Walker Clark Worldview

The New York Times reported this morning that in the last quarter of 2009 the U.S. economy posted its largest quarterly growth in the past six years: 5.7%, which was better than expected. Although this is a good sign, economists are not sure that this is the start of a sustained recovery. To quote from the Times article:

“It was an excellent report, but it’s not clear how sustainable this pace of growth is,” said John Ryding, chief economist at RDQ Economics. “We need numbers like this for the next two years, and I just don’t think we can achieve that.”

Like Ryding and others much more expert about this than I am, I remain concerned about the sustainability of  any recovery in the U.S. without a dramatic drop in the unemployment numbers, particularly in terms of long-term unemployed and underemployed people (who have jobs, usually part-time, at or below minimum wage, and without health benefits). The Obama government only recently appears to have begun to pay attention to some of these fundamental obstacles to sustained recovery.

What does this mean for law firms in the United States? Watch the revenue performance of small and midsize business law firms, in particular.

If this trend continues (which is too early to predict), small and midsize law firms with a predominantly commercial practice could see an improvement in fee revenues in the third quarter of 2010. Fee revenues from corporate and commercial work are usually a trailing indicator of the business cycle. This is also true for large firms, but the nature of their client bases and the types of transactions in which they get involved are somewhat different.

This suggests to me that if a genuine recovery is underway — and not just for Wall Street and the big banks — we should see evidence of the depth and strength of that recovery in law firm fees by September. This is because, for most business law firms in the United States, commercial transactions, construction, and investment on Main Street are more important than what happens on Wall Street.

Norman Clark

Groundhog Day in Punxatawney, Pennsylvania

Note for international  readers:  There is an old North American custom that on 2 February the groundhog (Marmota monax) emerges from its burrow, where it has been hibernating.  If it sees its shadow, there will be six more weeks of winter.  If not, there will be an early spring.  Groundhog Day is a major public event in Punxatawney, Pennsylvania, and Wiarton, Ontario.

In my discussions recently with Walker Clark clients who are midsize law firms, I have noticed two interesting priorities emerging in the business plans for 2010. These are not the only profitability tactics that law firms are thinking about for next year, nor are they necessarily the most important. However, it is possible that your law firm might be overlooking them.

1.  A client-supportive approach to collections

A large portion of our law firm clients are ending 2009 with the biggest accounts receivable in their history, as well as record high percentages that are more than 180 days old.  Rather than write off the fees — and also write of the clients who owe them — some firms are taking the initiative to offer to compromise the overdue fees by 50% or more, in return for a payment plan to settle the account by the end of 2010. They are also offering the overdue clients significant discounts as an accommodation to help the client survive hard times.

This makes good sense. It is not in a law firm’s interest to have clients go out of business. Instead of being yet another financial wave that threatens to capsize the client’s ship, law firms should become part of the client’s damage control team. Sure, the law firm will be giving up some possible revenue; but it is money that it probably never would have collected.  In return, the law firm is receiving priceless client loyalty in the future.

Support, not shame, is the more effective collection technique.

2.  Renewed interest in outsourcing

In 2010 many midsize law firms will be taking a hard look at the costs of functions that have traditionally been in-house, such as IT and network administration, marketing support, project management, and translations. They are beginning to discover that the total cost of some of these functions — especially those with significant lawyer involvement — has become unacceptably high, while delivering only marginal quality and value to the client. These firms are trying to discover the true costs of these functions, which often include items that do not appear in the financial reports, such as the value of fee earner time and the rework caused by inadequate quality assurance.

Outsourcing will not make good business sense in every case. Substantial improvements can sometimes also be made through process reengineering. However, I expect to see outsourcing of more internal operations and tasks as part of the cost management tactics of many small and midsize law firms, especially in markets where fee income has not recovered to pre-2008 levels.

Norman Clark

We are now in the last two weeks of 2009, which, for many law firms, means the last two weeks of the fiscal year.

It is not too late to make significant improvements in your firm’s profitability for 2009, even at this last minute.

Focus on collections.  This money is already yours.  Other than the cost of a telephone call, the added fee revenue is pure profit.

