pricing

What the year 2081 will mean for law firm discounts

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Over the holiday’s I finally got time to read D. Casey Flaherty’s ‘Unless You Ask: A Guide For Law Departments To Get More From External Relationships‘ published by the Association of Corporate Counsel (ACC).

Casey’s publication is excellent and very insightful. Although written for in-house legal departments, it contains information that every private practice lawyer should be across. If for no other reason than it has an array of sample questions they may be asked.

But, it is a brief piece in the publication on asking for discounts on hourly rates/bills that I wanted to share with you all. Because Casey has managed to put into words, both succinctly and comprehensively, my own feelings on discounts.

So here it is (see pages 64 & 65):

Without some grounding in value, discounts just become a game.

First, you can only push the discount lever so many times. A recession hits or you run a convergence initiative. You get your firms to take a big haircut. What’s next? It will probably be a few years before you can return to that well in any meaningful way. Continuous improvement, on the other hand, should be a constant. There is always some process to refine, some assumption to question, or some technology to take better advantage of. Discounts can be part of a strategy. But a strategy that relies entirely on discounts is hollow.

Second, there is a huge volume of data that suggests that while most clients see themselves as negotiating progressively deeper discounts, what they are really doing is negotiating down the size of the rate increase. Last year, the client got a 10% discount off a $500 rate. This year, the client gets an 11% discount off a $520 rate. What really happened is that that firm increased the rate from $450 to $463. You can perform this trick—4% rate increase, additional 1% discount—for a quite long time before the rate flattens out. How long? 66 years. In 2081, the paid rate ($1,600/hr) would finally stop increasing as the discount (75% off a published rate of $6,399/hr) caught up to the rate increase.

Third, while almost every law department will proudly refer to the deep discounts they’ve negotiated, only about half even get one. That’s because a true discount is not calculated versus a lawyer’s published rate—of which there may be several—but is calculated by reference to something called a standard rate, an internal firm number used to determine realizations, profitability, etc. With a few exceptions, almost no one pays published rate and therefore everyone thinks they are getting a discount. But only about half of clients actually pay below standard rate. And even they are not getting as deep a discount as they think.

Fourth, if you count discounts as savings, please stop. If you’ve reduced rates below what you were paying previously, that’s one thing, especially if you also have a mechanism to monitor and hold the line on hours. But if you are just counting the delta between the published rate and your paid rate, it introduces some bizarre incentives. It encourages firms to jack up published rates so they can offer you the optical illusion of a bigger discount. It encourages you to select higher priced firm so you can report greater ‘savings’—i.e., you show double the savings by paying $700/hr to a lawyer with a published rate of $900/hr than you do paying $350/hr to a lawyer with a published rate of $450/hr. And your savings accumulate with every extra hour of work the firm bills. There is something inherently perverse about a savings metric that makes you look better the more you spend.

Fifth, finally, and most importantly, undue emphasis on discounts tends to confuse unit price with total cost. Rate differences are linear. Hours can differ by orders of magnitude. The $350/hr associate might look relatively cheap until it takes them ten hours to deliver work half as good as what the $800/hr partner delivered in one. Attention to the unit price ($350 v. $800) will obscure both quality and total cost ($3,500 v. $800). We intuitively understand the difference experience can make. Systems—the proper integration of process and technology to augment expertise in delivering legal services—are experience institutionalized. Systems merit attention in trying to understand the relationship among quality, unit price, and total cost. Discounts are only a small fraction of one piece of that puzzle.

There you have it: why discounts should not be anywhere near the front of your pricing arsenal.

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R.I.P. AFAs in 2017?

I thought I would start my calendar year of blogging off with a slightly controversial post:

Will 2017 be the year that we finally sees the demise of so-called Alternative Fee Arrangements (AFAs)?

For those unfamiliar with the various types of AFAs currently in use – and there cannot be many of you out there, then Patrick on Pricing’s Continuum of Fee Arrangements is a good starting point.

Okay, so a fair amount was made of a chart in a ‘ACC Report – Law Department Management: Establishing Value In An Evolving Business World’ published late last year which predicted a 50% increase in the use of Alternative Fees this year. Given the ACC is the leading voice for in-house counsel globally, including, now, Australia, pretty clear evidence of the future direction of AFAs you’d think.

But, to my knowledge, little has been made of the fact that the same chart foresaw a 30% decrease in the use of Alternative Fees this year by those same in-house counsel.

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And so I asked myself: Given their popularity, what could possibly be driving in-house to contemplate a reduction in their use of AFAs? This is especially so given that the ACC has very much been at the forefront of championing their use? And, potentially, in such large numbers?

The truth is, I don’t know the answer to this question. It could be as simple as the fact that in-house counsel expect to instruct out less work that fits the AFA model. But I also hazard a guess that with some in-house counsel it will have something to do with one or all of the following three possible reasons:

  1. AFAs are not transparent – no one, apart from the person who sets them, knows how they got to tat price. As such, it’s really difficult to compare them.
  2. AFAs don’t represent value. Despite a belief that they represent value over hourly billing, in the view of many in-house counsel they simply don’t. Therefore, much easier to use the foe you know (hourly billing with discounts).
  3. AFAs are not alternatives. Simply put, the core to most AFAs proposed by law firms remains: Units of Labour (manpower) x Time x Rate = Price. QED, they are not “alterative”. Indeed, their very names even suggest it with “blended”, “phase”, “task”, “volume”, “flat”.

