financial-transition_Plan_Law_FirmsA law firm transition plan can span over several years, requiring substantial investments from the remaining partners. Quantifying the potential impact on the firm’s profits and, ultimately, the income of the partners, informs plan development.

Healthy firms that have the right information can expedite the process.  Firms that lack profitability and/or have weak financial reporting may need remedial action before committing to a transition plan.

The elements of a transition-oriented financial plan are as follows:

  1. Cash flow, debt and equity over the transition period
  2. Effect of transition comp on earnings for the firm and for assuming partners
  3. Profitability of transitioned work
  4. Effect of multiple transitions occurring simultaneously
  5. Scenario planning at various levels of transitioned work
  6. Exit costs in the event of a failed implementation
1. Cash flow, debt and equity

The capital structure of many firms is reliant upon a combination of trade credit, bank and other interest bearing debt obligations, and members’ equity.  Members’ equity consists of fixed or paid in capital plus any undistributed profits.

Depending upon the amount and duration of retiring partner payments, a firm may need to secure additional capital. Preparing partners for the eventuality of the firm incurring more debt, withholding current earnings, or requiring more paid in capital from partners ensures that sufficient cash is available to make retiring partner payments.

Firms that skip this step are asking for trouble and potentially inviting instability.

2. Effect of transition compensation

The effect of a retiring partner’s compensation is either borne by all partners or only those partners participating in the transition plan. In most situations, a hybrid is also possible that includes a share that all partners absorb and a share that the benefiting partners pay.

All remaining members typically underwrite retirement payments not tied to a transition plan.  Firms that link retiring partner compensation to the transfer of client relationships can either allocate transition costs to all partners or only to the benefiting partners.

As an example, a firm that uses a profitability driven compensation approach or considers originations in compensation may allocate a retiring partner’s transition costs to the partners receiving post-transition origination credit.

A firm may also withhold assigning client credit to any partner until the transition period is complete. In these instances, the partners benefiting from the client transfer defer any compensation increase until after the transition period.

Regardless of the approach, calculating a pro forma effect on the remaining partners’ compensation adds to the transparency of the process.

3. Profitability of the transitioned work

Understanding the profitability of a client relationship before a transition is useful, but it is more important to project profit post-transition.   Future profit models allow a firm to determine the amount of net income available for transition compensation.

Additionally, a firm must consider the impact of changes in the staffing mix. Assume that the retiring partner worked a high number of billable hours on a client account, but the replacement partner plans to use a more leveraged model. Client considerations aside, what is the impact of that decision?

What if the opposite were true and the replacement partner plans to work many of the hours that were performed by others in a leveraged model? What if the replacement partner is planning to staff the account differently altogether?  If the transition plan calls for a retiring partner to receive compensation based on client profits over a period, these considerations are important.

4. Effect of multiple transitions happening simultaneously

Depending upon the size to the firm, simultaneous transitions can overtax the resources of the firm. Additional factors include the term of any payout or return of capital. Some firms cap combined transition costs or retiring partners’ costs at a percent of net income.

When transitions are essentially agreements between individual partners, they are easier to accommodate. In these instances, the firm has an interest in ensuring that transition arrangements are well understood by the parties and are feasible.  A weak agreement will inevitably become a problem for the entire firm. We recommend partnership approval of all transition agreements.

5. Scenario planning at various levels of transitioned work

We recommend modeling a best and worst case scenario. Worst case planning prompts a firm to consider a process for managing a failing transition.  Several considerations become relevant including:

  • Who assumes the risk of a successful transition?
  • Is there a role for the firm if the transition is not working?
  • What monitoring tools are necessary to detect issues in a transitioning account?

Modeling or a best-case scenario is also important. Client relationships are fragile, and a firm may want to allocate additional short run resources to ensure that service levels remain high.  A firm may also incur higher marketing and training costs.  Recruiting fees may also apply.

In these instances, it is necessary to consider the costs of these additional resources in the transition plan.

