Legal Business Development

What percent of legal revenue is derived from alternative fee arrangements?

Over the last few years, surveys have consistently found that the use of non-hourly alternative fee arrangements (AFAs) is slowly growing. In Altman Weil’s 2012 Law Firms in Transition Survey, 47% of firms reported that their AFA revenue had increased in the past year. In the 2012 ALM Legal Intelligence Survey, 50% of law departments and 62% of law firms reported that there was an increase in the volume of AFAs in the preceding year. And in the American Lawyer’s 2012 Law Firm Leaders Survey, 68% said more clients are requesting AFAs.

While it is crystal clear that the use of AFAs is growing, it is difficult to be sure exactly what percent of law firm revenue they currently represent. There are many reasons this question is hard to answer, including disagreements over the definition of the term “alternative fee arrangements,” law firm secrecy about finances, and the fact that many firms simply do not know.

When I conducted the LegalBizDev Survey of Alternative Fees in 2009, one of the questions I asked AmLaw 100 decision makers was, “Does your accounting system code alternative fee projects separately, so that you can easily look up the exact percent of last year’s revenue from alternative fees at your firm?” At that time, only about one in four could look up AFA revenue. (66% answered no, and another 7% did not know.) When I asked decision makers in that same survey to estimate the average revenue percentage for the AmLaw 100 as a whole, answers were all over the map, ranging from 1% of revenue to 25%.

While the answers would be more precise if that survey were repeated today, there is still no definitive  revenue data in many firms.  Last week, I talked to one lawyer who had recently helped conduct a confidential study to determine the AFA percent at her own AmLaw 100 firm.  They had come up with a number, but she did not trust it.  She felt that some lawyers were including blended rates and discounts in AFAs while others were not, and many true AFAs had been completely missed.

The best data to date was published two weeks ago in the 2013 Client Advisory from the Hildebrandt Institute and Citi Private Bank.  It was based on a series of surveys of 176 large law firms (79 from the AmLaw 100, 47 from the second hundred, and 50 additional firms), and shows a slow but steady increase.  In 2011, 16% of law firm revenue came from non-hourly AFAs.  In 2012 it was 17%, and for 2013 they are predicting 19%.

While in some ways 19% may not sound like much, it is important to emphasize that this implies that the AmLaw 100 alone will perform over $13 billion worth of legal work this year on a non-hourly basis (assuming their total gross revenue stays around $70 billion).  And while we may never know whether this percentage is exactly correct, there can be no doubt that it is going up.

This post was adapted from my new book Legal project management, pricing and alternative fee arrangements.

Legal project management and knowledge management

If a lawyer wants to identify the exact approach that will allow her to deliver services more efficiently, it can be extremely helpful to know how colleagues have handled similar situations in the past. But lawyers are busy, and sharing information is not their strong suit. Knowledge is often passed on haphazardly, or not at all. The result is that an enormous amount of legal time and energy goes into re-inventing the wheel.

There are dozens of definitions of exactly what knowledge management (KM) means, but all are built around the idea of systematically sharing insights and experiences.  Law firms can deliver greater value to clients by identifying useful intellectual property created during earlier matters, and then leveraging that knowledge inside the firm through increased access and sharing.

Like process improvement, KM is often perceived as completely separate from LPM. For example, before we started working with one of our first clients, he asked why we thought his firm should invest their limited budget in LPM rather than in KM. Our answer: You shouldn’t. You need both. By our definition, KM is not an alternative to LPM, it is an important part of it.

KM professionals are now applying a wide array of sophisticated technologies to the law including document management systems, email management systems, business dashboards, and tools to assemble documents, estimate fees, and plan matters. In a 2012 survey conducted by the International Legal Technology Association (ILTA), law firm KM professionals reported that the most widely KM used tools collected models and precedents (52%), and legal research and opinions (48%), along with intranets and portals (37%).

Law firms have been working with KM technologies for several decades, and frankly they have experienced varying degrees of success. Technology can do some amazing things, but only if lawyers use it.