To be clear, I don’t want to see the demise of value pricing. Indeed, quite the opposite. Nor am I particularly an advocate of hourly billing. I am however, wholly against the use of the term “alternative” when they clearly aren’t. And so I’m not overly surprised that 30% of in-house counsel are saying they will see a decline in their use this year.

Given the glacial speed of change in the the industry, I’ll wait to see if there is any change here this year. My gut tells me though not to hold my breath and that we are likely to be in the same place next year as we are now.

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What percentage of legal spend is via alternative fee arrangements?

The Ninth Annual Law Department Operation Survey was published late last month (Nov 2016). A survey of – a record number of – 133 law department professional, one of the questions asked in this year’s survey was:

‘What percentage of legal spend is via alternative fee arrangement?’

Unlike other legal market surveys undertaken during the course of the year, the results here are telling in that they are from those running the legal department, as opposed to those practising, and therefore, arguably, are more reflective of the market’s aptitude to Alternative Fee Arrangements (AFAs).

Overwhelmingly – at 87 percent – US in-house law departments make some use of AFAs with their private practice suppliers. Tellingly though, only 14.1% of this is over 50% of spend and more than a third – 34.4% – is in the one to 10 percent space (making me wonder if this is just discounts disguised as AFAs).

 

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Hourly billing – A dialogue with John Chisholm

In the concluding paragraph to a LinkedIn post he made Friday, 2 September – title ’10 rules about hourly billing for law firms’, in which he sets out the rules of US-based blogger Matthew Homann as they apply to hourly billing – my good friend, and sometime mentor, John Chisholm asks:

“Are we changing the “we sell time” mindset and business model of the legal profession? Are we changing it quick enough?”

I believe John’s questions to be important and worthy of a response. So here’s mine.

Are we changing the “we sell time” mindset of the legal profession?

“If aren’t selling time, what are we selling?”

Many would say that lawyers sell their expertise, knowledge, skill, and experience.

While I would have held that to be true pre-2008, in the new world order I no longer believe that to be the case and would hold that today this type of thinking makes it incredibly difficult for you to differentiate yourself from the pack. I’d go so far as to say that in today’s world expertise, knowledge, skill and experience are a given: they merely get you an invitation to the dance.

No, short of a nuclear event or a commoditised issue, what lawyers (and business development people on their behalf) sell today is access to the right expertise, knowledge, skill and experience. And we do this by fulfilling on all of the modern day clichés: – understanding our clients’ businesses, being client-focussed, always being available, always adding value to the relationship.

The problem though is that even if we know what we are selling, how we charge for it is a very different beast.

Are we changing the “we sell time” business model of the legal profession?

In the 2016 edition of ‘Law Firms in Transition’ by Altman Weil the researches asked:

“If your firm uses any non-hourly based billing, is your use of alternative fee arrangements primarily reactive (in response to client requests) or primarily proactive (arising from your belief in the competitive advantage of alternative fees)?”

72.2% of law firm leaders responded – “reactive“.

In an era where “Sixty-four percent of large firms have added a Pricing Director or staff equivalent” (see page (v) of the report), that’s pretty staggering. But it also goes to the heart of the problem: there clearly isn’t significant enough incentive to move away from what is in place (hourly billing) and towards something new – and the reality is we are only offering non-hourly fee arrangements under the very real threat of not being given the work at all!

And, to my mind at least, herein lies the crux of the issue John raises:- the problem is not that we sell time per se, but rather our business model rewards people for charging by it.

Indeed, if we truly want to know if the industry is changing from the “we sell time” reward model, then the Altman Weil report identifies all we need to know. In there it stipulates that law firm leaders clearly see:

“Efficiency and pricing [as] areas that firms can control to meet the changing marketplace and manage challenges and opportunities.”

And yet despite clearly seeing this:

“The one pricing tactic that has been adopted by a majority of large and small firms is developing data on the cost of services sold. Sixty-seven percent of all firms and 91% of large firms are doing this fundamental analysis, which should enable them to structure more customized fee proposals.”

And while I do commend law firms for trying to establish what a particular type of work might cost, this evidence clearly shows that firms remain stuck in a cost-plus method of charging for services rather than trying to determine what the value is to the client in doing the work – which actually would enable them to structure more customized fee proposals.

To close out this segment, I believe that the Altman Weil report touches on a central problem, and with it a possible solution, to the “we sell time” business model that currently exists in many law firms:

“…in too many firms personal, political and cultural obstacles are hindering pragmatic economic decisions.”

Are we changing it quick enough?

It should be obvious by now that my response here is going to be “no”.