6. Exit costs in the event of a failed implementation

Firms should also consider the possibility of failure.  This is difficult to do with such a forward-looking action as transitioning a retiring partner’s successful practice.

While the retiring partner will likely want compensation in a failing transition, the firm will not have the underlying economic base to make these payments.  Correspondingly, a firm or the assuming partner will not want to pay the retiring partner if the clients chose to hire another law firm. Basing compensation to the retiring partner on future receipts diminishes the cost of a failing transition.

Regardless of the approach, quantifying exit costs in the transition agreement is recommended.

 

A credible process

Transition plans can include several components and a substantial investment. Understanding these costs and adequately preparing for contingencies will add credibility to a firm’s practice transition process. A credible process that is repeatable is a competitive advantage.

 

Law Firm Orderly Transfer EquityTransferring equity interests is typically more challenging in smaller or first generation firms than those that are larger or more mature. Firms that include their founding members may have even more difficulty with transitioning a law firm.  Founding partners often want compensation for the start-up risks they took, along with their reduced income in early years and the the going concern value of the organization they helped to build.

As law firms fully allocate profits to current partners each year, younger partners frequently resist the notion that founding or senior partners should receive compensation for prior risks.

We believe that senior partner goodwill payments that are tied to real residual contributions (book of business) are best compensated as part of a transition plan.

Our experience is that each situation is different and much of the tension relates to the degree of compensation.  In practical terms, if the founding members want a payment level that is greater than the cost of starting a new firm, younger partners are then inclined to start a new firm.

Additionally, equity interests based primarily on tenure can leave highly productive partners without a comparable level of influence on firm priorities, which is a risk.  Law firms that can balance these realities with their long-term needs can ensure their most productive partners stay and can create advancement opportunities for talented younger partners.

How then can a firm transfer ownership to the right people in an orderly way? 

Consider the following recommended objectives for any systems that allocate membership units to members:

  • Ensuring that those partners who are consistently contributing profits to the firm have a commensurate influence on firm strategy, policy, and management;

 

  • Ensuring that units are available for new partners without a disproportionate impact on the productive partners;

 

  • To facilitate the transition of firm ownership from one generation to the next; and

 

  • To ensure that the most consistently productive partners have the votes to protect the culture of the firm.

Many firms decouple ownership from compensation to help ensure fair pay.  Typically, paying partners is accomplished using a bonus plan or some other formulaic approach.  Some firms consider management contributions when adjusting equity, but recommend compensating managerial with income rather instead of ownership.

 

New model firms view partnership equity from an investment perspective. In many instances, a single owner capitalizes the firm initially and owns all the equity. These firms concentrate on building value in their platforms that new partners, when invited, can purchase at am agreed upon valuation upon entry.

 

Inevitably, however, a traditional law firm structure requires a process for the orderly transfer of equity. While not the only approach, we believe that the best way to meet our recommended objectives is to transfer ownership based on a 3-year rolling average of contributed profits.  Our clients employ other viable methods for managing equity interests, but the most successful firms, regardless of their approach, recognize the relationship between consistent performance and ownership.

 

Smart senior partners realize that if they do not make room for others in a timely way, they risk partner defections and the eventual extinction of the firm. Ultimately, most partners want a positive legacy and do not want to be known as the person who presided over the demise of the firm.

Objective transition compensation in law firmsMany personal reasons motivate people to continue working rather than retiring. One significant factor is the lack of remuneration for their income generating asset. Of course, this income-generating asset is their client base, which may not be transferable.

Compare this situation to the owner of a successful operating company. In most instances, the owner of the company can sell the business or pass it along to family and reap a reward for his or her lifetime of work.

Since this is not the case with small and mid-sized law firms, especially defense firms, these firms struggle with senior partner buyouts.

