The new leverage

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Bad news on the economic front continues to pile up — you don’t need the links from me — and the legal profession is finding its ride increasingly bumpy as a result. Wachovia’s legal specialty group reports that partners in large law firms are bringing in less revenue for the first time since approximately the Industrial Revolution. But it also points out an overlooked fact: despite all the talk about associate layoffs, it’s staff that’re really taking the hit at firms, down 18% in September alone. That suggests a couple of things: that some firms really are taking steps to retrain or otherwise hold onto their associates (and there’s good reason to do so, says Bruce MacEwen), but also that these firms aren’t looking as far down the road as maybe they should.

Looking down that road are the good people at The American Lawyer and Legal OnRamp who, with the assistance of consultant Rees Morrison, recently conducted a survey of in-house counsel members of Legal OnRamp. The survey (disclosure: I made small contributions during the design process) asked in-house lawyers about their relationships with outside counsel and their predictions about how those relationships and in-house practices will evolve over the next five years. Topics of inquiry included client satisfaction surveys, value billing, outsourcing, commoditization, automation, consolidation, and social networking.

The thrust of the results is that in-house lawyers aren’t especially happy with outside counsel in terms of service, partnering and communication — nothing new there — but are surprisingly tentative about predicting major change in how they go about acquiring services from these law firms. Very surprising, actually, as Michael Grodhaus says in reference to another study “in which 32% of 600 corporate executives predicted significant changes in law firm billing practices over the next two years. … So in the face of what is likely to be the worst financial crisis in this country since the 1981-82 recession — two-thirds of these corporate executives expect to continue to be billed by the hour for legal services just as they have always been? Where are their shareholders?”

The AmLaw/OnRamp survey results are here, the analysis by Rees and AmLaw’s Aric Press  is here, and Paul Lippe’s analysis at Legal OnRamp is here (members-only on that last one). All insightful stuff, and worth your time. For me, though, the takeaway is found in Aric’s introductory AmLaw editorial, summing up the big-picture view of the changes underway in the legal services marketplace. He identifies, correctly I think, four trends driving change — client pushback, talent upheaval, technological disruption and the Legal Services Act — and forecasts both fundamental change (farther down the line) and disaggregation of legal services (probably a lot sooner) to come. He closes with this concise but powerful state-of-the-nation on change in the legal marketplace (emphasis added):

No one doubts that there will always be room for a trusted adviser who can find new ways to bend a statute, or a white-collar specialist who can save the hide of a business leader or two. Rather, this discussion seems to be about examining what firms do, finding the tasks that really aren’t worth their bespoke costs, and developing new systems or methods for doing this work more cheaply and efficiently. How big a problem would this be for firms? That will depend in large part on how much of their work can be fairly judged as routine. At least some law firm leaders estimate that half their tasks fit that description. Ouch. They will have to hope that no one notices, change their operations, or die.

It’s not that the work would go away, just that it would be handled differently. New organizations would develop that could handle the routine searching, filing, and drafting; the change scenarios imagine technology swooping in to provide these methods. Strings of law offices, filled with well-trained but lower-cost labor — from Bangor to Bangalore — would take on these tasks, passing them up the value chain to more expensive providers in due course. With much of the fat pared away, real specialists, the law firms and lawyers with reputations as high-cost providers worth the higher cost, could be even more successful than they are today. And general counsel would come to resemble the other sort of GC — the general contractor who would have to manage the many functions that were once performed, in the olden days, by a single law firm.

It’s remarkable to see, in the Bible of BigLaw, large-firm leaders’ acknowledgement that half of what they sell is routine work. Because it’s probably safe to say that that work is neither conducted nor priced in ways that reflect its routine nature: partners doing work associates could do, associates doing work professional staff (the ones they’re laying off at the rate of 18% a month) or outsourced lawyers could do, and staff doing work that computers or online databases could do. From due diligence to document review to legal research and more, many law firms assign knowledge- and process-heavy work to people higher in the talent and experience chain than those tasks require, keep that work a safe distance away from knowledge management and other workflow efficiencies, and sell that work at rates higher than which it would otherwise be priced.

Aric isn’t overstating the potential impact on firms if routine work  does get diverted to other entities or processes: firms’ entire business structures could be at risk. That’s because of that funny little thing law firms call leverage: often defined as the ratio of associates to partners, but maybe better understood as the degree to which partners can extract fee-generating work from non-partners. I’ve never fully understood how the financial term “leverage” came to describe non-partner fee generation, but a lot of firms rely heavily on it for their profit margins. You don’t actually need to be a Marxist to appreciate that past a certain point of the year, associates pay for themselves and their subsequent billed hours go directly into partners’ pockets.

More and more signs are pointing towards a future profession in which law firms simply can’t get away with selling routine non-lawyer work at lawyer prices. Richard Susskind identifies the change as legal work shifting along the customization spectrum, from bespoke to standardized to systematized to packaged and finally to commoditized: down the road, he believes, legal work in those categories will break down roughly as 15%-15%-20%-25%-25%. Bespoke work can be charged out at full rates, commoditized work is essentially free, and the fees you can realistically charge for the others decline as you move to the right. Today, a lot of law firms are selling work in the middle and on the right of the spectrum at prices more appropriate to those on the left.

