In my consulting practice I see increasing numbers of small law firms failing to meet their budget requirements. When I am analysing their figures this year compared to last, for some, revenue is dropping by $150k to $200k. If it is the same next year, I believe they won't have a business.
To say it is a hardening market for smaller firms is an understatement. Increased competition from external sectors, as well as from within the profession, pricing pressures, greater client demands in the speed of legal service delivery, growing client expectations of ‘more for less’, onerous professional duties and business management responsibilities, the pressure to reduce breadth of legal services and specialise, are just some of the escalating pressures confronting practitioners. Those increasing pressures create increased risks, including risks of professional negligence.
In my role as a consultant to smaller firms it is scary to see more and more principals cutting corners and not realising the importance of doing the hard yards to get their practice in financial order. They need to set fee-earner budgets, analyse their figures monthly to see any trends occurring, conduct post-client surveys and recognise the implications from the onslaught of changes to the legal industry and what this could mean to their business.
I have found that some principals do not even know where their break-even point is and are increasing their overdrafts just to pay wages some months or making tax arrangements. Financially, this is crazy behaviour.
I am aware that principals frequently squabble over profits. They might have set up a certain structure for the firm, and while things were profitable there wasn’t an issue but now they have a declining revenue they are squabbling a lot more.
Some sole practitioners are getting to a certain vintage and realising their practice is worth nothing. What have they got to sell? You can get to a certain age thinking your retirement is going to be healthy, and then find yourself working more for less. Some have also found practice areas that once flourished have now declined and they need to learn new areas of law just to stay afloat. It is getting harder as mid-tier and top-tier firms who can offer more services aggressively pursue right-fit clients.
Clients now want more for less, and they can do it themselves, they can cut and paste and they are definitely searching the net and shopping around for cheaper legal alternatives. I don’t think smaller firms realise how tough it’s going to get.
In smaller firms with 10 or more fee earners and which don’t have a practice or office manager, principals try to do the lot: they try to fix the IT and computer issues; market for new clients; update the website; deal with HR issues; fix the photocopier and train and mentor staff.
They wear lots of hats and they don’t think they have time to do more. I wish firms would get a practice manager. You need someone who is objective and who is not concerned with billing time. Someone who can manage your IT, your staff, objectively review financials and review processes and procedures.
I also believe principals need to be strategic with their own time. They need to be analysing figures every month and adjusting their business accordingly. They also need to be looking at the changes taking place in the industry and what opportunities these might present.
For example, as changes in legislation and different qualifications are needed, firms can lose familiar legal work or in some cases it is no longer profitable to perform that type of work.
A basic problem is that many smaller law firms, and by that I mean firms of up to 10 fee-earners, don’t understand the true capabilities of their practice management systems and are not entering client data consistently.
One firm had had a software package for more than 10 years yet had not updated all the software patches for three years. This meant that they were not able to adequately analyse their client base or their business and in turn could lead to compliance issues and a frustratingly slow computer network. It took a few months to show them the valuable reports and data that they could get out of their system and allow them to realise where their true business issues lay.
It is a real risk if firms don’t analyse their figures on a monthly basis, or set fee earner budgets and review immediate and future cash flow requirements. If all principals are doing is looking at the money coming in each month and the money going out each month, without reference to the future needs of the business, potential disaster awaits. Like all small businesses, cash flow is the lifeblood of the business and principals need to be firmly focused on managing the cash requirements of their business as well as their profitability.
Time to track
It’s essential to get the basics right. Good financial health starts with having a time-recording policy that makes sense for your business. If you’re doing hourly-rated work, you can’t bill your clients for hours that haven’t been recorded.
Make sure that your lawyers know that editing time should be done at the billing stage, not the time-entry stage. Many professionals subconsciously question the value of their work and self-edit their time entries. It’s best to record time accurately and make value judgments when preparing a bill.
If you’re setting budgets for the first time in your business it’s really important to have open and honest conversations with your fee earners about the purpose of the budgets. If you’re using them as a guide, make sure your people know it’s not the end of the world if they’re not met every month.
Make sure you look at them on a year-to-date basis as it’s inevitable that some months will be better than others. If a person is getting unnecessarily stressed about not meeting budget, it can adversely impact their attitude to work. It can be very useful for both a fee earner and their partner/mentor/supervisor to have regular one-on-one meetings to discuss financial performance. That dialogue can help focus attention in the right areas to ensure that financial goals are being met.
A business needs good information in order to make good decisions.
Have clear and sensible procedures about exactly what needs to be recorded and make sure they are consistently applied by everyone involved in that important process.
If you’re never going to do anything with information like industry types or referral sources, don’t waste people’s time in gathering and recording it. Focus on the areas of information that help you achieve your firm’s strategies. Regular monthly reporting will help ensure that any inconsistencies are picked up quickly and then rectified. It’s much harder to go back over a year’s worth of matter information and do some data cleansing work.