Some of the more common reasons for these struggles include:

  • Most small to mid-sized firms compensate for originations and profits, which will be affected in the transition years for those partners involved in a buyout;
  • Buyouts are more feasible when they are a transaction between the retiring senior partner (seller) and the individual partner or partners assuming control of the work (buyers);
  • Other partners are often reluctant to fund a buyout from which they do not directly benefit;
  • The firm or partners cannot afford a buyout
  • There is a risk associated with not being able to keep the business;
  • Other partners may feel that all clients are “firm” clients. If a senior partner was paid fairly along the way, he or she is not entitled to any more money;
  • Junior partners who have worked on the senior partner’s clients may feel they have earned the right to the origination credit;
  • The timelines of the remaining partners may be shorter than the potential rewards reaped from buying a senior partner out; and
  • The reality that relatively few transitions work as planned.

Any of these reasons can have a degree of validity, and firms must overcome them for any transition to occur. Remove the economic disincentives for senior partner retirements increases the chances of a successful transition.

It is equally important not to overlook the interests of the younger partners. Creating sensible buyouts helps ensure that the firm’s best attorneys are not incented to start a new firm to avoid paying senior partners a disproportionate share of current profits

I recommend that clients evaluate each retirement as if it were an individual transaction.  The tools needed to perform this evaluation include:

  • Client matter profitability of the transitioning partner’s book of business;
  • Capacity Analysis post transition;
  • Worklife timeline for the retiring partner;
  • Worklife timeline for the assuming partner (s);
  • Origination ceding schedule;
  • Pro-forma profitability of the transitioning book for three years; and
  • Compensation pro forma for the retiring partner and the assuming partner (s).

Using an objective process-oriented approach to arriving at a buyout price and structure removes much of the emotion from the negotiation. Firm’s that have the data to complete the recommended analyses can set expectations early in the process and create a model for future buyouts.  To help manage expectations, we recommend transition modeling two years before the start of any transition.

Buyout period

We prefer a three-year buyout period with a declining payment schedule based on a measure of profitability before buyout costs. For example, the senior partner would continue to receive full origination credit in year 1, a lesser amount in year 2 and a lower amount in year 3. The assuming partner’s originations would increase correspondingly. The slope of the origination changes would depend upon the senior partner’s level of involvement.

The keys to setting transition compensation include an objective process oriented approach; setting expectations early in the process, and a model to ensure consistency.

 

Law Firm Best PracticesVisit PerformLaw’s Law Firm Best Practices blog for additional information on objective, process- oriented compensation systems in law firms. 

 

I am frequently asked whether a strategic plan really makes a difference in firm performance. As I have encountered many firms without strategic plans who have achieved high levels of success, this is a fair question.

The reality is that the survival instincts and talents of the partners in many firms are the primary drivers of their success. These firms operate at very high energy levels, emphasize clients and cases, and measure success in mostly economic terms.

As firms mature, however, it becomes more difficult to compete using a two dimensional approach. To be consistent winners, firms need a strategy to identify opportunities that allows for real growth in capacity and capability.
A strategic plan is most effective for achieving the following:

  • Sustained success in the long term;
  • Alignment of leaders and future leaders;
  • A basis for choosing between opportunities; and
  • A basis for measuring performance.

While many attorneys agree that a strategic plan could make a positive difference in their firm performance, they fear that the process of creating a plan will not result in meaningful change. Having read a number of strategic plans that were never implemented, this also seems be a valid concern.

The main areas of concentration in a strategic plan should include:

 

Strategic Plan Development

Establishing clear goals and developing a plan for achieving these goals is best accomplished using a structured process. A law firm strategic planning process typically covers several areas including marketing, professional resource development, compensation and incentives, recruiting,  progression and admission criteria, capacity planning, transition compensation, technology, financial management  and leadership and management training.


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Process Management
Establishing clear goals and developing a plan for achieving these goals is best accomplished using a structured process. A law firm strategic planning process typically covers several areas including marketing, professional resource development, compensation and incentives, recruiting,  progression and admission criteria, capacity planning, transition compensation, technology, financial management  and leadership and management training.
Marketing Plan

A marketing plan is a fundamental component of a strategic plan. A strategic marketing plan typically includes the following elements: Firm-level plan; section or strategic group plan attorney plans; paralegal and support staff contributions to marketing; review of optimal client account staffing; competitive analysis; digital and inbound marketing strategy; branding; technology (CRM, marketing automation software); and  a budgeting and approval process.


