis is on laterals with portable books of business. In other words, adding potential billable hours isn’t enough, we need to add actual revenue-producing hours, and the easiest path to doing so is not to induce clients to hire us more frequently, but to transfer existing billable hours from another firm to our own.

A key challenge with this approach is that mergers tend to be a revenue solution to a problem that most law firm leaders, and partners, would characterize as an issue of declining profits. Imagine Firm A, which is loathe to merge and grow outside its comfort zone. Instead, it focuses on the other financial drivers in order to boost profits. Contrast this with Firm B, which combines a large-scale cross-border merger with numerous fill-in lateral acquisitions that increase headcount and revenue.

Firm A improves its profits per partner by 12% while maintaining the same practice and geographical footprint, culture and values. Firm B doubles in size, creating a cacophony of competing cultures, practices, tools, philosophies and, its leaders realize too late, almost no economies of scale beyond a few redundant staff roles. After all, each timekeeper and staff person requires compensation, a desk, a computer, coffee, et al. Indeed, all the combination has done is increase the size of both the numerator and denominator in the profits-per-partner calculation. What remains are similar, perhaps even lower, profits per partner despite the larger revenue streams because of the larger expenses and higher number of partners sharing in the proceeds.

Improving profits without resorting to the faux ami of a merger can be accomplished by tackling each of the financial drivers. Here are three tried and true techniques that disciplined law firms employ:

1. Identify and isolate sources of realization "leakage."

Most firms allow partners to write down invoices before sending to clients, often because a matter "feels" overbilled. Firms employing legal project management have a clearer understanding of the value of certain tasks and prohibit write-downs when tasks fall within budget guidelines. Similarly, many lawyers fail to capture all hours worked, under the notion of protecting clients from inefficiency, and so the hours captured and eventually billed don’t reflect the actual time spent. However, it’s important to capture all hours and then apply a disciplined review process to eliminate inefficiencies. If an associate spent 10 hours on a task budgeted for 5 hours, it’s as important to capture the 10 hours as it is to avoid overbilling the client. Through proper accounting, the firm can better identify training needs and tweak inaccurate budget assumptions.

2. Link collections to lawyer compensation.

Many firms apply severe punishments to associates who fail to promptly capture time entries, but far fewer have programs in place to police partners’ collection efforts, though they are really two sides of the same coin. Corporations short on cash sell their accounts receivables at a discount to "factoring" companies that then aggressively pursue collections. What makes this practice profitable is the immutable law that with the passage of time the expected percentage of receivables collected declines steeply, so factoring companies that pursue speedy collections can be hugely successful. By contrast, law firms that wait until the end of a quarter or end of a fiscal year to collect outstanding invoices write down a substantial portion of fees in order to accelerate payment.

Clients (or their AP departments) know this and will happily sit on an invoice until it "earns" a 25% or even higher discount. In some firms, the dilutive impact of delayed collections is substantially higher than the higher-profile expenses that cost-reduction committees tend to target, such as staff ratios, travel expenses, etc. Some firms won’t allow draws for partners with receivables over a certain age. Others limit partner discretion in negotiating discounts, or factor steeper discounts into compensation formulas.

3. Monitor leverage for hoarding.

This is sensitive, if only because "hoarding" hours is as much a question of judgment as of analysis. But there are certain tasks that are undoubtedly not economic to be conducted by partners, when a lower-cost associate is available to do so, and vice versa. The lower realization on these tasks is a clear signal that the clients have corrected, after the fact, a misplaced assignment. Again, the firms employing legal project management have a more refined sense of the market value of specific tasks and can more closely monitor assignments. Low leverage tends to lead to higher profits in the short run, because clients are ostensibly paying higher rates. However, analysis tends to reflect the longer-term dilutive impact from price-sensitive clients who fail to return, a result that increases the cost of sales for the next engagement.

The rush to law firm mergers strikes many lawyers and journalists as a tactic that needs explaining in strategic terms, but, in fact, in most cases it’s simply the most expedient way to boost top line revenues, which law firm leaders hope will translate to increased profits. But law firm leaders relying on insightful analysis of their own microeconomics will better understand that magnifying inefficiencies and lack of fiscal discipline won’t boost profits as quickly and effectively as instituting more rigor in the law firm’s business practices.

