Law Firm Profit Components

Law firms historically have been proficient at analyzing the revenue side of the profit equation. For years, management in most firms has been examining revenue data for strategic purposes and for purposes of assessing the performance of practice groups, offices, and individual partners. Law firms have also been tracking and managing profits, both at the firm level and on an average per-partner basis.

But what if a managing partner wants to know whether a particular client is really profitable to service, given the pricing parameters that the client has imposed? Or what if an executive committee is considering extending an offer to a small group of lateral lawyers in a particular practice and wants to have some sound economic data to support the decision to expand the firm`s existing practice?

To support these types of decisions, management should analyze the firm`s component profitability. The five most common component levels for which profitability is measured and monitored in a law firm are:
 

• individual matters,
• clients,
• practice groups and departments (collection of groups),
• offices, and
• individual partners.

DOING THE MATH

To understand component profitability calculations, think of individual matters as the basic building blocks. Profit can be calculated on a matter-by-matter basis, then matters can be grouped together appropriately. For example, to analyze the profitability of work performed for a particular client, all matters for that client in the time period being studied (e.g., calendar year 2011) can be grouped together and the aggregate profit metrics analyzed.

To calculate profit on a matter-by-matter basis, the revenues and costs of each matter are needed. The revenue of a matter is the cash received by the firm for work on the matter — in most instances, the hours worked simply multiplied by the hourly billing rates of each timekeeper working on the matter, adjusted for write-offs.

Just as hours worked times billing rates is the basic revenue calculation, hours worked multiplied by a timekeeper hourly cost factor is the basic cost calculation. That hourly cost factor has two primary elements: direct costs and indirect costs. The direct costs that go into calculating the hourly cost factor are the salary, benefits, and any other costs the firm wishes to attribute directly to an individual timekeeper (e.g., bar dues, individual marketing expenses, etc.). Partner compensation, though not technically a cost, can be included in the calculations and may be handled in a variety of ways, depending on the complexity of the analysis. The indirect costs are the general overhead expenses allocated among the timekeepers, and these allocations can also be determined in a variety of ways.

After the matter revenue and matter costs have been calculated, and the costs have been subtracted from the revenue, the net result will be the matter profit. As mentioned above, matters can be grouped to analyze profits by partner, client, practice group, and/or office.

GETTING TO ZERO

It is essential to recognize that, if full partner compensation and full overhead allocations are included in the calculations, the total profitability of all matters taken together should net to zero. That is, the total amount of revenue taken in will exactly equal the amount of expenses plus amounts paid to the partners as their share of firm income. For some matters, the profitability calculation will result in a positive number, i.e., a net profit, while for other matters the calculation will result in a negative number, i.e., a net loss, but the aggregate net of all matters would be zero.

When assessing the net profit or net loss number on a matter-by-matter basis, the usual desired result — if one were theoretically to look at every matter in the period being examined — is for each matter to result in either a small profit or a small loss. The reasons are obvious as to why one would not want a significant number of outliers on the loss side. But why wouldn`t one want a large number of outliers on the profit side? In order to have a "zero total" with a large number of outlying profitable matters, the firm would also need to have either an inordinately large number of small-loss matters, or a number of large-loss matters, or some combination of the two. Thus, the typical desired profitability results are for each matter to result in either a small profit or a small loss.

Of the other profit metrics to analyze, the most important one is profit margin (profit divided by revenue), because it shows the percentage of each revenue dollar that ends up as profit. Other metrics that are typically measured are profit per partner hour, and profit contribution (or contribution to partner compensation).

Profit contribution is calculated excluding the partner compensation element, and is an important statistic to compare with the revenue-minus-costs calculation that includes partner compensation as a cost. The comparison helps avoid potential confusion between profitability issues and compensation issues. All of these profit metrics should be examined with other profit-related statistics, such as realized rates and realization percentages.

These metrics are of limited value when viewed on an absolute basis, that is, in isolation, rather than in relation to the statistics of other matters, practices, departments, clients, and/or partners. The analysis is most relevant when the profit metrics are examined and compared with statistics at the same component level and at the firm level. For example, how do the profit metrics for Practice X compare with those of Practices Y and Z? How do they compare with firmwide profitability?

An important aspect of the analysis is looking "behind the numbers" to determine what is driving the profitability results. Is there anything that can be changed in order to improve the profitability? For example, maybe particular types of matters are staffed such that they are partner-heavy, driving up the cost and cutting into profitability. Or maybe pricing arrangements are having a larger impact than was envisioned at intake. Maybe relatively low profitability is attributable not to upfront fee arrangements, but to subsequent write-offs. The impact of these various factors can be identified and addressed with appropriate profitability analytical tools.

