– SETTING THE SCENE
“The future influences the present just as much as the past.”
– Friedrich Nietzsche (1844–1900), German Poet and Philosopher
Albert Einstein defined insanity as doing the same thing over and over again and expecting a different result. For the vast majority of law firms, and for that matter, lawyers, they do the same thing over and over again and hope that the results will be different. In fact, I would say that most professionals are insane. After all, I’m a Chartered Accountant, so it takes someone who is insane to recognise the insanity in the masses. Please don’t be offended, we live in a busy world and I often find myself going through the motions of what I need to do in a day, feeling like I haven’t achieved too much whilst driving home. The law is complex and open to interpretation. There is always more than one side to every matter, deadlines to meet, expectations to manage and work life balance to maintain. No wonder we just get by. No wonder we often seek the path of least resistance. Sometimes we find comfort in doing the same thing day in day out. After all, most principals of law firms don’t know any different. Their firms are designed to function the same way that they were trained themselves, which was by another lawyer in another law firm, or by the firm they are in.
Did you ever play Chinese Whispers as a kid? You’d get a line of friends together and the first in the line would tell the second a short story, who in turn would tell the third and so on until it gets to the end of the line. The last person would recite what they heard and everyone would laugh because the story changed so much. The longer the line, the greater the deviation from the original story.
If you are a younger partner in an older firm, have you ever heard the older partners talk about the good old days, when life was easier, profits were higher, cash flow was better. I wonder how much of the current performance of the business is as a result of Chinese Whispers. How the firm has aged and the processes have evolved so that they end up significantly deviating from the original purpose of why they exist. This is true for the methodology of earning revenue in law firms. For those who can remember, revenue for a file may have been determined on the basis of weight, or
thickness. It has evolved a long way since then. Let’s take a look at the basis upon which most firms calculate their revenue: time costing. Before I start, don’t you think it odd that the system upon which firms calculate their revenue is called a time cost system? Also, don’t you think it odd that the amount a law firm will charge their client is referred to as the cost? Isn’t it bizarre that a file gets costed? Cost isn’t revenue, it’s an expense not income. Apologies again for being an accountant. Surely that’s a hint in itself that something isn’t right. I’m not saying that time costing systems are not required, what I am saying is that you need to understand why they exist. They are a key element to a profitable firm, but more on that in Chapter 2: Charging Hours is Only Part of the Revenue Equation. Originally, time costing systems were used to measure the cost of labour incurred to produce revenue. This is why it is called time costing. You would take the labour cost and apply it to the different matters (sales) based on the time spent, and the result will give you the margin you made on that income (revenue – share of the labour cost = margin). Once again, apologies for the accountant coming out in me. Then some clever guy, probably an accountant, apologies in advance again, said, “If we are going to measure the time that it takes to do the work so that we can determine how much it costs us, why don’t we build a formula that can provide with certainty, the revenue that we will make.” The time costing system then became the benchmark for determining revenue. Yes, a very sound model, but as the game of Chinese Whispers progressed, like a drug, it had side effects:
A business coach of mine once told me that “Structure Determines Behaviour”. The side effects that a time costing, or time billing, revenue system causes are behaviours’ that are so estranged from running a successful business, it is almost ridiculous. To improve profitability there are many things that you need to do in a business, including improving client service and being more efficient. The behaviour that a time-based revenue structure creates are: sit at your desk and charge out the hours, and the longer it takes the more you can bill. Whether the amount ultimately billed to the client reflects the work actually done, is another question. These behaviours are totally opposite to what is required in a successful business: they do not promote improved client service or efficiency. So why do it? Because it’s what everyone is doing? Does that mean it’s right?
Why not just keep doing what we do, keep our fingers crossed, so that it will all work out, and next year we’ll get a different outcome? Because businesses are strategic, and hope is not a strategy. Strategy implies action, and if your actions aren’t aligned to driving a better outcome, then they are merely hope. A series of actions designed to drive towards a better outcome is a strategy.
Strategy is an overused word. You can study an MBA, you can put together a business plan, but ultimately a strategy is simply a series of actions to achieve an improved outcome. It’s the map that gets you from A to B. Unless you take an action, you will stay at A, or worse still move – backwards. There are no guarantees with strategy that you will get it right, in fact, you’ll probably get it wrong, but an error is only a mistake when you make it for the second time. So, if you are not totally happy with the outcomes you have achieved in the last day, week, month, year or decade and you go into work tomorrow and do the same things again, then you are making a mistake. But what do you do instead? What’s going to be different? The reality is that it doesn’t matter, just do something different to get a different result. If you have cash flow issues in your business, change your billing and collection processes. If you aren’t happy with the margin you are making on your services you provide, change your prices. If you don’t like your premises, change your offices. If your employees aren’t performing, change yourself, after all, a fish rots from the head down. If your processes are outdated, change them. If your clients aren’t aligned to your service offering, change your service offering or change your clients. What I can guarantee is that if you aren’t totally happy with any aspect of your business talking about it won’t do anything but taking an action will.