However, even at firms that have little or no widely accepted KM technology, it is very easy for lawyers to make progress in KM simply by devoting time and energy to sharing best practices.

Many lawyers have developed forms, checklists, spreadsheets, and a variety of home-brewed tools and techniques to assist them in working more efficiently. Some take these tools and techniques for granted, others think that no one else would be interested. They may not realize that what’s automatic to them may be totally foreign to others.

Sharing even the simplest Rube Goldberg-like tools and techniques may be just what another partner needs to begin becoming more efficient. Starting out in KM does not require investing in elaborate software systems or hiring specialized staff. It simply requires that a group of lawyers make a commitment to collect information about best practices, and then share it. If a best practice works for one lawyer, it may work well for others.

That’s why initial LPM efforts often include collecting sample engagement letters, budget spreadsheets, time/billing reports, and checklists. When these informal project management tools are shared, two things happen. First, lawyers become more receptive to learning about project management best practices because they see that this is not a new fad, it is a refinement of tactics partners have been using for years. Second, when lawyers have easy access to these documents, they can often find some low-hanging fruit that can easily be adapted to their own practice.

 

This post was adapted from my new book Legal project management, pricing and alternative fee arrangements.

Legal project management and process improvement

Six Sigma and Lean have gotten a lot of headlines in the legal world as a result of Seyfarth Shaw’s highly publicized success in using them to streamline work. Both approaches originated in the world of manufacturing, and are examples of process improvement techniques which redesign the way work is performed to increase value and efficiency.

However, there has also been an enormous amount of confusion over exactly what these approaches require, and how they are related to each other, and to legal project management (LPM).

I became aware of the seriousness of this problem a few years ago when the Director of Professional Development at an AmLaw 100 firm asked me to explain the differences between project management, process improvement, Six Sigma, and Lean. This was an extremely sophisticated client who had been researching this area for months, but she had heard so many different claims from competing consultants that she had trouble keeping them straight.

I explained that Six Sigma is built around techniques Motorola developed to eliminate the causes of manufacturing defects and errors. Lean was developed by Toyota to increase manufacturing efficiency by eliminating the “seven wastes” (excess inventory, excess processing, overproduction, transportation, motion, waiting and defects). They are just two examples of a long list of process improvement methodologies used in other businesses, including business process re-engineering, total quality management (TQM) and ISO 9000.

In my new book, I explain how experts are still arguing about the definition of LPM, and we believe that there are many reasons to use this broad definition:  “LPM adapts proven management techniques to the legal profession to help lawyers achieve their business goals, including increasing client value and protecting profitability.” Thus, we see LPM as an umbrella term that embraces a very wide range of management techniques. If a proven technique can help lawyers accomplish their goals, we say it is part of LPM.

If you accept this definition, process improvement, Six Sigma, and Lean are specialized approaches that fall under the more general umbrella term LPM. They are simply tools in the belt, to be used in some cases and ignored in others.

Others disagree and argue that process improvement is separate from LPM, and must come first. As one consulting company warns on their web page, “You can manage to perfection, produce exactly what you promised for your client, achieve each milestone on time and demonstrate excellence every step of the way. But what if you’re managing an inefficient process?… Legal project management doesn’t look at the efficiency of the steps in the project itself. What if you could get from A to B in fewer steps, in less time, with less waste, or by spending less money? Once you’re thinking like this, you’re thinking about process improvement.”

To date, only a few law firms have accepted the purist approach of focusing on process improvement before they implement other simpler and cheaper LPM tactics. Of the 108 law firms that responded to an ALM survey on LPM, only four said that they had worked with an approach “modeled after Six Sigma (e.g. Seyfarth’s Lean Sigma).”

This is not surprising, given that Seyfarth spent several million dollars and more than five years on this approach.

One reason process improvement requires so much effort is that you not only have to figure out how things should be changed in the ideal world, you also have to get lawyers to accept the new process and change their behavior. (For examples of an alternative approach to behavior change, download the free preview chapter from my book.)