STRATEGY AND OPERATIONS

Component profitability analysis not only provides support in tweaking profitability at the component levels to improve the firm`s overall economic performance, but also — more important — it is critical to sound strategic decision making. The results can be invaluable in making strategic decisions involving, for example:
 

• contemplated changes in the firm`s practice mix, including expansion of existing practices,
• possible pricing issues and financial relationships with particular clients, and
• office assessments, i.e., whether to grow, maintain status quo in (or even close, in some extreme instances) a particular office, or whether to change the practice mix in a particular office.

Profitability analytics also support operational decision making by providing insight into the efficient staffing of certain types of matters, the assessment of new technology needs, and the expansion of administrative resources to support particular practices. They can also be used as a very effective tool at intake, both in deciding whether to accept a particular matter and how to staff it most economically. An analysis can be run based on similar matters undertaken in the past in order to determine how a matter should be priced and staffed. It is important to recognize, however, that such an analysis is only one input in the decision-making process; there may be other, more important parameters to consider as well.

Many firms use the results of revenue analysis as one factor in partner compensation systems. To give more insight into the economic contribution of a particular partner, these firms should consider profitability data along with revenue data.

SHARING THE NUMBERS

Despite understanding the component profitability concept and the benefits of analyzing results at various levels, many managing partners nevertheless consciously decide either not to institute profitability reporting systems or not to share the resulting reports with a meaningful group. Such decisions are usually based on a desire to avoid divisiveness and defensiveness over the results, and to avoid the potential debate over calculation methodologies.

Obviously, any desire to avoid divisiveness is well-intentioned. Yet in the hyper-competitive environment of today`s legal profession, tough decisions must be made by weighing the benefits of one alternative against the benefits of another. With the competition for both clients and lawyers growing more intense every day, the benefits of instituting a component profitability reporting system surely outweigh the drawbacks. The information obtained is a key ingredient to effective firm management.

Deciding with whom to share the component profitability results depends on the unique management structure and characteristics of each law firm, and should be addressed on a case-by-case basis. We generally recommend that the results be distributed within a controlled group, either just the members of the management or executive committee, or those committee members plus the practice group leaders. Practice group leaders would typically receive only results related to their specific groups, thus matching their span of influence.

Component profitability analysis is an important law firm management tool. When used effectively, the results support strategic and operational decision making, provide insight into profit improvement opportunities, and can be part of the performance assessment apparatus. But for the firm to benefit, the right system must be put in place and the results used and shared appropriately. For a complete breakdown of how each firm segment contributes to profitability, read Understanding Component Profitability Analysis: A Guide for Law Firm Management.
 

Interested in Learning More About Legal Hiring? Read the Definitive Guide: How to Hire a Legal Recruiter for Your Law Firm: How Law Firms Recruit Attorneys Using Legal Recruiters

About Harrison Barnes

No legal recruiter in the United States has placed more attorneys at top law firms across every practice area than Harrison Barnes. His unmatched expertise, industry connections, and proven placement strategies have made him the most influential legal career advisor for attorneys seeking success in Big Law, elite boutiques, mid-sized firms, small firms, firms in the largest and smallest markets, and in over 350 separate practice areas.

A Reach Unlike Any Other Legal Recruiter

Most legal recruiters focus only on placing attorneys in large markets or specific practice areas, but Harrison places attorneys at all levels, in all practice areas, and in all locations-from the most prestigious firms in New York, Los Angeles, and Washington, D.C., to small and mid-sized firms in rural markets. Every week, he successfully places attorneys not only in high-demand practice areas like corporate and litigation but also in niche and less commonly recruited areas such as:

• Immigration Law
• Workers Compensation
• Insurance
• Family Law
• Trust and Estate
• Municipal law
• And many more...

This breadth of placements is unheard of in the legal recruiting industry and is a testament to his extraordinary ability to connect attorneys with the right firms, regardless of market size or practice area.

Proven Success at All Levels

With over 25 years of experience, Harrison has successfully placed attorneys at over 1,000 law firms, including:

• Top Am Law 100 firms such including Sullivan and Cromwell, and almost every AmLaw 100 and AmLaw 200 law firm.
• Elite boutique firms with specialized practices
• Mid-sized firms looking to expand their practice areas
• Growing firms in small and rural markets

He has also placed hundreds of law firm partners and has worked on firm and practice area mergers, helping law firms strategically grow their teams.