But I wanted to finish by quoting a paragraph in the Altman Weil report that I believe sums up the profession’s glacial attitude to change far better than I can:

“If the strategy is simply to keep up with the pack, it misses the point that most of the pack is itself lagging and just a small increase in pace can distance a firm from its undifferentiated competitors. A firm can never get ahead by merely aspiring to keep pace with sluggish competitors. Vigorous pursuit of opportunities has always paved the way for competitive success.”

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Survey: The role pricing specialists play [or don’t] in RFP responses

Last week the USA’s J Johnson Executive Search, Inc and the UK’s Totum published their combined ‘RFP Survey Responses: U.S. and U.K. Data 2016‘.

A fairly evenly distributed demographic of large (defined as being 600+ lawyers), mid-sized (defined as being 100-600 lawyers) and small (up to 100 lawyers, for the U.S. only) law firm respondents, insights from the survey include time spent responding to RFPs, persons within firms charged with project managing responses, as well as tools and expertise made available to responding teams, in both the U.S. and the U.K.

As with most surveys of this nature however, it is the role that pricing plays that typically grabs my attention and given this survey’s combined U.S. and U.K. perspective even more so in this case.

Given ongoing market pressures, it should surprise no one that responses of “strong” from the U.S. (58%) and the U.K. (64%) to the question of what current “price pressure” for proposal & RFPs were fairly similar.

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A little more surprising to me was the difference in responses between the U.S. (40%) and the U.K. (60%) to the question “when developing proposals and RFPs, I have easy access to” the answer was “pricing guides/professionals“.

 

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Now don’t get me wrong, even these days I think it is particularly progressive and somewhat comforting to know that 60% of my colleagues in the U.K. have access to some sort of “pricing guide/professional”.

Until, that is, you get to see who actually gets to sign-off (i.e., the “decision maker”) on the all important issue of pricing in RFPs in the U.K.. Here, and I kid you not, the response in the U.K. of “pricing specialist” (that same person who 60% claim to have some form of access to – either via guides or in person) was 5%.

I think that is worth repeating – 5%.

Put into context, that means in the U.K. pricing in your RFP is more likely to be signed off by Marketing & BD (9%) or Finance (14%). Indeed, in the U.K., “It varies” is likely to have more of a say on final pricing in the RFP response than the so-called pricing specialist.

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I’m not so sure why the results of this particular survey so surprise me. After all, time and time again survey results show that we typically say one thing about pricing, but do quite another.

What I will say though is this: if you have access to a pricing specialist, and pricing by your pricing specialist is being determined in 5% or less of your RFP responses, my guess is going to be one of two things: (a) you have no idea if you are making money from your RFP “wins”, or (b) more likely, you are leaving money on the table big time!

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* images should be enlargeable, apologies if they appear a little blurred.

$180K for a First-Year Associate – so what!

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One of the big news items this week has been the decision by Cravath, Swaine & Moore to raise its starting salaries for first year associates to $180,000. Cries of “Not worth it!” and “What value do first year associates provide clients?” (answer: probably none) can be heard from all four corners of the planet.

My view on this though is so what? I don’t really care what you pay your first year associates. In the same way I don’t really care what you pay your other associates or partners. Nor do I really care what your rent is costing you.

Unless, that is, I get to thinking that: I am the one paying for all this. In which case, I suddenly become very interested.

But here’s the thing: I’d only really start to think that I’m the one paying for all your luxuries – the boat you have moored at the marina, the sports car you drive, the house you live in, the first year associate you can call on day and night – if I didn’t value the service you provide me. In other words: If I didn’t think I was getting value for money.

So if you’re one of the many private practitioners questioning the move by Cravath, Swaine & Moore, my only comment/question is this:

If you are providing your clients with a value for money service offering – and you are able to communicate this, why should it bother you?

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Report: Collected realization plummeted to 82.2% in Q1 2016

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Thanks to an article by Dave Galbenski of Lumen Legal – ‘Overcapacity, Underutilization and Realization Rates Plummeting‘ – I have just been made aware of the publication last month (May ’16) of the Q1 2016 Executive Report (.pdf download) undertaken by Peer Monitor Index (Report).

While the Report gives glimmers of hope (demand slightly up for certain practice areas), the overall message is bleak. And none so more than this:

“After showing some recent signs of stabilizing, collected realization took a sudden and sharp drop in the first quarter. For most of the past two years, collection rates have hovered around the 83% mark. But in Q1, collected realization plummeted to 82.2%. Not only is this a new historical low, it was the largest quarterly drop in more than three years.”

OK, two things here:

  1. a collected realization rate of 83% is not a benchmark we want to be heading to, but away from.
  2. if you keep putting your hourly rates up (recently BTI Consulting’s The Mad Clientist asked: ‘Is $5,000 an Hour Next?‘) but your collected realization rate is “plummeting”, then you’re most likely losing money (as well as the respect of your clients I might add).

My only other thoughts are:

  1. why do we insist on the hourly rate model as our primary means of charging if our collected realization amounts to 82 cents in the dollar? Seems absolute madness to me; and
  2. how many law firms out there can continue to operate on such an “historic” low collected realization rate? I know a number of accountants and bankruptcy lawyers who’ll happily tell you: “not many”.

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