Law Firm Profitability in the New World - Defaultstatic.alanet.org › AC-2016-PDFs › FM13_Law_Firm...Law Firm Profitability in the New World Presented by Toby Brown FM13 5/23/2016

May 22-25, 2016 Los Angeles Convention Center Los Angeles, California

Law Firm Profitability in the New

World

Presented by

Toby Brown

FM13

5/23/2016

1:45 PM - 2:45 PM

The handouts and presentations attached are copyright and trademark

protected and provided for individual use only.

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Perkins Coie LLP

Law Firm Profitability in the New World

ALA 2016 Annual Conference

May 23, 2016

Toby Brown

Chief Practice Management Officer

Perkins Coie LLP | PerkinsCoie.com

Why You Should Care

Late 2008 - GC letter to outside counsel:

"If you are thinking about submitting a rate increase for 2009 ... don't. If you have already requested and been approved for a rate increase ... we changed

our minds."

Early 2016

Eight Outside Counsel Guidelines Received in Two Days

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Foundation: Define Profit

FIRM PROFIT:

Annual Cash Basis

Revenue Minus Cost = Profit

• All Revenue is the same

• Cost focus is on Administration and Overhead

Challenge

• Revenue Trails Billing

• Billing Trails Work

• So Revenue not connected to its Cost of Generation

CLIENT PROFIT:

• Revenue = Collected Dollars

• Cost = Cost of Hours that Generated the Revenue

Challenge

• Partner Income – Cost or Profit?

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Profit Methodologies

We are Assuming Cost Rates

• Most “Litigated” Aspect of Law Firm Profit

• Minor Impact

• Agree and Move On

#1 – Contribution Margin

• All Partner Comp Treated as Cost

#2 – Gross Margin

• All Partner Comp Treated as Profit

• AmLaw Stats

• Variation – PPP

#3 – Net Margin

• Split Partner Comp into Cost and Profit Components

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What Drives Profit?

Obviously - the Difference Between Revenue and

Cost

Drivers:

• Rates

• Realization

• Rates minus Discounts, Write Downs and Write Offs

• Productivity

• Hours billed and collected per Timekeeper

• Leverage

• Ratio of non-partner Hours to Partner Hours

• Not head count

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Profit Drivers

Profit Driver #1: Rates

• Higher = Better

$900 per hour versus $600 per hour

Obvious but …

• Rates have a significant impact on profit

• In the example that follows:

• 5% change in Rates results in approximately 12% change in

Profitability

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Profit Driver #2: Realization

Realization is the percentage of revenue collected against the value

of time at standard rates

The Math:

• Rates times Hours minus Discounts, Write-downs and Write-offs

Discounts:

• Where we give a discount off of standard rates.

Write-downs:

• When we remove time from a draft bill, before it goes to the

client. Indicates we do not see value in effort – could be training

time or just too much time.

Write-offs:

• When we remove time from a bill after the client sees it, usually

at the client’s request as they did not find value in certain effort,

or feel the fee does not match the value of the overall work.

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Profit Driver #2: Realization (cont.)

Example:

• $25,000 = 50 Hours X $500 (Revenue at standard rates)

• $23,750 = 5% Discount reduces it by $1,250 (95% Realization)

• $22,500 = 5% Write-down reduces it another $1,250 (90%

Realization)

• $21,250 = 5% Write-off reduces it another $1,250 = (85%

Realization)

• $21,250 is 85% of $25,000

• Realization is 85% in this example

Caveat: Some firms measure realization off of discounted rates.

“How can a partner be expected to collect any more than the

agreed rates?” This approach can hide the discount impacts.

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Profit Driver #3: Productivity

Hours billed per time keeper per month/year

• Higher = Better (158 per month = 1900 per year)

Impact: As Productivity drops (less hours billed) – the cost per hour

per timekeeper rises

Math Example:

• $750,000 annual cost for a senior associate

• Includes both comp and overhead

• Divided by 1900 hours billed per year

• $395 total cost per hour

Productivity drops 5% to 1800 hours per year

• $417 new cost per hour ($750k ÷ 1800)

• 5.5% increase

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Profit Driver #4: Leverage

Percentage of Equity Partner Hours Billed on a Matter

• Less is Better

Impact: As That Number Drops, Profits Go Up

• Non-equity partner hours generate the profits that pay equity

partners

• A tool for counteracting drops in Realization

Market Average: About 25%

• A.K.A. 3:1

Caveat: Equity Partner time still matters

• At 25% leverage, about a third of the revenue comes from

their time

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Profits at the Timekeeper Level

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Associate 41 $503 $478 $271 $207 $19,592 $8,481

