Law firms are big business, nationally and locally. In the United States, more than $250 billion a year is spent on legal services, and the Washington, D.C. region gets more than its fair share of that amount. The D.C. Bar has almost 50,000 active members, and around 60 percent of the 250 largest law firms in the country have their headquarters or significant branch offices here. No other city in the country boasts such a wide array of legal practice.
But an industry that once experienced extraordinary growth, with revenues and profits increasing at near double-digit rates, saw profitability plummet as the recession deepened. Demand for services and outside counsel spending dropped by 5% and 11%, respectively. Price pressures escalated as clients insisted on discounts or fixed fees while refusing traditional 6-8% annual rate increases. Consequently, the bottom fell out of collection realization rates and firms responded with layoffs, compensation cuts, and other cost control measures.
The 2011 Client Advisory from D.C.-based Hildebrandt Baker Robbins finds that this new reality is stubbornly entrenched. Law firms, it seems, are subject to the same winds that lift or level other businesses. This crisis demands that law firms rethink their leadership and begin acting like businesses.
Jim Jones, senior vice president of Hildebrandt Baker Robbins and former managing partner of Arnold & Porter, had this to say about the crisis and what can be done to rise to its challenges:
“What we are seeing is a sea change in the legal industry. After years in which the primary focus of law firm managers has been on growth and expansion, we are now seeing the emergence of a strong buyer’s market in which clients are looking at the overall value of the legal services they receive. The emphasis going forward will clearly be on finding ways in which legal services can be delivered more efficiently and cost effectively. And that, in turn, will drive a re-examination of the ways law firms price their services, manage their work, and recruit and develop their talent,” Jones said.
What can law firms do to remain viable and vital? The short answer is leadership. Here are some examples of what’s needed:
For reasons of tradition and credibility, law firms are run by lawyers, despite the fact that lawyers are not trained in business and management. To be successful, law firms must create executive teams that include business-savvy non-lawyers. They have to think more strategically about the broader economic climate, industry trends, client needs, and internal policies. Law firms, like other businesses, exist in a complex context of people, money, culture, and change, and what separates success from mediocrity is strategic forecasts and concomitant action.
Law firms should take another step in the right direction and introduce pricing models based on metrics other than billable hours. Examples include a flat-rate where a fixed sum is charged for defined services, or value added to client businesses. This is a big departure from the neat and tidy billable hour, but it’s a necessary to satisfy budget conscious chief counsels.
Although law firms have modest overhead expenditures, the costs associated with the administrative underbelly—real estate, technology, furniture, catering, office supplies and transportation—are significant. If these services providers were aligned, law firms could maximize their value chains, improving efficiency and cost savings.
In addition, firms could create alliances or even initiate mergers with other specialized firms to offer clients more comprehensive and coherent representation. While many law firm partners would recoil at the comparison, Target is successful because it’s one-stop shopping. For example, Martindale.com, a legal information and referral portal, lists no fewer than 65 separate practice areas. Consolidation will make satisfying consumer needs easier.
Finally, law firms must do a better job of managing their top talent. There’s no shortage of lawyers, but retention of the most talented ones is an important human capital strategy. Further, internal compensation systems need to be aligned. Practice heads should be compensated based on practice area performance, not individual performance.
The legal industry is a powerful local economic engine and is one of Washington’s great success stories. But, law firms have never thought of themselves as businesses. That thinking should change. Like professional service firms, law firms need leadership to implement meaningful strategic, financial, planning, and human capital measures to maintain their comparative viability.
A version of this appeared in the Capital Business Review.