Understanding Productivity & Compensation Models for Law Firms
Once an attorney has decided to put up a shingle and manage their own practice, they have made the decision to become a businessman/woman along with being an attorney. For attorneys, managing their own business can be particularly challenging because there are many complexities associated with managing a law firm, that simply does not exist for other businesses. This is especially true when trying to understand productivity for the business and building law firm compensations models.
Managing A Law Firm: What’s So Complex About It?
Before you begin measuring productivity and building compensation models around that productivity, it’s important to identify the different complexities of managing a law firm. In a perfect world, you would practice law and get paid for doing it, unfortunately, things just aren’t that easy.
When you’re managing a legal practice you must track everything! Every activity and time spent needs to be tracked back to the matter with which it is associated. The time you spend on events and tasks directly contributes to measuring productivity, being compensated, and deciding how your firm should be compensated in the future.
Accounting for a law firm is much more involved than accounting for other businesses. Firms need to track matter costs, manage client funds, and go through the appropriate hierarchy when allocating invoice payments. When firms fail to do so it can result in steep penalties.
Billing for law firms can also be a difficult task. Firms need to track all billable activity, expenses, and matter costs while they simultaneously manage client retainer balances and partial payments.
What is all the work worth if you don’t get paid? Not much. Law firms must deal with different timelines and compensation rates based on case type. Couple this with the fact that legal fees are almost always the last to be paid, and collection can become extremely complex.
The Importance of Measuring Productivity for Law Firms
Productivity is a key measurement in understanding the profitability of a law firm. Some of the key metrics used to measure productivity are utilization rate and realization rate.
Utilization rate is the percentage of time spent on client projects opposed to time spent on internal administrative tasks and downtime. Clients are later billed for this time.
Realization rate measures the difference between the time recorded working on a matter for a client and what percentage of that time is going to be billed to and collected from the client.
While understanding a law firm’s productivity can go a long way in deciding compensation for a specific legal matter, it goes far beyond that and can help build effective compensation models for the firm.
Law firms are known to take on cases and matters with fixed fees or contingency fees. In these situations, it does not matter how much time is being spent. The firm will be compensated based on the outcome of the matter or a set fee that has been previously agreed upon. Tracking and understanding productivity related to this type of casework may not directly affect compensation, but it does allow firms to understand the rate of productivity and the ratio of work to income earned on different case types.
What is Needed to Build a Productivity Based Legal Compensation Model?
When a firm is looking to build a productivity-based compensation model it is extremely important that they have the right data in place to do so. That data should include:
The originating attorney who brought the case to the firm. This is also known as rainmaking.
Execution responsibility, or the person responsible for overall efficiency, deployment of resources, and client communication.
Timekeepers contribution to billable hours.
Contribution to fixed fee & contingency matters or unbillable time.
This data needs to be collected from a wide range of sources. Some of the most successful firms make this an easier task by automating the process. Here are some of the other steps firms need to take to build a successful compensation model.
Ensure that all matter parties, roles, and responsibilities are clearly defined.
Measure ALL time spent working on and costs associated with a matter.
Utilize proper pre-billing and billing processes.
Effectively manage Accounts Receivable.
Keep all accounting up to date.
Appropriately allocate revenue before realizing income.
Create a compensation model that allows flexibility to encourage growth.