Clients are more demanding on fees than ever before, and that pressure shows no signs of waning. But how can you set pricing so it’s both acceptable to the client, and sufficiently profitable for the firm? Robert Mowbray outlines a three-step approach
Gone are the days when lawyers would take an instruction, devote time to attend to the needs of the client, and then simply send a bill for the time incurred on the matter. The recession and subsequent prolonged recovery have put lawyers under possibly greater pressure from fees than at any time in history. And there is no real prospect of it reducing any time soon.
Some clients demand discounts, while others threaten to instruct other firms if something cannot be done about fees. Lawyers are not used to this pressure, and are not always particularly gifted at dealing with these difficult conversations. The outcome, unsurprisingly, has often been falling fees and lower margins.
Below, I outline three practical steps designed to help you to set pricing that is both acceptable to a client and delivers sufficient profit to the firm.
1. Set prices relative to profitability
Most firms produce reasonable monthly management accounts showing fees earned and profit generated. It is not, however, normally possible to tell which matters were profitable or not. Firms have historically been able to deliver consistently high profits without having any real understanding of the profitability of the work being done. But increasing fee pressures mean this cannot continue: firms need to understand the profitability of each work type, to be able to price it effectively. This is where a matter planning and profitability tool can help.
However, fee-earners may see inputting into such a tool as additional administration, taking them away from looking after their clients. So whatever tools you adopt, start off with something simple and easy-to‑use. Later, when fee-earners buy in to their use and can see the benefits, you can roll out more sophisticated models.
Below, I outline the three steps the tool will support you with, to help you to set effective pricing.
The first stage is breaking down each phase of the matter into the discrete processes that will be undertaken to do the work. Litigators will often want to focus on the timeline, showing what needs to be done at each stage; a transactional or advisory lawyer might prefer to describe the stages worked through to create each document.
You can also use this process to highlight best practice within the firm. Against each item in the matter plan, include links to precedents, practice notes, checklists or other internal documents; this will give junior fee-earners access to the expertise of more senior colleagues, increasing the chances of the work being done well, and at a lower total cost than if it were not delegated.
Once the process has been mapped, you need to ascertain how much time will be required at each defined stage, and by what level of fee-earner. That just means allocating a certain number of hours to each phase, from each level – for instance, two equity partner hours to taking instructions for a share purchase.
Then you need to set an hourly charge rate and an hourly cost rate for each person. The cost rate is basically the individual’s annual gross salary cost, divided by an anticipated number of chargeable hours. There are discussions to be had around the cost of an equity partner: some argue that it is zero, others use a notional salary cost, but my preferred method is to assume that the salary is the full equity partner profit; this will normally result in the highest possible cost, and therefore make the partner less profitable than other fee-earners, thereby encouraging greater delegation. Firms sometimes try to include their overheads in the cost figure, but it is probably simplest to focus on maximising gross profit, which, in aggregate, needs to be sufficient to cover the heavily fixed overheads of the firm.
The final stage is to set some proposed pricing options – say, scale rate, fixed fee, and blended rate. The matter planning tool will then calculate the profit earned with each of the different options, so you can choose the best fit: that is, one which sets a fee which is acceptable to a client and delivers sufficient profit to the firm. And if your client wants a fixed fee, you can use the tool to reverse-engineer the matter to discover a way of doing the work more efficiently, thereby making the matter sufficiently profitable for you.
Once this approach is embedded, you can make the system more sophisticated by starting to time-record against individual line items of the plan, so that more accurate feedback can be given to a client on progress than if time was just being recorded to the file in total.
2. Make efficiencies to enable effective fixed fee-setting
Many clients are keen to have price certainty, leading to a higher demand for fixed fees across a range of legal services. Lawyers are rightly nervous about fixed fees, as they know that, while they could deliver a super profit if everything goes well, they could equally lead to a significant loss if the work is not done efficiently. It is therefore vital that lawyers think again about how they can become consistently more efficient.
The first step is to ensure all lawyers fully record all time spent on matters. Most lawyers grossly under-record, trying to look efficient by not having write-offs on their files. But this means that the true cost of doing the work is hidden, so any inefficiency is also hidden. Moving to full time-recording immediately increases fees and profits, as the client can see the full extent of what has actually been done, but the bigger and longer-term benefit is that gaps in efficiency can be identified and addressed.
When driving through efficiency improvements, it is clearly important that there is no dilution of quality. Below are some suggestions for potential improvements:
- delegating work more effectively to more junior colleagues;
- improving the ability to recycle knowledge, documents and other know-how;
- getting other people to do some of the work, such as the client, the other side, or any other third party working on the matter;
- managing other people more effectively; and
- benchmarking against colleagues, to check that further efficiencies cannot be identified.
Full time-recording can also help to identify the caveats that should be attached to a fixed fee quote. Clients will naturally ignore or push back on caveats if there are too many, so limit them to just the essentials. The two key caveats here are that:
- the client agrees to provide all necessary information, in an agreed format, by a certain date (the cause of cost overrun is very often the time it takes the firm to collect all of the necessary information to perform its work); and
- the matter will be completed by a certain date, which depends on the client doing everything within their power to keep the matter moving, support progress and be available when required.
Experience suggests that, if everything that is needed is received on time and the matter runs to a sensible timescale, then it is possible to run matters to a fixed fee in a way that delivers value to the client and a profit to the lawyer.
3. Consider creative pricing options
Once lawyers are efficient, it becomes easier to be creative on pricing. Creative pricing should be both better for the client and more profitable for the firm. If it only benefits the client, then it is less likely to be sustainable, as firms also need to be profitable if they are to be able to invest.
Fixed fees are creative, as they give cost certainty to the client and provide an opportunity for the lawyer to make a super profit. Other creative fee arrangements include the following.
- Annual fee deals where the fee for all services for the year is agreed.This provides even greater cost certainty and potentially eases cashflow with 12 equal payments. The major benefit, however, is that, as fees have been agreed, both parties can now focus on working together and developing a good working relationship.
- A discount with a premium linked to client value. Under this arrangement, the client gets a discount with certainty, but the lawyer can earn back a bonus, which is measured on client value delivered.
- Offering three different prices to cover three different scopes of work. It is too easy to just reduce the price when clients apply pressure. It would be better to offer different prices to reflect different amounts of work that might be undertaken.
If nothing is done, the situation is likely to get worse. Being brave and investing in new approaches to time recording, matter planning and pricing is likely to pay dividends quickly. New approaches can not only help you retain business, but also attract new clients.