It is human nature to want to do things your own way, and behavior change is a challenge in every profession. According to Carl Binder of The Performance Thinking Network, business process consultants often identify better ways to perform work but then they “can’t get the damned people to execute the process.” This is especially challenging in law firms, since compliance must sometimes be enforced by a powerful central management team, and many law firms don’t have a powerful central management team.

Process improvement clearly has a place in re-engineering the way some legal services are delivered, some of the time. It will be especially useful for the types of legal work that include “cookie cutter” steps. A careful examination of the steps in a repetitive work process can reveal opportunities to streamline and increase efficiency.

For example, when Morgan Lewis used process improvement analysis to improve the delivery of mortgage services, they began by identifying defects in the process that did not add value to the client, including excessive staffing, excessive drafting, and internal meetings. Then they analyzed the causes of these defects, and traced some of the problems back to poor data input, lack of standard high quality forms, lack of associate training, and disorganization related to time pressures. Finally, they developed a number of solutions including standard forms, standard operating procedures and standard communication procedures. These changes enabled Morgan Lewis to reduce the cost of delivering mortgage services “often by more than 25%.”

But that does not mean that process improvement is the best approach for every problem, and it does not mean that it must come before other LPM tactics. Arguing that you must fundamentally improve a process before you start to manage it is a little like saying that if you have a car that needs a paint job, you shouldn’t bother washing it. It’s a great example of the adage “perfect is the enemy of good.”

If a law firm has the time, the money, and the will to change the fundamental way they provide services, process improvement will certainly allow them to deliver more value. The question is: do you think that process improvement is the best way to deliver value in a particular situation? 

This post was adapted from my new book Legal project management, pricing and alternative fee arrangements.

Discounting, realization, profitability, and legal project management (Part 4 of 4)

However they are calculated, realization rates have a significant impact on a firm’s bottom line, and in many firms an individual lawyer’s realization rate will also affect her compensation. 

The way this key rate is calculated varies from firm to firm.  According to a survey from several years ago by Lexis Nexis, “Billing realization has a relationship to increased partner income while collection realization doesn't.”  In other words, lawyers are paid for billing more hours, whether clients pay for them or not.

From a straight business point of view, this is a bad idea.  You get what you pay for.  So when firms pay lawyers for billing more hours, whether clients actually pay those bills or not, they create a culture that values billing more than getting paid.  The results of this can be seen in the data on realization rates at large firms, which are not pretty.   

The best available public data on realization is published by Thomson Reuters.  Its Peer Monitor Index is based on reported results from 116 large law firms including 45 from the AmLaw 100, 41 from the AmLaw second hundred, and 30 others. Their key measure is called “collected realization rate against standard” and refers to the “percentage of work performed at a firm’s standard rates that is actually billed to and collected from clients.”  According to a recent Hildebrandt report, “Realization has now been falling fairly steadily for more than three years… Realization reached another new all-time low, with net collected realizations falling just below 84%.”  

This figure represents a serious financial issue and a danger sign.  Legal project management (LPM) can help solve this problem. 

Many lawyers think of LPM as a way to improve performance on fixed price matters, and it is.  But the vast majority of legal work is performed on an hourly basis, so at the end of the day its impact on improved hourly realization may be more significant.

Consider, for example, this common scenario: A client asks her lawyer how much it will cost to handle a particular matter.  The lawyer replies that she really can’t say because so many different variables are involved.  The client says, “Yeah, yeah, I know.  But my board keeps asking me for the number.  What should I tell them?”  After additional hemming and hawing, the lawyer finally says, “Well, in the past, for situations like this we’ve seen costs ranging from $80K to $110K.” 

The client hears, “I will do this work for $80K,” and passes that number along to the board. 

The lawyer begins the work, and for the next few months everything seems fine.  Until the matter ends, and the client receives a bill for $135K.  “I can’t pay this bill,” she says. “You told me it would cost $80K, and that’s what I told my board.  If it was going to cost more, why didn’t you say something sooner?”