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Attorney Development

The components of an attorney development system include an evaluation process, practice planning process, client staffing alignment, incentives for senior attorneys use junior lawyers, and capacity and capability evaluation.  A strategic approach to staffing (aligning client work with training needs) can speed up attorney development, but often requires collaboration with clients. Anticipating client concerns and creating incentives for clients to can make strategic staffing possible.


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Recruiting

Most firms do not have all of the talents they will need to effect a successful transition. Prospective recruiting and lateral hiring strategies are often needed. A well-communicated plan with incentives for those who actively recruit has the potential to transform a firm immediately. Recognizing recruiting contributions is an important part of creating a recruiting culture.


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Compensation and Incentives

Plans that address compensation issues and that incent the behaviors that are congruent with the objectives of the strategic plan are ideal. Remuneration and incentives tied to profitability coupled with clear origination policies will support collaboration and increased plan acceptance from all firm members.   A dynamic compensation approach includes rewards for producing profits, business development, recruiting, training and leveraging is most desirable.


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Policy Development

Clear progression partnership admission criteria are important long-term considerations for talented young professionals deciding to invest in the firm’s success or look elsewhere. These policies are equally important to top professionals evaluating a possible association with the firm.  Designing these policies to support the firm’s strategic plan helps to ensure that the right people advance and makes it easier to recruit suitable laterals.


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Worklife Timelines and Capacity Planning

Worklife timelines for all attorneys within ten years of retirement are necessary for determining the future capacity needs of the firm. Evaluating capacity before departure provides the firm more time to implement client transitions. Preparing worklife timelines forces aging partners to consider their successors. In our experience, introducing successor lawyers into a client account 2 or 3 years before a partner retirement significantly improves client retention probability.


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Transition (buyout) Compensation
Creating sensible buyouts helps ensure that younger partners are not incented to start a new firm to avoid paying senior partners a disproportionate share of current profits. Apart from accounts receivable and work in process, most law firms have no other liquid assets.  Given that most client relationships are tied to an individual and not to a firm, existing partner cooperation in a business transfer is necessary. Creating an affordable buyout structure can benefit everyone and is an important part of any strategic plan.
Partnership/Operating Agreement Revisions

Updating or creating a partnership agreement that supports long-term strategic objectives is necessary.  New partner entries, leadership transitions, future equity adjustments, addressing non-performing partners, changes in compensation, retirement and buyout provisions, etc. often require changes to partnership agreements.


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Technology
Cloud-based technologies that enable advanced workflow and document management, marketing automation, and practice specific applications are improving at a rapid pace. Technology can allow a firm to expand to virtually any place in the world with an internet connection. A distributed workforce enabled by technology can expand a firm’s reach and reduce overhead at the same time. New technologies can improve client service and enhance a firm’s competitiveness. Choosing to partner with the right IT resources can transform a law firm.
Financial Plan

Financial modeling to consider the potential impacts of the strategic plan, enhanced profitability reporting, a market competitive cost structure, pricing alternatives, capitalization, earnings management are all contemplated in the strategic planning process. Partners must understand the investment required to implement any proposed plan along with the potential risks and rewards.  A sound financial plan will support plan implementation.


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Implementation Support
Creating a strategic plan is a time intensive task. Firms tend to lose momentum after the written part of the process is completed. In too many instances implementation falters. Charging someone with the responsibility to implement early in the process is recommended.
Retreat
At the completion of the strategic planning process, a retreat to consider and adopt the plan is most helpful. A setting away from the office without the routine interruptions can result in a deeper commitment to the firm’s goals greater plan acceptance.