Unmatched Commitment to Attorney Success - The Story of BCG Attorney Search

Harrison Barnes is not just the most effective legal recruiter in the country, he is also the founder of BCG Attorney Search, a recruiting powerhouse that has helped thousands of attorneys transform their careers. His vision for BCG goes beyond just job placement; it is built on a mission to provide attorneys with opportunities they would never have access to otherwise. Unlike traditional recruiting firms, BCG Attorney Search operates as a career partner, not just a placement service. The firm's unparalleled resources, including a team of over 150 employees, enable it to offer customized job searches, direct outreach to firms, and market intelligence that no other legal recruiting service provides. Attorneys working with Harrison and BCG gain access to hidden opportunities, real-time insights on firm hiring trends, and guidance from a team that truly understands the legal market. You can read more about how BCG Attorney Search revolutionizes legal recruiting here: The Story of BCG Attorney Search and What We Do for You.

The Most Trusted Career Advisor for Attorneys

Harrison's legal career insights are the most widely followed in the profession.

• His articles on BCG Search alone are read by over 150,000 attorneys per month, making his guidance the most sought-after in the legal field. Read his latest insights here.
• He has conducted hundreds of hours of career development webinars, available here: Harrison Barnes Webinar Replays.
• His placement success is unmatched-see examples here: Harrison Barnes' Attorney Placements.
• He has created numerous comprehensive career development courses, including BigLaw Breakthrough, designed to help attorneys land positions at elite law firms.

Submit Your Resume to Work with Harrison Barnes

If you are serious about advancing your legal career and want access to the most sought-after law firm opportunities, Harrison Barnes is the most powerful recruiter to have on your side.

Submit your resume today to start working with him: Submit Resume Here

With an unmatched track record of success, a vast team of over 150 dedicated employees, and a reach into every market and practice area, Harrison Barnes is the recruiter who makes career transformations happen and has the talent and resources behind him to make this happen.

A Relentless Commitment to Attorney Success

Unlike most recruiters who work with only a narrow subset of attorneys, Harrison Barnes works with lawyers at all stages of their careers, from junior associates to senior partners, in every practice area imaginable. His placements are not limited to only those with "elite" credentials-he has helped thousands of attorneys, including those who thought it was impossible to move firms, find their next great opportunity.

Harrison's work is backed by a team of over 150 professionals who work around the clock to uncover hidden job opportunities at law firms across the country. His team:

• Finds and creates job openings that aren't publicly listed, giving attorneys access to exclusive opportunities.
• Works closely with candidates to ensure their resumes and applications stand out.
• Provides ongoing guidance and career coaching to help attorneys navigate interviews, negotiations, and transitions successfully.

This level of dedicated support is unmatched in the legal recruiting industry.

A Legal Recruiter Who Changes Lives

Harrison believes that every attorney-no matter their background, law school, or previous experience-has the potential to find success in the right law firm environment. Many attorneys come to him feeling stuck in their careers, underpaid, or unsure of their next steps. Through his unique ability to identify the right opportunities, he helps attorneys transform their careers in ways they never thought possible.

He has worked with:

• Attorneys making below-market salaries who went on to double or triple their earnings at new firms.
• Senior attorneys who believed they were "too experienced" to make a move and found better roles with firms eager for their expertise.
• Attorneys in small or remote markets who assumed they had no options-only to be placed at strong firms they never knew existed.
• Partners looking for a better platform or more autonomy who successfully transitioned to firms where they could grow their practice.

For attorneys who think their options are limited, Harrison Barnes has proven time and time again that opportunities exist-often in places they never expected.

Submit Your Resume Today - Start Your Career Transformation

If you want to explore new career opportunities, Harrison Barnes and BCG Attorney Search are your best resources. Whether you are looking for a BigLaw position, a boutique firm, or a move to a better work environment, Harrison's expertise will help you take control of your future.

Submit Your Resume Here to get started with Harrison Barnes today.

Harrison's reach, experience, and proven results make him the best legal recruiter in the industry. Don't settle for an average recruiter-work with the one who has changed the careers of thousands of attorneys and can do the same for you.

About BCG Attorney Search

BCG Attorney Search matches attorneys and law firms with unparalleled expertise and drive, while achieving results. Known globally for its success in locating and placing attorneys in law firms of all sizes, BCG Attorney Search has placed thousands of attorneys in law firms in thousands of different law firms around the country. Unlike other legal placement firms, BCG Attorney Search brings massive resources of over 150 employees to its placement efforts locating positions and opportunities its competitors simply cannot. Every legal recruiter at BCG Attorney Search is a former successful attorney who attended a top law school, worked in top law firms and brought massive drive and commitment to their work. BCG Attorney Search legal recruiters take your legal career seriously and understand attorneys. For more information, please visit www.BCGSearch.com.