Tuesday, July 31, 2007

Law firm AR Management gets easier

For many US based law firms with a December 31 year-end, the summer months represent the “quiet before the storm”. Once Labor Day rolls around, those firms will be ratcheting up their collection efforts to meet year-end targets. However, this practice may be short lived. As I have said in the past, there are only three main reasons why clients don’t pay their legal bills: relationship issues, billing issue and economic issues. Well over the past two years something is changing in the profession that, I feel, will alleviate some of the ‘relationship’ issues.

The thing that is changing is how firms bill for work. Law firms like all professional firms sell knowledge or expertise. This is quantified by the sale of hour or part thereof. For the longest time, I questioned the hour as the unit of sale, reason being it doesn’t make counsel more efficient and it is prone to ‘padding’. The practice of law, depending on the area, either has engagements with a definitive outcome or a probabilistic outcome. Therefore, it is a progressive firm that can use this knowledge to their advantage. As an example, a firm is faced with a particular engagement. They have a very good idea of what is involved in completing the engagement. They know who will work on the file, the related costs and the probability of success. Therefore, they can approximate a fee for the entire engagement. This now provides the firm with two powerful benefits: a negotiating tool in a competitive environment, and timely collections.

How does fixed fee billing speed up collections should be the question that comes to mind. Fixed fee billing removes the variability from the client’s wallet. The client knows going in to the engagement what it will cost and the probability of their desired outcome. With fixed fee billing, the client buys a pound of sugar and gets a pound of sugar – no surprises. Unlike the hourly basis, they buy a pound of sugar and can end up with 6 grains of sugar!

This may seem like ‘pie-in-the-sky’ as most firms can’t even get themselves to the point of deciding if particular clients are profitable or not. In fact, fixed fee billing is fast approaching reality. About 18 months ago articles started appearing where small firms had given up the classical hourly billing in favor of fixed fee billing. Their initial motivation was to get away from the huge administrative task of billing. Over the past year the momentum has picked up and of late, medium and larger firms are embracing fixed fee billing. In a recent article on Law.com, a few large national firms have adopted fixed fee billing for specific practice groups.

Some of the feedback, in the literature, on fixed fee billing is astonishing! After operating in a fixed fee mode for twelve months or more, many firms report a huge drop in the amount of AR they have and WIP becomes more “manageable”. A few firms have said “…we have no accounts receivable!”.

I feel the time is right for firms to move to a fixed fee or probabilistic fee billing model. Firms will gain greater competitive advantage as they will work toward minimizing costs through increased staff efficiencies and in so doing achieve their desired profitability. These firms will take on work that provides them the required Return on Investment while doing good work for the right clients. Those who pay timely!

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