In our experience, trying to address all of these areas at once ends up in a lengthy document with little time remaing for implementation. We recommend that our clients start with their highest priorities and begin implementing early in the process. Immediate successes are critical to building momentum.

For many firms, especially first-generation firms, admitting new partners at the right level can be a challenge. Whether it is a new partner from their current ranks or a lateral partner from another firm, placing a new partner at the right level is much easier if compensation does not depend on equity share and the firm has a process for routinely adjusting ownership.

Recall from our previous posts on our Best Practices Blog that we discussed systems for compensating partners based on contributed profit and changing equity based on a rolling average of that added profit. If you missed those posts or you would like to review, we have provided links here.

The considerations for admitting a new partner often depend on the firm’s compensation system and the proposed partner’s ability to thrive in at the partner level. One initial hurdle for most newly admitted partners is the transition to owner from employee, which often includes a change in payroll status and a continuing guarantee of firm debt.

Compensation independent of equity

When compensation and equity are not dependent, we recommend a nominal equity percentage (1%) initially that is adjusted after a period. We recommend the first adjustment period span three years and then annually after that using a prior three-year rolling average of contributed profits.

We like this approach for new partners for following reasons:

  • Making new partners is much easier and typically does not by itself create a material shift in equity interests among current partners;
  • New equity partners often rely on origination sharing with current partners, which may change post admission;
  • Increased equity comes with a greater financial commitment, and new partners frequently need time to afford the applicable capital contribution; and
  • It allows time for the firm to implement any strategic initiatives such as transitioning senior partners and the process of reshuffling clients.

Although less preferable, some firms may have a solid three-year track record with an attorney and may choose to include those results into the ownership alignment process immediately. As a result, no three-year adjustment process is necessary, and equity continues to adjust annually.

While we are not discussing laterals until our next post, it is also possible to use this same approach toward lateral equity considerations.

Compensation dependent on equity

Firms that base a material part of compensation on ownership can implement other alternatives to immediately offering a high-value initial equity position. Slotting new partners based on a factor of their pre-partner compensation effectively equates compensation and equity. For example, assume a firm’s policy for new partners is to ensure that partnership does not result in a pay cut. In this instance, a person currently making $215,000 annually (salary and benefits) would rate a 10.75% share a firm that generates an annual profit of $2,000,000.

It becomes even more complicated if the firm’s policy is to ensure that equity partnership results in a raise in income after considering any benefit differentials. Regardless of these complexities, we do encounter these situations and typically evaluate the feasibility of following options:

  • Creating tiers for timekeeping and origination contributions;
  • Creating a transitional compensation plan for new partners that includes a partial guaranteed payment;
  • Including the previous three-year’s results when calculating the new partner’s initial equity;
  • Creating an income reserve in new admit years as a safeguard against an over or under slot; and
  • If necessary, amending the operating agreement to include a process for regularly adjusting equity.

Tying equity to compensation is more complicated and requires consistent and thoughtful consideration of partner contributions to ensure that partners are fairly compensated, and the ownership structure of the firm is supportive of a highly productive culture.

Sum up

As mentioned throughout, our default recommendation is to adjust new partners to an appropriate level after a three-year period, which is only possible if compensation is independent of ownership. We do encounter very successful firms that do not formally have a process for adjusting, but typically these firms are highly profitable and can pay above market. Our next post will consider admitting new Lateral partners.

For more on these topics and great resources, please visit our best practices blog and resources pages at performlaw.com.

A system for regularly transferring equity interests among law firm partners is most prevalent in mature firms. Many first-generation firms only change ownership percentages when admitting a new partner or after a partner exits.

Transfers of equity interests that result in a change of control are particularly stressful. Considering that the founding partners may still be practicing and that the firm name often bears their namesake, relinquishing power is typically a challenging process.

We are not discussing buyouts in this post, but often there are no or only nominal buyouts related to a surrender of equity, which can create additional tension. An objective 3rd party can help facilitate communication, propose solutions, and manage expectations.

