Maurice MacSweeney, director of legal finance and sales planning at Harbour, discusses how law firms can improve their profitability even amid economic uncertainty.
As law firms announce their financial results, it appears for many that a rise in revenue is not matched by a rise in net profit, as salary wars, inflation and other costs rises squeeze operating margins. So what are law firm leaders to do? Commentary from general counsel suggests it’s not the time for firms to try and negotiate fee increases, and the general economic outlook suggests there’s little immediate prospect of an increase in lucrative transactional work.
While there may be fewer corporate deals and financing transactions on the horizon, an uncertain economic outlook, geopolitical instability, rises in insolvency and corporate financial distress, and an ever-increasing regulatory burden mean disputes lawyers will become even busier — and may be in a good position to mitigate some of the pressures firms are feeling in other departments. But changing attitudes of general counsel towards embarking on new claims means litigators may need to think more creatively if they are to win new mandates.
Sharing the burden
Even a well-capitalised client’s legal team must work within its budget — most likely tightly controlled at the moment. Future spend is likely to go towards internal needs rather than out to panel firms, as cash flow and liquidity are now paramount. Any decision to pursue a claim will be weighed against concerns of duration and cost (both financial and staff time investment). Firms taking a proactive approach by offering to make an investment of their own in a claim may land well with clients at present, particularly as those clients report firms’ profit margins give room for price negotiation.
As many pricing models as there are law firms
Firms sharing risk with clients is nothing new. For well over a decade they have (perhaps reluctantly) offered alternatives to the billable hour, such as a fixed fee plus bonus model, or conditional fee agreements with the firm receiving a fee uplift in successful cases in exchange for risking a portion of their fees (perhaps around 30%) while the claim is in progress.
But why not go further? We know of one UK law firm, mostly undertaking defence work, which last year doubled its seven-figure bill on two successful claims, encouraging partners to do more work on risk. Entrepreneurial firms can also work on a damages based agreement (DBA) where 100% of fees are at risk. Leading litigation firms in London already use this model successfully for large commercial cases, and their clients are delighted to be able to pursue claims that have the potential to turn their department — traditionally a cost centre — into a revenue generator.
Make use of data
“We’d like to take more risk, but we have partners to persuade,” you might say. Such a business case can easily be made using the immense data that law firms hold on concluded matters but rarely mine — doing so would be time well spent, to identify the key issues, anticipated budget versus actual budget, matter duration, at what point they settled and for how much versus the claim value. Combining a firm’s own data with commercially available litigation data analytics programmes (or indeed investing in and developing one’s own technology) would allow partners to make more informed decisions on how to price matters for maximum profitability.
Better budget management
The other matter within the control of law firms is budget management. It is often said that budgets can never be certain because litigation and defendants are unpredictable. But this is lazy thinking — firms will often have conducted countless similar claims before, and will have much experience to draw on in identifying likely costs and setting a price accordingly.
Further, while fee earners are trained on the importance of matter profitability, a recent survey found only 32% can access real-time financial reporting on their matters, and only 20% receive profitability information. It’s no wonder budgets are routinely blown in firms where the culture is to add more WIP to the system, and where fee earners are not given greater visibility on how the financials of a matter impact the firm, and not just the client. It would be a game-changer for running profitable DBAs.
Offsetting the firm’s risk
There are also external options allowing firms to lay off the risk they take on from clients. Litigation funders support firms as well as their clients — for example by sitting behind a firm’s DBA and paying disbursements and fees (retained even if the case is unsuccessful) in exchange for a share of the firm’s success fee paid by the client. There’s no reason why this arrangement can’t apply to a portfolio of multiple cases for multiple clients.
Some funders are also increasingly providing lending to law firms, much like a bank, which can be used to defray the cost of investment in technology, new staff, acquisitions or anything else that contributes to the firm’s growth.
The tools are all there for maximising profitable work from clients; all that’s required is for litigators to embrace their entrepreneurial spirit and explore how they might take advantage of the opportunities a challenging economic environment might provide.
If you would like to learn more about how Harbour can assist your firm, please contact Maurice MacSweeney for a confidential discussion.