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A leader contemplates change
Having completed an assessment of the firm's competitive situation, Art Imperatore, chairman of an AmLaw 100 firm, is mulling over the changes he'd like to see at his firm.
Eliminate unprofitable practices. First, there's the employment law group. At one time it was an important profit generator, but the work is now commoditized and the group has trouble breaking even. Art believes there's no future for the group at the firm. The bank lending group is on the same path, as is the insurance group.
Close unprofitable non-strategic offices. Over the years, the firm has opened several small offices in non-core geographic areas, some in the United States and some internationally. These offices started with a few anchor clients and expected to grow. But new work for others did not materialize to the extent hoped, and because of local competition realization rates on the new work was below average. Most of the work being done for the anchor clients was not essential to the overall institutional relationship and could be handled through the firm's other offices. Due to their small size and low realization rates, these offices were unprofitable. Closing them would improve the firm's overall financial performance but would involve laying off some very vocal and popular partners.
Build up profitable practices. Second, there are several groups that should be growing. The commercial real estate group, although cyclical, has a robust practice representing private equity investors in commercial development projects. A sub-group in the financial restructuring and bankruptcy group has also had considerable success representing hedge funds in prepackaged bankruptcies of industrial companies. The litigation group has developed a niche providing intellectual property counseling and defense to pharmaceutical companies. Art would like the firm to expand these practices in the offices where work is currently being done, and introduce the capability for this work to other offices.
Offer fixed and contingent fees. Third, several large clients have complained that competing firms are offering more alternative fee arrangements, such as fixed fees and partially contingent fees, than the firm. Art believes his firm could offer these alternative fee structures, but only if it became more disciplined about budgeting and managing its matters and introduced a low cost capability to handle the more routine matters.
Eliminate unproductive partners. Fourth, the firm has a troubling number of partners who are not pulling their weight. Many of them were once productive partners, but they are now not working hard enough and not bringing in their share of new business. They hoard work that associates should be doing. Art has given up on being able to change their behavior. They need to move to another firm or be persuaded to take early retirement.
How to proceed? Art is ready to make these changes, but he recognizes he must first obtain the concurrence, or at least acquiescence, of a substantial majority of his partners. He is unsure how to approach that delicate task and seeks guidance from a consultant.
After taking stock, consider whether your firm is ready for change
The consultant advises Art to assess the gap between the firm's current situation and what it would look like if it were to make the desired changes, and also to assess the comparative urgency of the changes. Then Art can plot a path to persuade his partners of the need to change.
Although Art has his own wish list, described above, a more comprehensive process of identifying and describing the desired changes will flow naturally from answering the questions in our last post, “The top 5 issues for law firm leaders,” which presented a checklist of top subjects about which law firm leaders should become informed:
- Do we know what our clients want from us and how our service and range of practices stack up against competing firms?
- Do we effectively manage our business, including measuring profitability of our practice groups, offices, clients, matters and partners?
- Do we have good internal communication lines to partners and associates?
- Do we have the systems in place to attract, integrate and retain lawyers?
- Do we have a good work environment?
That post concluded that answering these questions will often reveal opportunities to do better. Before taking steps to pursue those opportunities, however, Art needs to consider whether he can successfully lead his colleagues to make the needed changes. If not, Art needs to undertake an education process to ready his colleagues for change.
The consultant describes to Art five key considerations in assessing a firm's readiness for change and the urgency of the need for change:
1. What do our clients want?
The first issue a law firm leader should be addressing, as noted in the prior post, is whether the firm periodically interviews its clients to learn what they like and dislike about the firm's quality of service, pricing and practice offerings, and how these stack up against those of the firm's competitors.
Armed with this information, the leader's next step is to decide what changes the firm should make to improve client satisfaction and compete more effectively. The nature of needed changes and their urgency will vary with every firm, but every change will disturb a status quo that likely has a direct relationship to the remuneration and security of one or more partners. So the leader must ask:
- Is the firm ready to take this on?
- Is the case for change so compelling that it must be pushed through?
- What will happen if the leader is simply not prepared to take on the challenge? Will the firm continue to operate somewhat satisfactorily, or will its future be jeopardized?
- What incentives are in place to help partners over the hump of changing their working practices?
- Who will benefit from the changed working practices and how will they be rewarded?
Then the leader, and his surrogates, will need to mount a sustained campaign of persuasion to demonstrate to all those affected that the required changes will indeed be in the firm's best interest and that similar changes are being consistently required of all partners. Failure to implement change in a fair and even-handed manner across the firm will lead to dissent and resentment. This requires a high level of transparency and considerable diplomacy.
2. What do our partners want?
This question is more difficult to answer than it appears. What the firm's partners want will depend on their respective knowledge of the firm's current situation. Most likely they are not yet up to speed on the answers to the assessment questions presented in our prior blog post and summarized above. Their interest in change and the direction of change they favor may well evolve when they have in mind a truer picture. They may have been unaware of some of the firm's competitive strengths; more likely they may have been unaware of its weaknesses.
Accordingly, the first step should be to educate partners about the firm's situation. This need not be in great detail but it needs to be done in a fashion that results in partners'
acceptance of the firm's competitive and operational strengths and weaknesses. The most effective approach will depend on the nature of the information to be conveyed.
