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Eight Things Keeping Law Firm Management Awake at Night

by John Buley

November 2005

We worry that we can’t see or predict the future, yet the future we imagine reflects our past. Consider however, the things that we could not envision just 10 years ago—Wi-Fi, flavored vodka, latte addictions, foreign outsourcing and the related rapid decline of American core manufacturing, and the ubiquitous Wal-Mart. We have been rocketed out of our 90s complacency and self-absorption with new and very real anxieties. Law firms are not immune from the new economy, facing both similar and some unique challenges.

Clearly, not every firm will succeed. Look at the American Lawyer 100 twenty years ago and look at it now. Firms changed. The market place has changed; your firm either has to adapt to these new realities or experience the unfortunate consequences. Companies more frequently get acquired or fail. Law firms don’t. Unsuccessful law firms just don’t become or remain successful law firms. Your fear is not becoming the next Brobeck, Arter & Hadden, or Althemier and Gray. Your fear is becoming a low growth, non-differentiated practice, competing for clients on price and competing for partners on compensation.

Here are eight things keeping law firm management up at night:

  1. Foreign Outsourcing . Only a few years ago, no one seriously considered outsourcing professional services to Asia. After all, NAFTA was expected only to affect manufacturing. Now, our calls to help desks, service questions, and billing inquires are routinely and proficiently handled in India. Do you still believe law firms needn’t worry? Just this year, major law firms outsourced not only IT and word processing, but also “routine trust and estates administrative work.” What differentiates value-add legal work from routine work? If trust and estates administration can be done in India why not all second and third shift word processing? India’s day is our night; the work can be done at one third the cost while we sleep. Envision, then, the future of legal research for motions, memorandum and pleadings? What about the first draft of merger agreements, loan documentation and much contract work? There is no reason it can’t be sourced offshore. Rather, ask why a client would pay $300/hour for a first or second year associate’s work when the same product can be produced in India for $30/hour.
  1. Price competition. Until now, major law firms have been relatively price insensitive. Managing partners are reassured by the role legal audit firms play to scrutinize hours and fees that have already been scrubbed by the practitioners. My response: “you ain’t seen nothing yet.” In-house legal departments, under intense cost reduction mandates, are one restructure away from pricing all services competitively (with the only exception, the infrequent “bet the company” type of litigation or regulatory matters). To those non-believers, consider your medical insurance. Your doctor now reduces every procedure to a code, which is paid at a standard rate by the insurer. The same insurance company will force its attorneys to compete in the same way. How will this affect your future practice returns and partner remuneration?
  1. Forty something partners. Major law firms remained relatively constant in size during the 1970s and early 1980s. The economic recovery of the Reagan years permitted the explosive law firm growth evidenced from 1983 through 1989. Associate hiring more than tripled during this period. Many of these associates became partners in the early 1990s following the first Bush recession and prior to the tech implosion of 1999. These attorneys are now in their mid 40s, and at a career stage where they expect to have more management and strategic authority within their firms. How can you satisfy all of these competing career ambitions? Obviously, not everyone can be managing partner. Many firms use the Practice Group head title to placate these upwardly aspiring partners. While a solution, these same practice group managers seek more authority and control over firm governance, finances and growth strategies, entrenching practice groups silos and potentially negatively impacting firm cohesiveness. How will you respond to those partners and the groups they now control?
  1. Reduced cost and increased quality . Most major firms service the institutional market. These public companies, accountable to their shareholders, (actually securities analysts, but that is another story) are expected to reduce expenses every year in excess of 10 percent. While security analysts can’t exert similar pressure on law firms, their clients will, with increased attention to embedded overhead. Clients will pay for legal services, not for related corporate overhead. Law firm management has historically been reluctant to make the kinds of decisive changes required to operate more efficiently. Like many other service industries, the successful firm is one that can successfully grow the top line while controlling costs. These costs reduction expectations are accompanied by a drive for increased quality. Institutional clients continue to seek quality by limiting the number of “vendors” with whom they do business. Are you prepared to compete?
  1. Corporate merger activity . Institutional law firms love mergers. Mega mergers mean mega fees. But what happens after the dust settles? Someone was bought, someone was sold; and there is no reason for multiple “primary” counsels. In addition, mergers require synergies: both revenue growth and cost reduction strategies. And from first hand experience, it is far easier to cut costs than increase revenue. So, after the one-time merger fees are forgotten, in house legal departments are held to pre-merger budgets. And now, these budgets are inclusive of internal and external legal costs. It is no longer possible for legal officers to justify cutting internal fees by 15 percent only to increase external fees by 20 percent. What would you imagine goes first: The in-house legal department or the mandate to reduce outside counsel expenses? How do you respond when your clients are acquired?
  1. Insourcing legal work . Everyone wants in and everyone wants out. Ask any of your clients. Their HR people are deluged by associates who want to go in-house in order to seek stability, security, a better quality of life, and advancement opportunities (see 3 above). Yet, in general, in house lawyers are poor managers. Recognizing this lack of management acumen, legal departments staffing is kept at a minimum. When in house legal departments obtain experienced business managers and operate more like their staff line unit peers, more work will be insourced. Consider this: How many corporate HR departments and finance departments outsource their primary functions to outside vendors. Excluding major litigation, estimates are that over 30 percent of the work done by outside lawyers could easily be performed by inside counsel. Have you analyzed your clients’ engagements and considered what work could be in sourced? Does your firm have a compelling reason why its work should continue?
  1. Associate Costs . Associates will always want more money. The number of additional hours they can bill, however, is limited. Similarly, while opportunities for the top law school grads have increased, the number of top law students from tier one schools is static. Wage pressure across all professions--investment banking, consulting, finance and law--declined with the recent recession. As the economy continues to improve, there will be competing opportunities for the best associates out of law schools. Firms will have to seek out, through compensation or other means (generally that means other forms of compensation) to attract the best. Since a two-tiered entry-level class is unrealistic (Harvard grads get $x, State School grads get $y), associate compensation and retention, particularly at the junior level will become more important. If the cost of training an associate reaches $250,000 how will you protect this investment?
  1. Practice Group Defection. Until recently, partner defections were limited and not terribly disruptive. If dissatisfied, a partner may convince a few associates and a partner or two to join him. Today, given the predominance of mega practice groups within institutional firms, entire practice groups can be at risk. Rarely too, are departing practice groups unsuccessful. Client defections, decreased morale and loyalty among remaining partners, and “the grass must be greener” mentality remain after the defections. How are you going to keep all of the practice group leaders happy?

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