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Accounting and Financial Planning


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Accounting and Financial Planning

  1. 1. Accounting and Financial Planning ® FOR LAW FIRMS Volume 22, Number 9 • September 2009 Gaining Confidence in Alternative Billing By Kris Satkunas a request for proposal (“RFP”) from a In best practice, firms even require the premier prospect for a large litigation creation of staffing and pricing plans for T he tide appears to have turned in favor of alternative billing solutions. Amid the continued economic tumult, firms are responding as never before to client demands for more matter. Unsurprisingly, the prospective client asks the firm for its best “creative” pricing. Through a contact, those at the firm know the prospect currently receives new matters of a particular size or type. Here, we use the methodology behind the Redwood application to illustrate the importance of matter planning, but approximately a 12% discount from its the process would be similar with a creative pricing. As these arrangements current firm. spreadsheet tool. play out, however, some firms are likely So those responding to the RFP know The planning application projects the to find the deals they’ve struck are less they must beat the current discount to profitability of a matter by capturing profitable than anticipated. Inevitably, obtain the work. The RFP team determines information concerning the billing rates such unwelcome results will stem from that the matter is likely to consume of the attorneys expected to work on a the fact that in pricing such matters, firms approximately 1,000 billable hours. A matter (reflecting standard or discounted have failed to account for key variables. high-profile partner will do a majority rates), the hours they are expected to The problem lies with the reflexive of the work and will be responsible for work, and the anticipated collection approach to matter pricing that still billing the client. The rest of the work realization rate (see, Scenario 1 on page prevails at many firms, where partners will be split among other partners and 7). The tool takes into account how often use a back-of-the-envelope method associates. much attorneys are paid and how many to structure an offer to a potential client. A series of discussions takes place hours they’re expected to work, thereby There is a better way. Firms that model between the practice group leader and calculating the hourly cost rate for each matter planning scenarios provide their members of the executive, intake and individual. (Note: cost rates for equity partners and business development staff business development committees. They partners are handled uniquely, based on with the crucial ability to gauge up front factor into their decision that the average the portion of their compensation that is how different approaches to pricing and client of the firm contributes a 25% a function of their billable time.) staffing will affect profitability. Modeling margin. To ensure the firm obtains the Firm attorneys, managers and business allows firms to make adjustments before business, a consensus is reached that the developers instantly can see how making their bid — and therefore price firm should offer a 20% discount. profitability is affected by changing the alternative billing arrangements with The offer is made, and the firm earns billing rates, the amount of hours worked confidence. the business. Are congratulations in by various members of the proposed team order? for a legal matter, as well as the projected Winners and Losers realization. A comparison between the traditional Matter PLanning In the afore-mentioned example, the and analytical approaches to matter Before making its offer, the firm firm would have had a margin of 18% planning demonstrates how easy it can be could have run its proposed discount — before offering its 20% discount (see, to turn what could have been a profitable through a planning tool. Some firms Scenario 2 on page 7). The 25% margin engagement into an end-of-year loss. have moved away from guesswork by used to guesstimate that the firm could Say, for example, a law firm receives developing homegrown spreadsheets for offer a 20% discount to the client was an this purpose. They work, as long as they average margin. So, without modeling are maintained, but often don’t find their the matter at hand, the firm structured Kris Satkunas, a member of this way out of the finance department. More an arrangement that created a margin of newsletter’s Board of Editors, is the than 50 firms have moved to the next negative 2% even before overhead was Director of the LexisNexis Redwood Think level and adopted the Redwood Planning factored in. Tank and leads Redwood’s research efforts application. The news could be even worse. The in studying and formulating solutions to The exact tool a firm uses is less planning application assumes 100% law firm management issues. She can be important than whether the firm goes collection unless adjusted. If the firm reached at ksatkunas@redwoodanalytics. through the process to examine up front instead loses 5% in write-offs it will have com or 804-288-5185, ext. 222. how their proposals are likely to play out. a negative margin of minus 7% on the