In some cases one or more presentations to a large partners' meeting may suffice. In other cases, a handful of trusted partners who are closer to the information may need to meet with smaller groups of partners. Great care must be taken in selecting the “trusted” partners. They cannot be partners who have a significant say in the determination of compensation – “Why would I say anything that could jeopardize my earnings?” Nevertheless, the approach of meeting in small groups has the advantage of also presenting an opportunity to gather feedback from partners about the directions in which they would be open to seeing the firm change. These small group meetings should be supplemented by one-on-one interviews with a cross-section of partners, perhaps with an outsider, which often involve greater candor and provide more detail about partners' views.
After the partner education and feedback process is complete, the firm's leadership will have a sense of the extent of the gap between what they believe needs to be accomplished and what the partners are currently prepared to accept. Closing this gap by applying levers of change will be the focus of future blog posts.
3. How well are we performing – year on year; compared to our competitors?
From a purely internal view, firm leaders and partners in general may be content or even quite pleased with the firm's performance. Annual increases in profits per equity partner (PEP) of 3-4% for the past few years may be interpreted as success by firm insiders. If, however, the firm's competitors have been growing PEP at 6-7%, the firm is falling behind and should have reason for concern.
In five years, a firm growing at 4% will increase PEP by 22%, but the firm growing at 7% will have almost doubled that PEP increase, at 40%. The absolute numbers are less important than the relative position. The firm with lower PEP will find it more difficult to compete for lateral partners and retain its current partners. Eventually it will realize that its historic peer firms are in a higher PEP tier, its partners on average will not be as talented, and its competitive position will have slipped.
PEP is used for this illustration but it is not the only important measure of relative success. A firm should also consider its competitive position as to
- growth in absolute profits (taking into account both additions of equity partners and productivity improvements,
- compensation per partner (compensation of equity and non-equity partners, divided by number of partners),
- revenue per lawyer, and
- non-partner leverage (including associate leverage).
This financial comparison may show the firm to be in a weaker relative position than previously believed. Of course, a firm that's ahead of the competition should be rightly proud of its success.
A firm that's seen only stable PEP for the past several years should be concerned, as its competitors have likely been growing. What can be done in this situation will depend on the partners' willingness to accept change.
4. What is propelling our growth?
By analyzing profitability of practice areas and offices over several years, the firm can identify those that are growing the most and should seek to identify the underlying reasons for that growth. These reasons may be mere good fortune – a bankruptcy practice that is in demand during an economic downturn – or the result of a deliberate and successful strategy – an early entry into high-stakes intellectual property litigation. The focus of the analysis should be to identify areas of growth that are likely to persist.
The next step is to consider what can be done to build on the successful growth areas. For example, if a particular practice area is especially successful in one office, can it be expanded to other offices? Will specialized partners be prepared to relocate? Or can lateral lawyers be added to the successful office to grow the practice area faster?
5. What is holding us back?
Underperforming practice areas and offices
Conversely, the firm should identify the practice areas and offices for which profits are growing slowly or shrinking – or that are unprofitable. Often these areas have been the mainstay of the firm in the past, but may be commoditizing, or being handled differently, given the changes in the way in which legal services are delivered. This can involve difficult decisions around compensation, or even retention, of long-serving partners.
Is the leadership ready to drive allocation of resources to new areas while at the same time cutting back on firm mainstays? How can this be explained to partners without disrupting collegiality and creating an impression of an excessively materialistic culture?
Other reasons for underperformance
The firm should also consider non-practice reasons that may be impeding growth of all practice areas and offices. For example, is there a shortage of high quality work due to a general reluctance or ineffectiveness of partners to engage in business development activities? Or has the firm been unable to bring in desired lateral partners because they don't see the firm as sufficiently financially attractive?
The next step is to consider which of the causes the firm has the ability to change, and which it does not. A coaching program and change in compensation incentives could address a business development problem. In contrast, no immediate and sustainable action can be taken to make the firm more financially attractive to lateral partners.
Art makes a plan
Following the advice of the consultant, Art devises a program of one all-partner meeting and follow-up small group partner meetings to educate his partners about the facts underlying his recommended changes. Before that starts, he ensures the executive committee is on board, and engages with a group of practice group heads and other thought leaders to bring them up to speed and seek to convert them to allies of change. He expects to spend most of a year with the education program, after which he will present the proposed changes to an all-partners' meeting for a show of consensus on as many elements as possible.
Art recognizes that early retirements and winding down of practice areas and offices may require substantial short-term financial commitments to the affected partners, but has factored those into the financial model of potential benefits that he shares with the partners. Art also accepts that partners' negative reactions may require him to table some changes, most likely the winding down of a practice group or closing of an office. As long as the majority of the changes can be made, Art is satisfied the financial improvements will justify the effort.
The answers to the five questions outlined above may change or limit the direction the firm's leader decides to take. But the first step is educating the partners.
By educating partners, assessing their appetite for change and cataloging the more financially significant changes that are needed, a firm leader will understand the gap between what needs to be done and what realistically can be done. Even if that gap is wide, the firm leader should map out a long-term path to get to the point where meaningful change of the firm's choosing can occur. If a firm instead takes no action to be ready for change, competition and other events will force changes on the firm – changes not of the firm's choosing and perhaps not desirable.
Firm leaders have tools to close the gap between willingness to make change and the need to make change. Continued education efforts are part of the solution. Other important levers of change include the firm's compensation system, which should reward behavior that promotes long-term firm well-being and should not pay for conduct that is contrary to the direction in which the leadership is moving. These levers of change will be discussed in future posts, starting with compensation.
[Photo credits: © Can Stock Photo Inc. / focalpoint & kasto]