Partners aren’t typically trained in finance, yet we expect them to make battlefield decisions every day that impact profits. A little guidance and a few carrots and sticks applied in the appropriate areas can deliver both profits and peace of mind to lawyers who prefer to avoid growth for the sake of growth.

A version of this article was originally published in my Leadership in the Law column for Marketing the Law Firm, an ALM publication.

Timothy B. Corcoran delivers keynote presentations and conducts workshops to help lawyers, in-house counsel and legal service providers profit in a time of great change.  To inquire about his services, click here or contact him at +1.609.557.7311 or at tim@corcoranconsultinggroup.com.

Adapting to the New Normal: Fleeing Pain and Pursuing Happiness

A common scenario confronts my law firm clients, prompting them to call me:

"We are increasingly required to adopt alternative fee arrangements for clients who prefer low cost over quality, and we struggle with whether or not to lower our rates and take a loss or just walk away from non-profitable business and focus on clients who value us.  We need help on a case by case basis deciding the right way forward."

Law firm leaders who embrace the assumptions contained in this scenario, or who are leading lawyers sharing these assumptions, are constantly looking for methods to reduce the pain associated with this new normal. Just as professional athletes need to play through chronic pain as the season wears on, many lawyers seek techniques to help them valiantly soldier through the many new obstacles.

I disagree with a number of the assumptions contained in this scenario, but it's no wonder that lawyers who operate under these assumptions struggle to adapt.  So let's tackle this head on:  the changes taking place in the legal profession are good for lawyers and for law firms, so long as we're willing to let go of a few long-standing and outdated assumptions.

Clients always care about quality. But they define quality differently than you do.  In business, financial predictability is critical.  The legal function, whether managed by a chief legal officer, a general counsel or a vice president of finance, is now subject to the same demand for certainty as the rest of the business.  Law firms that embrace predictability and all that this means (including proactively managing expectations when circumstances change), are considered to be higher quality and valued more as trusted advisors than those law firms that distinguish themselves solely on the quality of the work product.  Few matters require the best legal team in the world; every matter requires some measure of predictability.

Revenue is not the same as profit.  Billing hours generates top line revenue.  It's the starting point for all the calculations that lead to firm profits.  But it's not the same.  If I can lower my cost of production and delivery, and lower my organizational overhead, I can generate a higher profit even when revenues are flat or declining.  A matter that bills 250 hours at $450 per hour  generates $112,500 in revenue, which at a 24% margin nets $27,000 in profit.  A matter that bills at a flat rate of $75,000 and generates a 35% return nets a profit of $26,250.  How many matters can you have win if you offer to do the work for $75,000 rather than $112,500?  Or more realistically, how many matters can you win if you offer to do the work for $75,000 rather than refuse to quote any estimate, because "legal matters are inherently unpredictable?"

Alternative Fee Arrangements can be profitable.  Lawyers raised on a billable hour revenue model tend to believe this is the only way, or at least the ideal way, to generate revenues. But as we've seen, there are other ways to generate profits.  The secret to unlocking the value of alternative fee arrangements is this:  only those with experience have enough of a learning curve to find efficiencies in the delivery of a legal service.  The firm down the street that merely lowers rates to win work won't win if the prospective client, or the procurement officer, isn't first convinced of their subject matter expertise.  Knowing your practice gets you in the game.  Offering predictability and efficiency based on that knowledge wins the work and generates profits.  This fundamental truth is the driver of profitability in nearly every other line of business.