As Aric  points out, the middle-to-right-side work isn’t going away, but it will be done differently, through the use of technology, systematization, and outsourcing. Law firms can employ all these tools themselves, if they so desire, but they can’t continue to charge lawyer rates for it and use it to keep their younger lawyers busy. Inevitably, that will force a major restructuring in how firms make money. They used to be able to leverage associates’ time on basic tasks through billable hours;  they’re soon going to have to come up with something new, and they don’t seem to be brimful with ideas.

The answer, as is often the case, can be found at the other end of the law firm spectrum, with sole practitioners. Specifically, it’s laid out extraordinarily well in a post by Carolyn Elefant that I think qualifies as one of the year’s best. In “Solo, Leverage Thyself (and Diversify Too); Biglaw, Take Heed!“, Carolyn describes this new post-leverage world facing law firms and contrasts it with how leverage really works in a sole practice (her post goes on at greater and even more interesting length about diversification of a law practice, but I’ll save that for a future article):

See, because we solos don’t have an army of associates against which to leverage our hours, we learn very quickly to leverage ourselves.  What that means is rather than rely on costly, highly paid labor to amplify our billable time (not hours, time – which is my second point), we solos use technology and outsourcing to extract more value out of each hour of work we perform.  With a virtual assistant (and I have an excellent one), I can hunker down and focus on client work that demands my unique expertise, while my assistant can keep my trade association (another revenue maker) up and running or ensure that I’m constantly submitting proposals for work from new clients ….  As a result, even while I’m working on one project, I’m generating or at least stirring up the potential for revenue from others, so I’m super-charging the value of my time.  Just as partners do with associates, only that comes at a much higher cost.

This is the future that awaits many lawyers in all sizes of firms — amplifying their billable time. “Extracting more value out of each hour of work we perform” will be the key to profitability from here on in. KM systems generate legal knowledge and client information in a fraction of the time it would take a lawyer to do it, giving that time back to the lawyer to perform and sell higher-value work for clients. Side businesses or parallel projects can be operated by para-professionals working under lawyer supervision or by sophisticated software programs. One of the reasons firms like Blake Dawson Waldron and Holland & Hart put together online compliance training programs for their clients is so that in any given hour, their lawyers could be producing two streams of income: one from the work occupying their present time and one from the online machine that hums happily away 24/7 serving clients and generating revenue.

Systems and processes that automate predictable tasks and retrieve established know-how. Multiple revenue streams flowing simultaneously from a lawyer’s applied expertise. Work assigned not to the costliest performer you can manage to foist on the client, but to the most efficient performer or system that can produce cost-effective accuracy. This is the future of legal work, configured not to be an end in itself (a profit center for lawyers) but as a means to an end (better service for clients).

Lawyers, conditioned from their earliest days to maximize billable hours, are about to develop a new appreciation and a proper degree of reverence for what they should have valued most and used best from day one: their own time. This is the new leverage.

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5 Responses to “The new leverage”

  1. Susan Cartier Liebel

    Outstanding, Jordan.

    I wrote a post ‘Will Lawyers As We Know Them Exist in 100 Years?” http://tinyurl.com/6xdgzq a year ago. It was based on a series of articles by Susskind.

    The other year old post worth reading is “A Lawyer in Every Stop & Shop?” http://tinyurl.com/5qmun5 which further discusses the commoditization of the legal profession.

    Yes, major changes are afoot. The question is, who wil survive?

  2. Carolyn Elefant

    Jordan,
    Thank you so much for such a complimentary link. But more importantly, thank you for making solos part of the conversation about where the law is headed. While of course, I read everything Bruce Macewen and Aric Press write about the legal profession, the future of the profession doesn’t depend solely on what happens at big law. (I don’t blame them for their focus – that’s their beat just as sololand is mine). All lawyers regardless of where we work must follow these trends closely because of the implications they have for the quality of legal services provided to clients and the ability to expand access to law – which is really the only reason why any of this matters in the end.

  3. Richard Granat

    There is no question that solos and small law firms will be forced to re-position themselves as more routine work becomes commoditized by moving up the value curve to do more complex legal work, while using technology and outsourcing to lower their cost of doing more routine tasks. Consumers continue to turn towards non-lawyer alternatives to the legal profession such as nolo.com and legalzoom.com which actually offer little value when compared with the accountability and expertise of dealing with an attorney. However solos and small law firms that serve the consumer market segment are stuck in an obsolete pricing formula (hourly billing), for less complex tasks, that turns off many consumers. The present recession will accelerate these trends forcing solos to change or face a severe compression of revenues and profit margin. Our advanced software-as-service technology at directlaw.com is designed to enable solos and small law firms to operate as a virtual law practice over the Internet without a large capital investment and to level the playing field with disruptive players such as legalzoom.com.

  4. Colm Brannigan

    Brilliant overview!

    But:

    “Topics of inquiry included client satisfaction surveys, value billing, outsourcing, commoditization, automation, consolidation, and social networking.”

    What about ADR? Once again it seems to have been overlooked that mediation is a very low risk and cost effective dispute resolution mechanism, especially in these uncertain economic times!

  5. Dan

    I have found that most in-house lawyers talk a lot about alternative fee arrangements, yet are oftentimes afraid to go with them. I cannot count the times in-house lawyers have declined our flat fee offers in favor of normal hourly billing, while all the while telling us how much they would “love” to do the flat fee arrangement, but it is “just too difficult.” I would estimate that those companies with in-house lawyers do flat fees 10% of the time while those without in-house lawyers do it about 95% of the time. Makes me think in-house lawyers deserve at least as much blame as law firms for the old way of doing things. Would love to hear what others think about this.

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