The rise of market pricing

So yesterday, I posted some thoughts about the problems I saw with value pricing in the legal market. The post drew a lot of interest and several insightful comments, especially from Ron Baker, and I encourage you to read the post and comments together when drawing your conclusions about value pricing.

Today, in this follow-up post, I want to expand on yesterday’s closing comments about how I think the future likely belongs to “market pricing” — that is, a system based almost entirely on how much the buyer is willing to pay the provider. I’ll preface these thoughts with what I should probably have prefaced yesterday’s — that I’m not a pricing expert by any means, and that I’m not advocating for or against any particular pricing mechanism (well, except the billable hour — I’m always happy to rail against that). What I’m aiming to do here — what I do most of the time at Law21, frankly — is not to describe the preferable future, but the probable future. Sometimes, happily, these are the same thing. Sometimes they’re not.

In order to have “market pricing,” one of the first things you’ll need is a market. Law has not always provided this element — in fact, I would argue, the legal sector has not been a functional “market” in the traditional sense for most of its history. To have a market, you need both buyers and sellers — plural. If you have one buyer and one seller, you’ve got a transaction. If you’ve got one buyer and many sellers, you’ve got a monopsony. And if you’ve got many buyers and one seller, you’ve got a monopoly — in this case, personified by the legal profession.

When you think about it, monopolizing a city’s housing market is a weird subject for a family game.

As I’ve written before, whatever the positive outcomes of restricting the authorized provision of legal services to a single class of provider, consumer choice is not among them. It’s trite to observe that most lawyers don’t view themselves in commercial terms (“Law is a profession, not a business!”), don’t like to compete against each other (it’s still forbidden in many jurisdictions for one lawyer even to suggest she’s better than others), and strike back ferociously against “non-lawyer” market activity. Lawyers have always been the exclusive supplier of legal services, and the organized Bar devotes enormous energy and resources every day to keeping it that way.

That’s why “market pricing” in the law has essentially always been “lawyer pricing.” We value our services according to the effort required and the costs incurred in applying our talents, and we decide what those efforts and costs should be. As I argued yesterday, this is largely because we don’t know any other way of doing it — but let’s be honest, it’s also because doing it this way has been easy, convenient, and profitable. So long as we’re the only authorized and competent providers of legal services (and lawyers get the final word on both authorization and competence), so long as we have knowledge and access and skill that no one else has, then we are the market. And we’ll price our services however we like.

That’s the world we all lived in up until about a decade or so ago. That’s when we began to see the emergence of unauthorized (hello, LegalZoom), newly authorized (hello, LLLTs), and unanticipated (hello, computer) suppliers of competent legal services. You could write a book about this (some have), but what matters for our purposes is that there is now more than one type of seller in the legal world.

And while these new players are still in their relative infancy, and lawyers still command the vast majority of legal spending, the seal has been broken. Lawyers’ share of the legal services market has peaked. (Since it used to be 100%, it really had nowhere to go but down.) Our share will decline from this point onwards — not down to zero, not anywhere close to it, but low enough that other suppliers can gain and solidify viable positions. And we will have an actual, functional market in legal services.

As we approach this event horizon, a lot of things are going to change, and the pricing of legal services will be among them. A multi-provider legal services market will breed intense competition for market share. There are three principal ways to win and retain market share in the legal sector.

Compete on quality. This is where lawyers instinctively gather — we maintain a nearly religious belief that our excellence, expertise, and education will persuade clients to choose us (as they should!) over anyone else. The problem with trying to compete on superior quality, though, is that not many clients can accurately assess quality, and fewer still base their purchasing decisions on getting the “very best.” And as technology upgrades and process improvements continue to take hold in the legal sector, the standardization (get used to that word, lawyers) of legal work will come ever closer, and quality distinctions between providers will cease to be very meaningful. Quality, from the client’s perspective, is table stakes: they assume it. What else you got?

Compete on service. A number of smart providers (not all of them lawyers) will differentiate themselves on the basis of the way in which they deliver their services, including the client’s experience throughout the transaction. Ron Friedmann’s excellent post on this subject should be a call to arms for lawyers to take service seriously, through better operations, user design, relationship-building, and responsiveness to client preferences. The great thing to remember about competing on service delivery is that anyone can do it — it takes no special intellect or pedigree to treat your customers like gold, just effort and commitment. But for all I champion competing on service, there are still significant investment costs to get there, and as more providers figure it out, it could well be a diminishing differentiator over time. And that leaves:

Compete on price. This is where the legal market is going — slowly and fitfully in some areas, rapidly in others. We’re going there because price is the one thing clients can understand at the beginning of a transaction — service doesn’t manifest itself until during the transaction, and quality doesn’t manifest itself until afterwards. Price is clear, obvious, comparable, and certain — you know what your investment is going to be right from the start. A billable rate and an estimate of hours is not a price — it’s a non-binding estimate. Nobody prefers non-binding estimates over a set price, including lawyers. The legal market is now filling up with providers willing and able to offer a set price at the outset. They’re going to take business away from providers who can’t.