An awkward negotiation drags on for months, and the client ultimately pays $90K.  The firm has to write off the other $45K.  The billing realization rate on this matter is 66.7% ($90,000 divided by $135,000).  No one is particularly happy with the result, and the relationship and the chances of future business have been damaged.

This situation might have been avoided by applying LPM.  Our approach is based on eight key issues we first published at AmericanLawyer.com several years ago, which have since become widely accepted:

1. Set objectives and define scope
2. Identify and schedule activities
3. Assign tasks and manage the team
4. Plan and manage the budget
5. Assess risks
6. Manage quality
7. Manage client communication and expectations
8. Negotiate changes of scope

If the relationship partner had taken some time at the start to clearly define scope, both the client and the law firm would have had a better idea of what was and was not included in the cost estimate.  If she had planned the budget and managed it closely as things went along, at the very least she and the client would have had some warning about the rising cost.  If there was room to negotiate changes in scope, perhaps the client would have paid more.  If there was a hard cap, perhaps there would have been a chance to limit the work to stay closer to budget. 

Constant management of client communication and expectations would have been a big help, not just for the realization rate, but also to maintain the relationship. If the lawyer in this scenario had discussed the issues with the client early in the process, she might have gotten a larger payment, or perhaps she could have satisfied the client’s true needs with fewer billable hours.

No one would argue that LPM will end all disputes over legal costs.  But it has already started to end some of them.

To summarize, it is vitally important that part of your effort be devoted to assuring that you will be paid. There is a great deal of talk about how to set prices, but your price is not your price until it is paid.

 

This post was written by Jim Hassett and Matt Hassett.

Workshops in New York and Chicago

On March 20, I will be leading a legal project management (LPM) showcase and workshop in New York for the Ark Group and Managing Partner magazine.  It’s called Changing behavior within the firm, and will focus on the experiences of four of our clients, two of whom were described in the case studies chapter in my new book, and two who weren’t:

Mark Williamson, Principal, Gray Plant Mooty

Joseph Morford, Managing Partner, Tucker Ellis LLP

Stuart Dodds, Director, Global Pricing and Legal Project Management, Baker & McKenzie

Albert Dotson, Partner, Bilzin Sumberg Baena Price & Axelrod LLP

All four firms are leaders in the movement to increase legal value and efficiency, and the  panelists will compare notes about what has worked best in their LPM programs, what hasn’t worked, and what they plan for the future.  Near the end of the workshop, everyone who attends the workshop will break into small groups to brainstorm the unique challenges at their firms, and the best way for each firm to make progress. 

A few years ago, when I surveyed AmLaw 100 decision makers about alternative fees, one confidentially told me that the topic was “like a junior high dance. There’s a lot more talking than dancing.”  The same could be said of LPM, and in my experience the number of firms that have actually succeeded in changing behavior is quite small.  This workshop provides a rare opportunity to talk with leaders from four firms in the very exclusive club of firms that are genuinely changing the way they do business to meet client needs.

If you are interested in this workshop, but you can’t be in New York on March 20, I will repeat the program on May 17 in Chicago with a slightly different panel.  When the Chicago program is formally announced, you will be one of the first to know.

And if you’re also interested in pricing, you may want to consider the workshop Ark is offering in the same NY location the day before (March 19) in which more than a dozen of the world’s leading experts will discuss Law Firm Pricing and Profitability.

Pricing tip of the month: Act like an entrepreneur, not like a lawyer

When lawyers first start bidding on alternative fee arrangements and fixed price deals, they sometimes approach each new matter like a lawyer, trying to craft perfect agreements which close all the loopholes and protect them from risk.  But to win new business in an increasingly competitive environment, you will need to take risks and approach new matters like an entrepreneur who is willing to do whatever it takes and can’t wait to get started.

 

The first Wednesday of every month is devoted to a very short and simple tip like this to help lawyers increase efficiency, provide greater value to their clients and/or develop new business. This month’s tip comes from my new book “Legal Project Management, Pricing and Alternative Fee Arrangements.”