Smart partners, however, realize that if they do not make room for others in a timely way, they risk partner defections and the eventual extinction of the firm. Ultimately, most partners want a positive legacy and do not want to be known as the person who presided over the demise of the firm.

How then can equity be transferred in an orderly way and to the right people? If you regularly follow this blog or our best practices blog, it should come as no surprise that we recommend allocating units based on contributed profits over a sustained period of years.

The most common adjustment period is three years, although firms that tie compensation to equity may need a two-year duration to align ownership and contributed profits adequately.

Allocating equity based on contributed profits is beneficial for several reasons including:

  • Ensuring that those partners who are consistently providing profits to the firm have a commensurate influence on firm strategy, policy, and management;
  • Ensuring that units are available for new partners without a disproportionate impact on the productive partners;
  • To facilitate the transition of firm ownership from one generation to the next; and
  • To ensure that the most consistently productive partners have the votes to protect the culture of the firm.

Many firms decouple ownership from compensation to help ensure fair pay. Firms that do not compensate based on equity can remove some of the pressure to adjust equity, but inevitably, ownership interests must change to reflect the economic realities of the partner contributions and to grow the firm.

Additional considerations may include considering managing partner equity and ensuring that the operating agreement contains adequate voting safeguards.

For a detailed example of changing ownership based on contributed profits, please see our law firm best practices blog.

In our next post, we will review the concepts for admitting new and lateral partners.

 

 

 

Compensation issues are one of the top reasons clients and prospective clients contact us. As we focus primarily on the issues affecting small and mid-sized law firms, our clients view business generation as a means of survival and want to reward heavily for it. Our typical client is made up of a relatively small group of successful entrepreneurial lawyers, who need an equitable system of rewards and consequences.

Many of these partners also understand the transient nature of client relationships and want to realize a high return for their efforts during periods of success. Many of these partners took considerable risks to create new opportunities and expect fair compensation to parallel their success.

The best firms understand these dynamics and focus on creating an environment where successful people and can thrive and see a direct benefit from their efforts. Compensation is a significant determinant in holding a successful firm together, and employing a system that encourages profitable behaviors and pays based on those contributions is essential. It is not that hard, but many just can’t get this part right.

We base our preference for a contributed profit approach to compensation on the following factors:

  • Heavily incents the right behaviors;
  • Enables transparency;
  • Promotes accountability and empowerment; and
  • Is field tested; our most successful firms have thrived and grown using these systems.

Data driven systems help our clients resist unconsciously falling victim to all of the weak arguments that enable unprofitable behaviors. We also understand that it is hard to address partner performance issues.  But pretending they do not exist, hiding them with a non-existent or inadequate measurement systems, or simply hoping things will improve only leads to larger failures.

Measuring legal client profitability for the last 15 years has taught us many valuable lessons that could take up several pages, but here is an example of the power of a single report set.

Practice Profitability With matter Level Detail

 

This example includes a practice profitability report with matter level detail. Initially, we can review profitability at the timekeeper level. Starting with actual hours billed (not billable hours in WIP) and the amount charged to the client for these hours (revenue credit) we can quickly determine an average rate for each timekeeper.

Nothing new here, but averages can be misleading.  We recommend looking to the matter profitability to ensure that the average rate is a good measure of a timekeeper’s performance. For example, reviewing Client 1’s result indicates that P2’s average rate is below the mean of all client matters for all clients.

Further, Client 1 accounts for only 20% of P2’s total revenue, which makes a review of additional clients and matters necessary. In this instance, assume that we are trying to determine if P2’s average rate has any predictive value or is it the result of a unique client or file result that is not likely to repeat. This same process can provide the same information for all timekeepers supporting P2’s practice.

Moving past the revenue metrics, we move to timekeeper payroll cost, which is a constant throughout all clients and matters. Peer comparisons of payroll costs and benefits can provide insight into timekeeper pay levels and production efficiency. In the same way, peer comparisons of overhead costs can provide insights into cost efficiency.   Collectively, these data form a basis for analyzing pricing and staffing mix appropriateness.