In law firms, the overhead is reasonably fixed and predictable: administration labour, rent, IT, professional indemnity insurance, etc. The cost of direct labour is also relatively fixed and predictable: the labour cost of lawyers and legal support. What isn’t predictable is revenue, or is it? Is it only unpredictable because of the revenue model that we use (time billing) and the behaviours that it drives. Imagine what your business would be like if your revenue was predictable. Being able to predict your revenue is dependent upon the level of control you have over your revenue outcomes. Let’s take a closer look at this.
You may have heard this as a saying or a prayer. You may have applied it yourself at different times in your life. In my view, it is the most powerful sentence when it comes to developing strategy in a business:
Give me the serenity to accept what I cannot control, the courage to change what I can control and the wisdom to know the difference.
When you look at your revenue model and you consider what you can and cannot control, you quickly realise that you are spending your days in an environment that produces unpredictable outcomes. Remember that you can really only control what YOU do.
There are three different types of revenue in any professional services firm, law firms are no exceptions:
Recurring revenue Reactive revenue Proactive revenue
Recurring revenue is the revenue that you make from clients that is of a recurring nature. In a law firm, it is often a retainer for legal services. In most firms, they do not have retainer income, so the amount of income that fits into the recurring revenue bucket is small. Recurring revenue is revenue that you CAN CONTROL and you CAN QUANTIFY. You can decide whether you enter a retainer arrangement with a client or not. You can determine the amount that you charge them for a fixed period of time, so you can easily quantify the amount you will receive.
Reactive revenue is revenue that is client initiated. It is earned from both existing and new clients. New clients generally walk in the door due to location, brand awareness, convenience, or referral. Reactive revenue is driven by market forces, the economy, client perception. Reactive revenue is revenue that you CANNOT CONTROL and you CANNOT QUANTIFY. You are totally reliant on clients identifying that they have a need and then you hope that they come to you. Remember, hope is not a strategy.
Proactive revenue is revenue that is initiated by you. It is revenue in which there is a direct correlation between the actions you take and the revenue you make. Because proactive revenue is based on your actions, it is revenue that you CAN CONTROL and you CAN QUANTIFY. Quantifying may be a bit difficult at first, but soon trends emerge that will allow you to be able to predict your revenue results with a greater amount of certainty, because your past results from those actions become predictable for the future.
Take a moment to consider your revenue breakdown. How much of your revenue is recurring, reactive and proactive? In a recent poll of law firms, 66% of firms said they relied on reactive revenue to achieve their profit targets each year, with 17% relying on recurring revenue and 17% relying on proactive revenue. Put another way, in predicting the profits that a firm will make 66% of firms relied on revenue that they CANNOT CONTROL or they CANNOT QUANTIFY. I wonder how serene these two-thirds of businesses actually are?
Once again, the current revenue model, based on charged hours from reactive revenue makes it very difficult for a business to develop and implement strategy.
The strategy formula is:
OUTCOMES = THOUGHTS x ACTIONS
If our business strategies are based on what we cannot control, and if we can only control what we do it doesn’t matter how much we think about it, our actions are focused on outcomes that we have no control over. Therefore we will not produce the strategic results we are after.
We all know that thoughts and actions take a lot of energy. Particularly when the thought and action is to drive a significant change. When people consider change, they come up with a big list of things to do to make it happen, which causes inaction. The result is a lot of THOUGHT ENERGY producing minimal, if any, ACTION ENERGY. We all know that different outcomes are only produced by actions, so no outcomes are achieved, except expending a whole pile of thinking energy. Ouch! I’m tired just thinking of it. The key is to only focus on the actions that maximise the outcomes. I call this Return on Energy (ROE):
RETURN ON ENERGY = OUTCOMES ÷ EFFORT
This is a contextual subjective measure, not a scientific one, so please don’t get analytical on me.
If the result is less than 1, then it means that what you achieve isn’t worth the effort you put in. If it’s 1, I’d say why bother, that’s just break-even and it gives you nothing different. If you can achieve 3+ then it’s really worth doing.