Note that I haven’t said “Compete on the lowest price.” That’s not what I’m talking about. Number one, we’re not there yet — first we need to get to a point where most legal services are sold with a price tag, not a running meter, and that’s still some distance away. Number two, the lowest price in any market is not always the winning one — for many buyers, price is a proxy for quality, both low and high, and some buyers are not comfortable with the lowest bid. But rest assured, as quality differences among suppliers continue to narrow — and we are a lot closer to that point, in both the corporate and consumer legal markets, than many lawyers think — and the risk that “low price = low quality” falls, then prices will fall, too. And as price competition heats up, many legal services will become much more affordable than they are now.

Ideally, the value of a legal service will match up reasonably well with its price, but there’s no guarantee of that. Ask a criminal defence lawyer how that feels. (In my own perfect world, governments would significantly subsidize the income of lawyers who practise criminal, family, and refugee law, in recognition that the value of their services to the client and to society far surpasses what even healthy market mechanisms can provide. This would be more than just “legal aid” — this would be a restructuring of private legal services in these areas into a quasi-public service, maybe even a utility.)

Steer clear of Water Works, though.

Some areas of the law will be less amenable to automation and standardization pressures, of course. This is where you’ll find your outstanding advocates, your shrewdest negotiators, your most insightful counsellors. They’ll charge staggering amounts of money for their services, far more than they do now, because their customers need what they’re selling and can afford it. In some ways, they’ll come closest to “value pricing” as I described it yesterday — really getting paid what their services are worth — but probably still won’t achieve it. (If you give one piece of good advice every week to the $50 million CEO of a $50 billion company, what should your take-home pay be? I’d say a lot more than $1,000 an hour.)

My larger point, however, is that the pricing of lawyers’ services will be affected by many factors — but lawyers’ opinion of what their services are worth won’t be among them. This is what I mean by “market pricing” — buyer preferences, enabled by market forces beyond lawyers’ control, will determine how much money buyers fork over for legal services, and in what format. If the new legal market resembles other markets to any degree, then buyers’ pricing preferences are going to include:

  • simplicity,
  • convenience,
  • reliability,
  • comparability, and
  • affordability.

Roughly, I suspect, in that order.

And I’ll add this: It is in the direct financial interest of clients to accelerate the evolution of the legal sector towards multi-provider status. This might not yet have occurred to groups like corporate counsel associations and chambers of commerce, but if not, it very soon will. The more sellers, and the greater diversity of sellers, of legal services in this market, the sooner that buyer-driven pricing will become a reality. Lawyers and bar groups that continue to fight the “non-lawyer” battle should be aware that it won’t take long for their clients to choose a side in that fight.

So what’s the takeaway for lawyers? Above all, I think, it’s this: In a market in which you have little control over your price, you must have complete control over your costs. You cannot tolerate a situation in which your costs of doing business are unstable or unpredictable. You can’t be at the mercy of your suppliers of goods and services (as indeed, your own clients cannot be at the mercy of you). You can’t run a business riddled with inefficiency and duplication, or you’ll be cleaned out by other businesses that aren’t. You must know not only how much it costs you to deliver a service, but also how to continuously reduce that cost, how to increase your productivity, to remain competitive. If you invest well in process enhancements, service upgrades, and marketing improvements, then you’ll be able to influence your price, perhaps significantly. But complete control? Very unlikely.

Pricing is hard. One of the reasons it’s especially hard in the legal sector is that we’re just now emerging from a monopoly situation in which pricing didn’t really matter — we didn’t even have “price,” in many cases. Our current struggles around pricing are just part of the birthing pains of an actual, healthy, bouncing baby market. If you don’t have a handle on it yet, don’t be too hard on yourself — not many people do. But you do need to get a handle on it as soon as you can. When it comes to legal pricing, our time is not our own.

=========================

I’m honoured to have received this review of my new book, Law is a Buyer’s Market: Building a Client-First Law Firm, from James G. Leipold, Executive Director of the National Association of Law Placement (NALP).

“This is a book you should buy and read if you take an active interest in the future of large law firms in North America, but I would go further and recommend you buy two copies, sneaking one onto the desk of your managing partner or dean by stealth in the dark of night. [Jordan] does as good a job as anyone of diagnosing the current law firm malaise, and he does it with an easy grace and style that makes the read a pleasure — then he goes further and offers a road map for building the law firm of the future.”

Learn more about Law is a Buyer’s Market, including how to order here at Law21.



7 Comments

  1. Ron Friedmann

    Jordan – great set of posts, very thought provoking.

    I’m struck by the timing because there are two other articles this week about pricing. Arguably, you cover the vast middle ground and the other two book end with high value and high volume.