Discounts don't provide predictability.  This is a mistake too many clients make.  Because it's hard to create legal budgets, and sometimes even harder to manage to a legal budget, it's easier for a client to just demand a discount or for a law firm to just offer a discount and then operate on an hourly-fee basis.  After all, that discount conveys to the powers-that-be that we've negotiated in good faith and saved money, doesn't it?  But no CFO is fooled by this.  A matter that takes 200 hours at $425 per hour is obviously lower than that same matter billed for 200 hours at $450 per hour... but it's still more than the $75,000 flat fee the experienced firm down the street is offering.  Merely discounting rates without also addressing the cost of delivering legal services will dilute profits every single time.  If you have a process to vet discounts but don't have a corresponding process to address service delivery, you are pouring profits down the drain.

Relationships still matter, but it's important to focus on the right relationships.  We can walk away from clients demanding discounts or alternative fee arrangements.  But to what end?  Assuming buyers are increasingly armed with better information about the value of legal services, then who is our preferred target market -- GCs and CFOs who are so singularly unskilled in their roles that they won't seek to find or measure value?  Clients who are so loyal to us that we can overcharge them again and again?  It's more important to establish and nurture relationships with those clients and prospective clients whose business challenges closely match our capabilities, and whose industry or even geographic footprint closely match our own, allowing us to serve their needs efficiently.  Some buyers seek value (they will pay market rates for legal services from established providers) whereas others merely demand irrational discounts from everyone.  It's critical to determine the tipping point in your practices so you know which relationships to pursue, and which to discard.

Profit is a more informative driver of compensation than revenue alone.  Many firms have a compensation system which rewards fee origination.  The lockstep firms pay increasing amounts for tenure, regardless of contribution.  Both are dumb models, or at least incomplete models.  A key challenge with favoring fee origination is that such models ignore the cost of delivery.  A partner who generates $1.5 million in fees but consumes resources and overhead equivalent to $1.2 million nets $300,000 or a 20% profit margin.  A partner who generates $1 million in fees but consumes resources and overhead equivalent to $600,000 nets $400,000 or a 40% margin.  In many firms, the first partner would be more handsomely rewarded than the second.  It's far more nuanced than this, but directionally you can see the conflict.  It's a similar challenge with a lock step firm -- if you want innovation and efficiency in order to drive greater profits, then reward those who convert experience into efficiency rather than merely reward experience.

While the initial outreach from some of my clients may be a plea for help to avoid the pain of adapting to the new normal, we often find that a good strategy generates plenty of positive rewards for partners and leaders alike.  Instead of pushing partners into painful change that they don't want, we provide a roadmap to pursue a more pleasurable outcome and the partners come along willingly.  In your own firm, do you find yourself lamenting the loss of the old ways moreso than you look forward to tomorrow?  Perhaps you've heard of the man who visited his doctor and cried, "Doc, it hurts when I do this."  The wise doctor simply said, "Stop doing that."  Isn't it time your firm pursued pleasure over pain?

Timothy B. Corcoran delivers keynote presentations and conducts workshops to help lawyers, in-house counsel and legal service providers profit in a time of great change.  To inquire about his services, click here or contact him at +1.609.557.7311 or at tim@corcoranconsultinggroup.com.

Building a Legal Project Team - a complimentary webinar

The legal profession has experienced a sea of change in the past five years, as clients have increasingly been putting pressure on law firms to change the way that they do business. Central to this has been the demand for firms to adopt legal project management programs, often spearheaded by a new type of legal professional. But simply going out and hiring a certified project management professional is not enough. In a cutting-edge webinar entitled Building a Legal Project Management Team: Hiring the Right People, to be held on June 13, 2013 at 1pm ET, I will join executive search consultant Steve Nelson of The McCormick Group to explore such issues as:

• What training do your existing lawyers and administrators need before embarking on a legal project management program?
• Why legal project management programs should be adopted even if alternative fee arrangements are not involved
• The interaction between legal project management and other key disciplines, such as client relations, business development, practice management and knowledge management
• How important are credentials such as a PMP or a JD
• The importance of the "cultural fit"

To register for this complimentary one-hour webinar, please visit the following link: http://buildinglpm.eventbrite.com/.  If you have questions or situations you'd like us to address, please feel free to submit comments in advance.  At the conclusion of our presentation, we will invite audience questions and commentary.