ROE is measured on how you feel about an outcome as a result of the effort you put in:
|ROE<1:||chances are you’ll feel frustrated, you’re not making any headway, in fact you worry about future outcomes, it feels like you are going backwards. You question whether you should just pack it all in.|
|ROE=1:||mild frustration, you feel like you are marking time and going nowhere. Maybe in a bit of a rut.|
|ROE 1-3:||contentment. You are moving forward, your actions are purposeful and produce results. Life is pretty good, but you are not making significant headway. Your outcomes are totally reliant on your efforts.|
|ROE3+:||your energy is self-perpetuating. The results seem effortless, your strategy is right, what you do is exhilarating. It inspires yourself and others.|
Our actions every day are driven by how we feel. How we feel is driven by what we think.
THINK → FEEL → ACTION
So if how we feel (ROE) sits in between our thoughts and actions, step 1 must be to focus our thinking on the actions that will produce the results that make us feel ROE3+. If we are ROE3+, we are truly thinking and acting strategically.
When you use ROE as a model to determine what effort you put into which activities in your business, you can prioritise your actions based on likely results. After all, don’t we enjoy doing the things that make us feel good?
To be ROE3+ you must first focus on the right actions. The ROE model gives you methodology to prioritise what you do, so that the actions you implement are going to produce the outcomes you want, which in turn makes you feel good.
The key to success for any law firm is to remove the distractions and focus on the core, after all, this is what will make your profit. The distractions we have in our daily business and personal lives are the things that distract our actions (distractions) from being implemented.
Business is different today, or is it? Business is tougher at the moment, or is it? Business is great at the moment, so why do anything different, make hay while the sunshines? Is this the reality or is it just an excuse that supports the fact that business owners are too distracted from the key actions that continue to drive profitable businesses consistently through good and tough times. I am not saying that times can’t be made to be tougher as a result of external factors that business owners cannot control: reduced demand, tighter credit. In some markets, firms have to work harder for their profits and cash flow. True, but the reality is that where we are at is just part of the same business cycle that always plays out. Boom and bust. The good times are always followed by a tightening of markets, which results in a clean out of businesses, and the remainder having to invest in actions to drive profitability whilst competitors fight for a bigger piece of a smaller market. It is then followed by improvement. The cycle always turns. When the good times are here, businesses don’t have to work as hard for their money, the opportunities roll in the door. When times are tougher, we have to look for the opportunities.
Whether we are in boom or bust or on the way up or down, we are constantly bombarded by information, both positive and negative: from the market, from the media, from home, from clients, from employees. This has to have an impact on our ability to think clearly and to remove the distractions that get in the way of critical actions.
The question that I have been asking law firm principals, is: “Where are you spending most of your day? Is it in the areas that are distracting you from driving the critical actions to ensure success?” My advice is to remove the distractions and focus on your core business. It is these distractions that distract you from your actions. DISTRACT ACTIONS.
The number one action that principals must focus on, regardless of whether the times are tough or if times are good, is their revenue strategy. Too many firms focus on the production and delivery part of their business, just churning out as many hours as possible. This is critically important, but the need to invest in your product strategy, creating a strong sales plan and developing a marketing plan to support the sales activity is critical. You still must have efficiencies in your production, and deliver on time, but without the sales, there is nothing to produce. When times are tougher, it is easy to be distracted by the constant noise. You need to block it out and focus on the actions that drive the revenue. When times are good, you need to block out the noise and not get carried away with the good times, and remain focused on those key actions that drive revenue. Remember, boom and bust, its just a matter of when.
Don’t be distracted, take ACTION.
I often get asked the question “How does my firm compare against the industry?” The reality is, most businesses in any industry are average at best. So what does that mean for benchmarking? Are they the average results from a sample of average firms? Or is it the average of an industry? I subscribe to the former. Let’s compare the best performers in an industry and the worst. The best performers are focussed on their own Key Performance Indicators (KPI’s) and are educated on what their competitors are up to. Not all firms in an industry are competitors of the best performers, only those ones competing for the same target market with similar service or product offerings. Do you really think that the major players are concerned about the minnows? The top performers are where they are because they don’t follow the crowd, they forge new paths and set their own targets and benchmarks.
The worst performers in an industry will pull the average down, that is if they even have time to subscribe to a benchmark, let alone interpret the results. The worst performers generally lack business acumen, creativity, fiscal discipline and strategic direction.
Don’t get me wrong, I’m not saying that benchmarks aren’t useful. I am saying that they are only drawn from a sample of the businesses in an industry and at best provide you with a sample of the average performers.
If an athlete wants to be the best in their sport, state, country or the world, do you think they benchmark their performance against the average and develop their training program based on the average? No way! They set their goals based on what they believe, what they want to achieve, and they are not satisfied with being better than the average. They want to be the best they can be.
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