In order to be able to make meaningful year-on-year comparisons of financial information, like revenue by work type or industry; you need to have consistent information. If the way you set up matters in your practice management system varies over time, then your ability to analyse that data can be impaired. Only meaningful data is useful data.
I am also finding practitioners are frequently not claiming for all the work they do. One lawyer who was really busy, was only averaging three billable hours a day yet he had never worked so hard in his life and burn out was surely imminent. People are not doing a count each day of what they’ve achieved. What they often find in the analysis is that they are not recording time correctly. There is seepage in their recorded time, especially for solicitors a few years out. By analysing and changing recording processes for one firm, we managed to increase billings by 7 per cent, which equated to approximately $4000 extra a month.
People are often not billing correctly. Training in larger firms is rigorous and continual. They have a process for how to manage files, billing, advising fee estimates and that all important call if the scope has changed and fees increased. I believe if you’ve always worked in a smaller firm you don’t have that training and you might not manage your time that well, you can be messy in managing files, especially file notes, and not be trained in how to handle those harder conversations around fees. People don’t get the same amount of training or mentoring in the smaller firm. It is often seen as a hindrance and a frustration to the fee earner because it is just another interruption.
At the end of the day, principals and lawyers are at their best if they can work on their files without interruptions but that’s not the way it is in a small firm. There are constant interruptions.
You’re cutting corners if you’re not mentoring your staff, setting up a knowledge bank or analysing your figures every month looking for changes. You’re not recognizing the signs for where you’re heading into trouble or changes you may need to make. Some get overwhelmed.
Seven year itch
Every seven years you should be updating your computer systems. Smaller firms are not staying abreast even with what’s going on in IT. What they need is training to keep the practice up-to-date.
A lot of firms aren’t thinking of other ways to manage their debtors, many are just increasing overdrafts for wages or making tax arrangements, which is silly considering there are no more interest-free days. They’re not looking at ‘what’s our two-year plan here?’, they’re chasing their tails. They should be looking at the business saying: have we got the right ratio? Have we got productivity with our staff? Where’s our seepage?
I believe a great tool for smaller firms is to be annually completing a benchmarking report. The Australasian Legal Practice Management Association partnered with Crowe Howarth in January to conduct the Legal Industry Financial Performance Benchmarking Study.
In May, Macquarie Bank offered the 2013 Legal Best Practice Benchmarking Survey. This is particularly good for benchmarking small firms’ financials, business development and human resources functions so they can identify which areas they need to focus their attention.
Principals need time to work on their business. You should have a regular time allocated to examine strategy and development. You need to spend at least 20 to 30 per cent of your time on strategy, 10 per cent on business development and 60 per cent doing the actual work. Obviously, at different life cycles of the practice, that would change. But once you’ve got a practice that’s going well, that’s the optimum split. You would expect that a solicitor in the firm that’s two years out from college should be billing six hours a day. But partners should not be doing as much, because they need to be working on strategy and training up new fee-earners for business succession.
The business challenges over the last four to five years have also provided opportunities for those firms ready to make change. Changes need not be revolutionary, and profitable growth opportunities are most certainly out there for smaller firms. New strategies can make a difference. I have seen some firms turn around their business and be on target to make an additional $300k this financial year.
If you're part of a small law firm or a sole practitioner, you have a huge advantage. It's a positive, not a negative. Don't think you can't compete with larger firms because you can. Your best asset is you – people buy people. Now is the time to get your practice in order and navigate your firm through these rough seas and lead your firm into calmer waters.
Small firm checklist:
1. Don’t just look at money coming in and money going out as a way of measuring your firm’s financial wellbeing.
2. Know your numbers – compare your financials to last year’s by month, by work type and by fee earner.
3. Set realistic budgets for all fee earners for example: receptionist 1-2 hours a day; secretaries 2 - 4 hours a day; solicitor 5- 7 hours a day; partners 4.5 - 6 hours a day.
4. Get back to basics – tighten practice management processes and get client databases in order.
5. Take time to regularly complete benchmarking surveys – know where your firm sits and what areas need your attention – also compare and track your progress each year.
6. Do a Google search of your firm’s name and fee earners and look at sites that have incorrectly listed your information.
7. Define the firm’s strategic direction.
8. Set business development plans for each fee earner.
9. Seriously think about the benefits of social media – so many firms still have their newsletters in PDF format where article topics can’t be found on search engines.
10. Get in experts to help you as it can save lots of time, money and energy, especially with where to begin.
Paula Gilmour is managing director of sales strategy and event director of the inaugural CLE by the Sea, Masters Retreat for Smaller Law Firms at Coffs Harbour, 7-8 July, which has been specifically tailored to meet the unique challenges of smaller firms and focus on getting your practice in order.