Timothy B. Corcoran delivers keynote presentations and conducts workshops to help lawyers, in-house counsel and legal service providers profit in a time of great change.  To inquire about his services, click here or contact him at +1.609.557.7311 or at tim@corcoranconsultinggroup.com.

Why Pesky Clients Meddle in the Law Firm Business

Think back to the last time you purchased a new vehicle.  Do you recall advising the salesperson, in that gently chiding tone of yours, to be sure not to show you any cars manufactured on a Monday or a Friday?  When the incredulous salesperson asked you why the day of manufacture would possibly matter, do you recall your explanation?

"We all know that assembly line workers are, like everyone else, tired on Monday mornings so quality suffers until the workers regain their rhythm.  And we all know that many assembly line workers start their weekend on Thursday night and come into work on Friday morning tired and hungover, and with everyone else so focused on starting their weekend, quality suffers all day long."

This is, of course, a preposterous notion.  Automobile manufacturers embed so many quality controls and redundancies into the manufacturing operations that they feel quite comfortable issuing a brand promise of high manufacturing quality, regardless of which worker, which shift, which factory, which country, was involved in the assembly of a given vehicle.  Sure, mistakes can happen, but the incidences are statistically remote and any observable pattern of recurring flaws would be dealt with quickly and effectively.

And yet every single day in-house counsel across the globe feel the need to instruct their outside lawyers to not allow first- or second-year associates to work on certain matters, or on all of their matters, in order to protect the integrity, quality and efficiency of the legal work product. What gives them the right to meddle in the production of the legal work?  What factors influence clients to analyze legal bills, highlighting some tasks as unnecessary and accordingly refusing to pay for services rendered?  The answer, quite simply, is the typically insufficient and ineffective law firm brand promise.

Quality isn't a de facto outcome of pedigree

Once, while serving as moderator of a panel of law firm managing partners presenting at an in-house counsel conference, I asked how each law firm demonstrated "quality" to its clients.  One managing partner declared that his approach was to hire the best and the brightest, pay an above-average wage, staff matters to ensure thoroughness and leave no stone unturned in the pursuit of the client's objectives.  An audience member asked the managing partner if he wasn't even a little concerned that clients, the questioner included, weren't willing to pay premium prices for young lawyers to learn their craft.  The managing partner scoffed at the notion, suggesting that if the client wants quality, he should expect to pay for it.  Let's all sit quietly for a moment and let that, shall we say, inelegant response settle in.

Before you judge the managing partner too harshly, understand that nearly every law firm partner felt this way just a few years ago.  Hire quality people, train them at the knee of quality partners, continue the tradition of quality that Smith & Jones has delivered lo these many years, rinse and repeat.  The only oddity was this managing partner's tone deafness in the face of monumental market changes, but his perspective is by no means unique.  The fact is, law school doesn't train lawyers to practice.  (If you aren't prepared to stipulate this point, then you needn't continue reading.)  Furthermore, academic success, as typically measured by the LSAT, law school grades and bar exam performance, have limited utility in predicting a lawyer's ability to understand a client business, have empathy, employ active listening skills, ensure predictability, use project management, deploy resources efficiently, embrace technology, create and adhere to budgets, communicate proactively and be responsive -- the very factors clients use to measure law firm performance.  Simply hiring good people isn't enough, not nearly enough, to demonstrate quality.

Price is a poor proxy for quality

I like wine.  I don't know much about it, but I enjoy a fine red or a chilled white when the occasion arises.  And like many unsophisticated wine buyers, when I'm invited to a dinner party and I need to select a bottle to bring, I migrate to the expensive aisles at my local wine merchant.  After all, I can't arrive at a fancy party with a $25 bottle of wine when a $75 bottle of wine would be far more suitable, right?!  The oenophiles reading this are chuckling.  (Oenophile is the Greek word for wine snob!)  Anyone who knows wine knows that price is a lousy proxy for quality.  There are many excellent wines at affordable prices that, by comparison, make the expensive wines taste like aged vinegar.  Yet this is the same approach many firms take to demonstrate quality:  "We're expensive because we're good; and we're good because we're expensive.  Don't hire that inexpensive middle-market middle America firm, hire us at two times the rate, because you will get two times the quality."