Here are four tips:

1. Pay close attention to unpaid expense reimbursements. Even if the client is unable or unwilling to pay the fee, you can appeal to the client’s sense of fairness by asking the client at least to pay the expenses that you or your partners have already spent on the client’s behalf.
2. Offer to settle accounts receivable that are more than 180 days old at a deep discount, provided that you receive payment by 31 December. Your probability of ever collecting these balances without compromise has already fallen below 50%. Moreover, a substantial percentage of your long-overdue balances are probably from relatively small accounts.  You can possibly write off as much as 50% without a significant negative impact on overall profitability.  Why not take what you can get this year, rather than carry forward an account that will probably never be paid in full?
3. Offer an end-of-the-year rebate for all accounts receivable.  For example, if the current fee balance is received by 31 December, you will apply a rebate equal to payment of 5% or 10% against the next invoice in 2010. Although this will reduce your revenue a little in 2010, it could make a significant difference by the end of this year.
4. Pay special attention to clients that are having cash-flow problems or other financial difficulty.  Ask them to make a significant partial payment by the end of the year and a commitment to a payment plan in 2010.  In return, agree to write off a significant portion of the total balance — perhaps as high as 30% or 40% — if they complete the payment plan as agreed. You know (or, if you are doing your job properly, should know) which clients are in financial trouble. Most of them will respond positively and will also become more loyal to your firm.

These techniques work. Most clients see these as favors from you, not just last-minute bill collecting. They also can put a significant amount of additional profits into each partner’s pocket.

Norm Clark

Has the current economic crisis changed the economics of legal practice for the next ten to twenty years?

Some of the clients of Walker Clark, LLC, tell me that they have not noticed a significant reduction in the volume of legal work, except in a few areas, such as real estate and mergers and acquisitions, which traditionally are particularly sensitive to business cycles.  In some practice areas, such as restructuring, litigation, and bankruptcy, the volume of instructions has actually increased.

What is different, however, is that clients now expect lower fees and more responsive service than before.  They are challenging fees and demanding better value.

These are not just short-term responses to cash flow issues in the clients’ businesses.  It is becoming clear that many clients regard these adjustments in fee structures and rates as a permanent change in the relationship with their legal service providers.  As one partner in a firm in New York told me recently:

We don’t like to admit this, but we know that our “discounts” are really permanent price cuts.

This poses several interesting — but by no means academic — questions:

• Has the traditional partner-managed law firm become obsolete?
• Can law firms continue to expect multi-million dollar profits per partner?
• Will law firms need to change fundamentally the way in which they deliver legal services?
• Can the global mega-firms survive a legal market of lowered financial expectations?
• Can small speciality law firms survive a legal market of  higher service-delivery expectations?
• Will we see a surge in the size and scope of practice of in-house corporate law departments?
• Can today’s law school graduates expect the same highly-paid lifetime professional prospects that their parents’ generation have enjoyed?

What questions would you add to this list?

Norman Clark

National Law Journal has a very interesting piece on-line this morning, “Billing Out of the Box,” by Sheri Qualters.  It describes some of the creative approaches that small and midsize law firms are taking to revising their fee structures to meet clients’ economic realities in hard times.

There are two interesting points that I need to be make:

1. It is not about price competition. It is very significant (and adds a lot of credibility to the piece) that  NLJ  does not prattle on about how small law firms must try to remain competitive by charging the lowest price in the market.  A reasonable fee only keeps your firm in the market.  It does not create competitive advantage.   All it takes to lose the “low price” competitive advantage is for a competitor to charge one dollar less.  Moreover, such a race to the bottom is usually suicidal for small and midsize law firms.
2. This is nothing new. All of the fee structures described in the article have been around since the introduction of “alternative billing” in the 1990s.  My colleagues at Walker Clark, LLC, and I have been advising small and midsize firms on fee structures and pricing for years.  We have helped law firms work with each of the fee structures mentioned in the NLJ article, as well as some that it doesn’t include.  We have also helped them to use flexible fee structures as a component of their marketing strategies.

What NLJ describes is important, but it is not “out of the box.”

To learn more about Walker Clark’s fee structuring  services for small and midsize law firms, send me an e-mail.

Norman Clark

The long-awaited restructuring of Allen & Overy was announced on 19 February 2009. Here are the pertinent features, quoted from the firm’s press statement:

In response to the unprecedented current, global market conditions, in early December 2008 Allen & Overy began a comprehensive review of its global business, and, with regret, today announces the following programme of measures and proposals.