    On the high value side, BTI discusses what it takes for lawyers to paid (at least more than once), $2,000/hour at http://www.bticonsulting.com/themadclientist/highest-rates-clients-pay-hit-a-wall

    On the high volume side, Bill Henderson, in the ABA Journal, has a great piece on managed legal services, including how they price. http://www.abajournal.com/magazine/article/managed_services_corporate_legal_work

  2. Peter D. Lederer

    Jordan — I echo Ron Friedmann’s praise, and would like to focus on a question raised by the Bill Henderson piece he refers to. There, Bill notes:
    “Legal managed services companies are tremendously innovative. Yet virtually all of them price projects on a per-hour basis.”
    I am no friend of the billable hour, having started legal life just as it was becoming entrenched. Yet I wonder…as long as the hours worked are an integral part of determining compensation, are they not baked in?

  3. Jordan Furlong

    Peter, the way I look at it is this: Computers don’t work hours. :-)

    It doesn’t matter if you’re a law firm, an accounting firm, an LPO, an MLS, whatever — if you employ people who provide legal services, you can pay them however you like. You can pay them by the hour, by the minute, by their hair colour, by the phases of the moon. It’s entirely up to you.

    But you cannot simply turn around and pass that time-
    and effort-based cost directly to the client. The client doesn’t care how your people got the work done or how you compensated them for it. *All they care about* is what you delivered to them.

    Break the automatic link between how you pay your people and how you charge for their services. The *entire point* of leverage is that you pay your people less than you charge for their services. It applies, obviously, to your non-human resources — you would never charge for a computer’s performance on a cost-plus basis, because the computer’s cost (after the first use) is measured in fractions of a penny. So why charge for your human performers on a cost-plus basis? You don’t need to. You shouldn’t.

    Law firms don’t have a problem with pricing. They have a problem understanding that their costs of production and their revenue from clients are not supposed to be causally connected.

  4. Peter D. Lederer

    Thanks, Jordan — you’ve just made me realize that my computer has been overcharging me ;-)
    I don’t want to emulate the exemplar cited by Stephen Hawking (“You’re very clever, young man, very clever”, said the old lady. “But it’s turtles all the way down!”), but cost-plus arrangements are not all tools of the devil. They can indeed be flawed, but I have yet to see the pricing mechanism that isn’t.

  5. Tristan Forrester

    Having had the experience of working in the pricing function of a global law firm AND consulted to professions other than law, I’m always amazed at the level of consternation that goes on in law land about what the future of pricing will be.

    I agree with your point Jordan that these are the expected birthing pains of a new dominant pricing model.

    But I’m not sure the answer about where law will end up is that complicated. You only need to look at consulting engineers and accountants to see the future: pricing dominated by fixed fees with very clear scope, and a sizeable percentage done on some kind a risk/reward basis, and a smaller amount still done on hourly or daily rates where the work is high value but narrow in focus and the costs of scoping not worth the effort. And secondments disappear and become what they really are – lower margin body-shopping arrangements.

    A typical consulting engineering practice does 80%+ of its work in a fixed fee basis, and generates 45-55% of its total revenue from variations.

    And this transition is already well advanced in some places in law land – particularly in common law jurisdictions outside the US. Have a look at finance and real estate practices in London for example.

    That’s not to say the birthing pains won’t be painful – there are very specific skills, roles and processes that need to be in place for a firm to generate 50% of its revenue from variations!

    There’s a tough reality in this too – these professions are far less profitable for their equity holders than law. Who knows where the greater price competition and transparency that comes with this model will necessarily lead to lower profitability – but I have a suspicion that it will. But I think the broader market dynamics in law are going to ensure that anyway.

    So, given all this, is it any surprise that firms try and hold on to the billable hour for as long as possible, for as much work as they can?!

  6. James Hannigan

    Great post. I think we also need to make clear quality should not imply “good or bad” – it’s about levels of service which price should reflect. To Ron’s rallying cry, “do less law” means provide only what is absolutely necessary, it’s assumed that it will be done well.

  7. Mike O'Horo

    This is all very insightful. However, conspicuously missing from every discussion I read about the future of law firm pricing, operations, profitability, etc., is Sales. The rest of the world long ago embraced the idea that Sales is a mission-critical function.

    During the 20-year boom market for legal service that ended in 2009, Sales was unimportant because explicit demand was so robust that order-taking was sufficient. Since the permanent shift to a buyer’s market from that seller’s market, demand relative to traditional supply has declined, which means that Sales will be THE differentiator going forward. As the author of The Challenger Sale put it, “What you sell is less important than how you sell.” In a competitive market, the comfort zone of relationship-centric business pursuit will be exposed as the outdated fraud that it is.

    The research reported in The Challenger Sale identifies five selling profiles, among them The Relationship-Builder. The data shows that that profile is dead last in sales performance, and that for complex sales, the likelihood of The Relationship-Builder prevailing against the other profiles is “close to zero.”


Leave a reply