Time Keeper Type Hours

Std

Rate

Rate at

Realization Cost Rate

Net Margin

Rate Revenue

Net

Margin

Full Standard

Rates

Hours Billed

Rates minus

discounts,

write-downs &

write-offs

Cost Rate =

Comp and

Overhead Costs

on a per hour

basis

Net Margin Rate

= Realized Rate

minus Cost Rate

Revenue = Realized

Rate times Hours

Net Margin =

Hours times Net

Margin Rate

This associate has an annual cost of $515k, which

includes both comp and overhead. $515k ÷1900 =

$271 per hour


Baseline – Sample Matter

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Rates – Averages

Realization – 92% of

Standard Rates

Leverage – Based

on averages

PPP – Calculated

using 1800 billable

hours as benchmark

25% Leverage 92%


Std

Rate

Rate at


Net Margin

Rate Revenue

Net

Margin

Net

Margin %

Eqt Partner 25 $858 $789 $763 $26 $19,734 $659

Inc Partner 14 $683 $628 $519 $109 $8,797 $1,531

Sr Counsel 20 $599 $551 $388 $163 $11,022 $3,262

Associate 41 $503 $463 $271 $192 $18,973 $7,862

$58,526 $13,314 23%

PPP $1,937,794100 total hours

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Testing Assumptions: Rate – Lower by 5%

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Higher = Better

Effective Rate minus Cost Rate equals Net Margin Rate

5% Rate Discount =

21% Drop in Net Margin5% Rate Discount =

12% Drop in PPP

25% Leverage 87%


Std

Rate

Rate at


Net Margin

Rate Revenue

Net

Margin

Net

Margin %

Eqt Partner 25 $858 $746 $763 -$17 $18,662 -$413

Inc Partner 14 $683 $594 $519 $75 $8,319 $1,053

Sr Counsel 20 $599 $521 $388 $133 $10,423 $2,663

Associate 41 $503 $438 $271 $167 $17,942 $6,831

$55,345 $10,133 18%

PPP $1,708,780A negative Net Margin

Rate for a Eqt Partner

reflects that comp is profit


Testing Assumptions: Realization – 82% of Standard Rates

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5% Discount + Additional 5% Write-off from 92% Baseline

Fees Collected minus Cost of Delivery Equals Profit

82% Realization =

42% Drop in Net Margin82% Realization =

24% Drop in PPP

25% Leverage 82%

Time Keeper Type Hrs

Std

Rate

Realization

Rate

Cost

Rate

Net

Margin

Rate Revenue

Cost of

Hours

Net

Margin

Net

Margin %

Eqt Partner 25 $858 $704 $763 -$59 $17,589 $19,075 -$1,486

Inc Partner 14 $683 $560 $519 $41 $7,841 $7,266 $575

Sr Counsel 20 $599 $491 $388 $103 $9,824 $7,760 $2,064

Associate 41 $503 $412 $271 $141 $16,911 $11,111 $5,800

$52,164 $45,212 $6,952 13%

PPP $1,479,766

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Testing Assumptions: Productivity Decrease

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Higher = Better

But: Firm / Practice Group Levels Versus Client / Matter Levels

5% Cost Increase =

17% Drop in Net Margin

5% Increase in Cost

Rates due to drop in

Productivity

5% Cost Increase =

5% Drop in PPP

25% Leverage 92% +5%


Std

Rate

Rate at


Net Margin

Rate Revenue

Net

Margin

Net

Margin %

Eqt Partner 25 $858 $789 $801 -$12 $19,734 -$295

Inc Partner 14 $683 $628 $545 $83 $8,797 $1,168

Sr Counsel 20 $599 $551 $407 $144 $11,022 $2,874

Associate 41 $503 $463 $285 $178 $18,973 $7,307

$58,526 $11,053 19%

PPP $1,843,700


Testing Assumptions: Leverage

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Less Equity Partner Time = Better

Non-equity partner time = Profits for Equity Partner comp

Leverage from 25% to 14%

= 29% Increase in PPP

Realization –

Assumes an extra

5% Write-off14% Leverage 87%

Time Keeper Type Hrs

Std

Rate

Rate at

Realization

Cost

Rate

Net

Margin

Rate Revenue

Net

Margin

Net

Margin %

Vs

Baseline

Eqt Partner 14 $858 $746 $763 -$17 $10,450 -$232

Inc Partner 16 $683 $594 $519 $75 $9,507 $1,203

Sr Counsel 24 $599 $521 $388 $133 $12,507 $3,195

Associate 46 $503 $438 $271 $167 $20,130 $7,664

$52,595 $11,831 22%

PPP $2,500,326 29%11% reduction in fee –

compared to Baseline.

The Client Goal

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Behavior Changes?

Rates

• Don’t be afraid to ask for standard rates

Write downs and Write offs

• Avoid giving work away

Leverage

• Push the work down

How Can We Get Partners to Change?

We need something immediate and (unfortunately) negative

Solution: Give your lawyers grades

• The Kicker: Not all of them will get A’s

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C-

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The Real Goal: Motivate Behavior Changes

People Change When They Are Forced To Change

• Absent some immediate benefit

What Forces People?

• Negative

• Competition

• Loss of income

• Immediate or later?

• Positive

• Competitive Advantage

• Increase in income

Law Firm Culture

• Not lined up with change

• Greed – actually not a great motivator

• Unless it’s immediate

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Create a Profit Culture

Educate, Educate, Educate

Approval Authority - Reporting Stats

Be a Resource

Compensation: The Holy Grail

Become the Prophet of Profit

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Questions?

Thank You!

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Your opinion matters!

Please take a moment

now to evaluate this

session.

Documents

Law Firm Profitability in the New World - Defaultstatic.alanet.org › AC-2016-PDFs › FM13_Law_Firm...Law Firm Profitability in the New World Presented by Toby Brown FM13 5/23/2016