  2. 2. LJN’s Accouting and Financial Planning forLaw Firms September 2009 matter. account to reduce write-offs, and perhaps the example above, the firm would have even assigning the account to a different lost money on the matter as originally Better Margins billing attorney (who might take a more structured, because it offered a significant The example illustrates the dramatic active role in reducing write-offs). discount on a matter that was to be staffed effect discounts can have on the bottom principally by a senior partner. line. Firms easily can move from positive deMonstrating Creativity In addition to responding to RFPs for to negative territory simply by offering to CLients new work, a matter planning tool can discounts. With today’s economic A matter planning tool provides the help firms respond to requests from pressures, the question becomes, how flexibility to offer alternative pricing current clients for fee adjustments — an can you create pricing structures that are arrangements that meet clients’ concerns increasing reality in today’s economy. both profitable and meet clients’ needs for more cost-effective solutions, while For example, say a large corporate client for alternatives to straight billable hour helping the firm to more effectively requests new work, but at a steeper arrangements? manage its margin. discount than it currently receives. A In our example, the firm could keep its An alternative to discounting would matter-planning tool can help the firm proposed discount of 20%, but shift some be to offer a blended rate (see, Scenario compare various options: of the hours to be worked from partners 4 below). At a blended rate for all team • A larger discount (moving hours to to associates, and actively manage the time members of $300 per hour, the firm’s profit be worked among team members to spent by partners (see, Scenario 3 below). margin would be 13% — a significant maintain the firm’s margin); By shifting work down, the firm moves improvement from the minus 2% margin • Fixed fee/blended rate structures; the matter’s margin to 17%. that resulted from the original offer. • Volume discounts; While this example may be a bit extreme Of course, to ensure the blended-rate • Pricing by matter phase; and — firms usually cannot shift hours from arrangement works, the firm would have • Retainers. a senior partner to an associate — it’s to monitor the time worked by each team Taking an analytic approach to matter usually possible to adjust the staffing member to ensure partners with billing planning enables firms to respond to client somewhat to improve the margin. Central rates that are higher than the blended pricing pressure with greater confidence. to the argument for improving matter rate do not exceed their time budget. The ability to construct flexible scenarios leverage — in new and existing matters — A third pricing option would be to offer — and view the dramatic differences in is the assumption that partners will push a fixed fee (see, Scenario 5 below). In the profitability created by those scenarios work down so they can use their time same example, at a fixed fee of $325,000, — empowers attorneys and staff to to nurture strategic client relationships, the firm’s margin would be 19%. Since the offer more creative pricing precisely at develop business, mentor other lawyers client would have paid nearly $400,000 a time when clients are demanding such and drive other firm-building activities. for the matter at the firm’s standard rates, solutions. Particularly in the current economic the client may welcome this arrangement. Importantly, a matter-planning platform climate, as firms urge their partners to The ability to model this type of offer is more than a tool to help firms respond ramp-up business development efforts, demonstrates flexibility to clients — and to RFPs — it’s a crucial component to the ability to deploy associates more as importantly, graphically illustrates ensuring profitability once a firm is hired. efficiently can result in freeing partners internally how alternative pricing can This type of tool helps firms plan for to bring in new business. However, firms create an advantageous partnership, a success — and then manage the matter that successfully improve matter leverage competitive advantage and a healthy to that plan — reducing the odds that but do not ensure their partners are bottom line. unpleasant surprises lie ahead at the end making efficient use of their time will of the year. suffer reduced overall profitability. Why PLanning Matters For the matter at hand, the firm also The key to matter planning is the ability Reprinted with permission from the September 2009 edition of the could improve the margin by addressing to foster dialogue between the billing Law JouRNaL NewSLetteRS. © 2009 Incisive uS Properties, realization. The firm can increase attorney, the firm’s financial and business LLC. allrightsreserved.Furtherduplicationwithoutpermissionispro- hibited. For information, contact 877.257.3382 or reprintscustomer realization by actively managing the development staff, and management. In #055081-09-09-03