Quickly reviewing staffing and overhead costs, staffing mix, rate realization, and billing rates are all possible with these data. Presenting AR Write off information at the matter level can reveal collection inconsistencies among timekeepers and matters. Enabling partners to quickly understand the impact of production, billing rate, write-downs, staffing mix cost and overhead costs will result in a more financially competent firm.

Unprofitable or struggling partners who have some business can use these data to understand and improve results. As most lawyers are afraid of upsetting a client relationship, the resist making necessary changes to improve profitability. Without compensation consequences, they have no real incentive to improve their results. I use the work consequences deliberately because struggling partners likely need better results just to stay at their existing compensation levels.

High integrity data-driven systems make all information available to all partners, which fosters transparency. Trained partners using quality data allow firms to work with truths rather than debilitating perceptions.

For example, partners often believe differently about the effect of cost on large books of business. We are also frequently asked if the partners with the most business should always receive the most compensation. Profit driven systems are not concerned with regulating how a particular partner or group ethically creates their profits. All profit dollars are valued the same in these systems.

A good origination sharing policy also facilitates collaboration. A system that allows for sharing at the matter level is ideal for partners who collaborate on a file by file basis. See the following report sample and please refer to our law firm best practice blog for more information regarding origination sharing.

Data Driven Law Firm Compensation
Notice the Originating attorney percentage in the top right of the report and also see the allocations of origination profits in the four columns to the right of Client Net Income column. In this example, the originating partner has decided to share 10% of the profit on this client and matter with another attorney.

Compensation systems built on profitability raise the level of partner consciousness in the following areas:

  • Production
  • Billing Rates and Pricing
  • Realization
  • Payroll Costs
  • Overhead Costs
  • Staffing mix
  • Write-Offs

When every partner has a working knowledge of the impact of each of these elements on profitability, a high-performance culture can result.

For more information on implementing Data Driven Compensation Systems, please see our law firm best practice blog (CLICK HERE) and see our resources page (CLICK HERE) for client profitability seminar materials. See also our post on rewarding for training and leveraging (CLICK HERE).

Email_Analyze_Performance_Per_HourWhen it comes to professional services, we all sell time. Lawyers certainly sell time, and in a defense practice, it is almost always valued hourly. Lawyers who bill using fixed fee or percentage of recovery methods may choose not to track or to consider time spent in hours, but the same 24-hour clock is doggedly present.

Whether a firm uses hourly or non-hourly billing methods, there is an underlying cost structure that can be evaluated and often improved. While a simple cost per hour analysis using firm or group totals is easy enough to prepare, it will provide limited insight. For anyone interested in the limitations of averaging, I recommend reading The End of Average by Todd Rose.

An attribute of successful firms is that they make better choices, and making better choices is much easier with good data. A few examples include:

  • Determining where to focus marketing investments;
  • Determining whether a practice area rate and overhead structure is a good fit;
  • Determining if the return on a particular type of case is worth the effort;
  • Determining if a telecommuting model is feasible;
  • Determining if staffing is efficient;
  • Determining if rate increases are warranted; and
  • Determining the salary structure within practice areas.

This list could go on, but the point is that making choices based on consistently applied data is a much better bet than the all too often politically expedient and perception-based methods. Imagine a system that promotes accountability, is transparent, is used consistently, and supports efficient decision making. What is the value of a tool that could reduce decision time from months to minutes?

Analyzing performance per hour is a fundamental part of a data-driven decision-making process. For an in-depth analysis of return per hour best practices, please read our post companion post:  CLICK HERE

Law Firm Data Profitability AnalyzeAs someone who has provided clients with this information for more than 15 years, I have witnessed many law firms transformed by the data produced from a client profitability analysis.  Yes, most lawyers are usually not trained in financial management.  And while their day jobs doe not allow them much time to learn new disciplines, they can quickly understand the elements of client profitability.