Anyone who has taken a Microeconomics course knows that it's not uncommon for consumers to substitute price for quality, and this perception is often aided by the producers who use subtle -- and not so subtle -- cues to influence buyer behavior.  The classic business school example is Grey Poupon, the mustard, which experienced dramatically improved sales when the manufacturer raised the price and launched an advertising campaign populated with rich people asking one another for Grey Poupon.  This works when buyers are unsophisticated, a.k.a. they lack sufficient information on which to make a more measurable distinction.  Since so many law firms are indistinguishable from one another ("We're big but with a personal touch, global but operate locally, fierce but collegial, diverse but Ivy-league educated...") it's no surprise that firms and clients alike have traditionally gravitated toward high-price as an indicator of quality.  But clients now know better.  With the abundance of metrics available to any in-house counsel, it is easy to distinguish between those firms meeting a client's specific and articulated needs, and those firms failing to do so.  (And if you're an in-house counsel and you don't know what I'm talking about, for crying out loud call me immediately, lest you mistake the pressure from your CEO and CFO as a simple mandate to negotiate hourly rate discounts!)

Quality results from measurable, repeatable, demonstrable processes

Incorporating metrics in the selection and management of outside counsel is exactly why we see the increased presence of the procurement function in many law departments.  A law department can create a dashboard of measurable factors and each outside law firm must fall within acceptable boundaries or be shown the door.  Many partners perceive the market changes as purely a reaction to price -- whether in the form of clients simply demanding lower rates, or in the form of competitors offering predatory pricing to steal clients away.  The reality is, many law firms have created their own dashboards of measurable performance cues, and these form the basis of their pricing and operational strategy.  Law Firm A may be able to provide a service on a fixed fee basis, or within certain boundaries on an hourly basis, by closely scrutinizing the manner in which it delivers its services and still generate a handsome profit while finding efficiencies.  But Law Firm B, which treats all matters as the same regardless of the client's perceived value, can only offer discounts which erodes profitability and does nothing to improve the quality of the work product or the client's perception of value.  And every day the partners of Law Firm B will cry that their competitors are "undercutting the price and winning work that can't possibly be profitable."  The only thing holding back Law Firm B from embracing a more modern business-oriented approach to the practice is the short-sightedness of its leaders and the recalcitrant posture of its partners.

Clients can go too far, but can you blame them?

In a recent workshop, an in-house lawyer explained that she bans first- and second-year associates from all of her company's matters because she fears that any inefficiency will be passed on to her, often in a disguised fashion.  "I'll pay partner rates for their experience, but I won't pay the lower associates rates when the 'rates times too many hours' calculation always works in the law firm's favor."  She went on to say that she also demands her outside counsel provide profitability information so she can "ensure that the law firm is making a fair profit, but too much of a profit, from the work I send them."  Partners, hold on to your chairs, I've got this one.

If Law Firm A in our example above can deliver a quality work product, using the client's own metrics, at a reasonable rate, using the client's own perception of value, then the client has no business meddling in how the law firm produces the work.  Like the auto buyer, the brand promise of quality is built into the many measurable performance attributes.  A client who continues to meddle under these circumstances is misguided.  And, let's be crystal clear,  no matter how idiotic it is for law firm leaders to perpetuate the profitability rankings, and how meaningless profit is as a measure of quality, no client has any business dictating the profit margin a law firm can make.  Any General Counsel who disagrees with me on this point should schedule five minutes with his or her own CEO or CFO and ask how often these business leaders allow their clientele to have direct input into transactional or long-run profit margins.  I get the underlying intent, but clients should focus on the performance metrics that matter, hire law firms that meet these performance criteria, and leave the production and profitability to the law firms to decide and derive.

Timothy B. Corcoran delivers keynote presentations and conducts workshops to help lawyers, in-house counsel and legal service providers profit in a time of great change.  To inquire about his services, click here or contact him at +1.609.557.7311 or at tim@corcoranconsultinggroup.com.