• Partners – A global reduction in partner headcount of approximately nine per cent (47 partners) and around a further seven per cent (35 partners) subject to equity adjustments. Around half of those affected are in London. This process is at an advanced stage and will be completed by the end of this financial year on 30 April 2009.
• Other fee earners – A proposed nine per cent reduction in numbers of associates or other fee earners globally. Around half of these are proposed to be in London, where the redundancy programme is likely to result in approximately 100 associates or other fee earners leaving the firm. This will be subject to local employment processes which will start immediately.
• Support Staff – A proposed nine per cent reduction in support staff headcount. Again, roughly half of these people are expected to be in London, where around 100 staff are likely to be affected. This will also be subject to local employment processes which will start immediately.
• Trainees – Current trainees and those with future training contracts at the firm are not impacted by any of these proposed headcount reductions.
• Pay - For 2009, pay will be frozen for all staff globally – fee earning and support staff alike. This will be subject to local employment law, where applicable.
• Fee rates – Acknowledging the impact of the global financial crisis on the firm’s clients, Allen & Overy’s headline billing rates are to be frozen until further notice.
• Demerger of Private Client practice group – As part of this strategic review, Allen & Overy’s private client practice is to demerge and become an independent firm, Maurice Turnor Gardner LLP, with effect from 1 May 2009. Maurice Turnor Gardner LLP and Allen & Overy will continue to work together where it is appropriate and in the interests of clients. Staff in the Private Client group, with the exception of trainees, will be at risk of redundancy and will be consulted with accordingly.

Commenting on the moves, Wim Dejonghe , global managing partner, said, “In the rapidly changing environment in which we operate, the reality is that there is simply not enough work to keep all our people sufficiently busy and we do not see that changing in the near to medium term.  We have reluctantly taken the difficult decision to act now, from a position of financial strength, so that we can offer better terms to our departing people than might otherwise be the case.

“This plan is about the long term sustainability and competitiveness of our partnership, our ability to continue to recruit and retain the best people and our capacity to offer the best service to our clients at competitive prices. We must act decisively to get the business to the right size, with the right skills, in the right places and minimise the need for any future similar announcements. Our priority is to minimise the impact on the morale of our remaining people and continue to serve our clients well.”

The proposed headcount reductions are broadly proportionate across partners and staff and whilst they will be implemented worldwide, roughly half of all proposed headcount reductions, at all levels, are planned to be in London.

The cost of the restructuring will be paid out of the cash reserves of the firm. The impact on the current year’s financial results is forecast to be GBP44m.

I think that it is noteworthy that A&O elected to take a comprehensive approach to the financial challenges it faces in 2009, rather than engage in serial frenzies of unintegrated cost-cutting. My colleagues and I at Walker Clark, LLC, were not involved in the A&O restructuring, but the description demonstrates six basic rules of crisis management that we recommend to our law firm clients as part of our crisis response service:

1. Get all of the facts first.
2. Face reality.
3. Expect things not to work as you expected.
4. Do more than just fix the immediate problem.
5. Tell the truth.
6. Don’t panic.

The goal of crisis management is not only to survive a business crisis, but to emerge from it stronger than before. 

One trend has already become clear: In-house counsel increasingly are asking law firms to convert to fixed fees or total fee caps for work that previously has been billed on an hourly rate. 

For example, The Lawyer reports today that Slaughter and May will now “embrace” fixed fees and discounts, although the firm has always offered some alternatives to the unlimited hourly rate.  Recently, the firm has been under considerable pressure from clients to shift from “value billing” to fixed fees.  

The discounting scheme will include feature such as a reduced rate for deals that are not completed.

The author of the piece in The Lawyer, Kit Chellel, quotes Slaughter and May executive partner Graham White: 

We’ve just responded to what clients have asked us for.  The model of many City firms was, for a long time, to agree fixed hourly rates. I think in-house counsel have realised over the last couple of years that it’s not necessarily the most efficient model.

The hourly rate is far from dead, but Slaughter and May’s shift in its fee structures is another sign that law firms must provide clients with greater predictability and manageability in legal costs.

The challenge will be to quote a fixed fee that is attractive and competitive, but also provides the law firm with a reasonable degree of confidence in its profitability. Many law firms are unable to do this. They either lack reliable data about operating costs and staffing requirements; or, if they have the data, they do not know how to extract it and use it.   Moreover, the current round of staffing cuts may have resulted in actually increasing the internal cost of producing some client services.  These issues should stimulate law firms firms to take a close, probing look at the productivity and cost effectiveness of their internal operations — something that many firms have never undertaken.

[Note: Walker Clark, LLC, offers a Core Business Skills Development Program in this area:  How to Design Profitable Proposals.]

Norman Clark