Better decision making is supported when leaders are provided with quality information about the impact of billing rates, case staffing, support staff costs, lawyer compensation, marketing, write-downs and write-offs, and other overhead costs on the profitability.

Consider, for example, that you have a client who refuses to grant a billing rate increase. The client believes or knows that she can buy these services from a competitor for the same or better price. The client also perceives that law firms are inefficient and that a billing rate increase is the law firm’s way of covering the cost of these inefficiencies.   How then do you deal with this situation?

For starters, you need to test the client’s assumptions. Depending upon the type of work and the competitive environment in this circumstance, determining if a competitor will step in is not hard. What takes a little more work is determining if you are practicing efficiently. I should add that knowing how efficient you are is an exercise better done before asking for a rate increase.

How does client profitability help determine if you are practicing efficiently?

Borrowing from our Law Firm Best Practices blog, here is an example of a client profitability analysis with matter level detail.

client-profitability-law-firm-analytics

 

The first question is whether a 35.03% return is fair given the supply and demand factors for this client’s work. If there is sufficient competition to provide these services (supply) and there are no real barriers to entry, a 35.03% return will make most firms happy. In this situation, asking for a rate increase is risky.

Improving profitability may require a review of less obvious factors. Consider the table below that compares results to years of experience.

law-firm-analytics-profitability-client

In this example, profit per hour declines with seniority. As many clients manage top rates more closely, an experience related decline in profit per hour is not unusual.

A consideration of future staffing mix is warranted. As the lawyers in this staffing mix mature and assuming the payroll and overhead costs are not held constant, profits are going to decline. All too often, partners ignore the staffing considerations until profitability is unacceptable.

Left unchecked, clients become conditioned to a staffing mix that is unsustainable. When this occurs, the risks associated with changes in the staffing mix or rate structure increases substantially.

Providing partners with these tools and empowering them to make necessary changes quickly is the transformative part. Our example is just one of the many analytical tools available from the data provided by a client profitability analysis.

So yes, we believe it is worth the trouble to prepare these analyses. If you would like more information on the mechanics of client profitability, please see our posts at our Law Firm Best Practices Blog.

CLICK HERE TO VIEW CLIENT PROFITABILITY POST.

Operating in in the sunshine:

Over the past several weeks we have published a series of posts on our best practices blog addressing the mechanics (how to) of creating a data driven approach to measuring profitability. These posts have included the following topics:

If you believe that your law firm could do a better job in these areas, I encourage you to read this posts.

In this series of posts, we will discuss the supporting concepts and the benefits (why do) of managing your practice using these tools.

Performance Per Hour Analysis: What is it and what are the benefits?

When it comes to professional services, we all sell time. Lawyers certainly sell time, and in a defense practice, it is almost always valued hourly. Lawyers who bill using fixed fee or percentage of recovery methods may choose not to track or to consider time spent in hours, but the same 24-hour clock is doggedly present.

Whether a firm uses hourly or non-hourly billing methods, there is an underlying cost structure that can be evaluated and often improved. While a simple cost per hour analysis using firm or group totals is easy enough to prepare, it will provide limited insight. For anyone interested in the limitations of averaging, I recommend reading The End of Average by Todd Rose.

An attribute of successful firms is that they make better choices, and making better choices is much easier with good data. A few examples include:

  • Determining where to focus marketing investments;
  • Determining whether a practice area rate and overhead structure is a good fit;
  • Determining if the return on a particular type of case is worth the effort;
  • Determining if a telecommuting model is feasible;
  • Determining if staffing is efficient;
  • Determining if rate increases are warranted; and
  • Determining the salary structure within practice areas.

This list could go on, but the point is that making choices based on consistently applied data is a much better bet than the all too often politically expedient and perception-based methods. Imagine a system that promotes accountability, is transparent, is used consistently, and supports efficient decision making. What is the value of a tool that could reduce decision time from months to minutes?

Analyzing performance per hour is a fundamental part of a data-driven decision-making process. For an in-depth analysis of return per hour best practices, please read our post companion post:  CLICK HERE