Since the Great Recession of 2008 and now compounded by the COVID-19 pandemic, clients have been in the driver’s seat with respect to pricing, billing and collections. Clients are also facing financial pressures of their own and have become more demanding with law firms. Institutional clients are becoming less inclined to pay fees billed by the hour and are looking for more predictability. Law firms have had to develop alternative billing methods through increased budgeting and, in some cases, more commoditization to address cost concerns from clients. While this puts pressure on law firms to aggressively address client billing demands, it also strikes a need for a balance between client demands and maintaining a level of profitability for the law firm. Alternative fee/billing arrangements have proven to be effective in achieving the balance necessary, and some law firms have found a way to achieve this balance. However, many law firms continue to struggle. What has become more significant is clients now consider pricing alternatives as a critical factor when deciding on a law firm. This places more pressure on law firms to address the write-off situation in terms of pricing and profitability, both economically and from a business development perspective. Many law firms have not adjusted how they perform legal services to the new realities of the market. Clearly, law firms that can make that adjustment differentiate themselves from their competition.
There are several reasons why time is written down or written off. Some are well within the control of the firm and others are not. The three most common causes are as follows:
Time management. When reviewing prebills, billing attorneys need to identify and address areas where there is too much time spent on a particular task and then have a conversation with the working attorney. Unfortunately, those conversations are not happening, and time management continues to be an ongoing problem. This is especially true of first-year and junior attorneys. Additional training, more strategic file assignment, enhanced communication and better delegation can go a long way toward reducing or eliminating unnecessary write-downs/ write-offs. If these conversations do not take place, how will the working attorney improve their time management and reduce write-downs/write-offs?
Client relations. As noted in previous columns, billing is both a science and an art, and it can be a useful client and business development tool. However, sometimes write-downs/write-offs are unavoidable. For example, a partner may promise a longtime client a discount, or maybe a matter has taken longer than expected because the firm is training a new associate. While these circumstances may be justifiable, they should never be a regular occurrence. If they are, there are problems with how files are being assigned. It is important that these types of write-downs/ write-offs be communicated to the client in such a way that makes it clear that these are one-time exceptions and not a regular practice. Also, proper presentation of the write-downs/write-offs for the client are a critical part of the communication process. Unseen write-downs/write-offs provide the law firm with no benefit. If time is going to be written down or written off, the client needs to see it as a “professional courtesy reduction” or a “good client discount.” The client needs to see on the invoice that they received a one-time special consideration. Again, these types of writedown/write-off scenarios are unavoidable. They are often a cost of doing business and perceived as goodwill but should be kept to a minimum. This is an area law firms should keep on their radar.
Business development. This is an offshoot of client relations, but many attorneys believe they must discount their work regularly to receive more business. These are better known as preemptive reductions. On average, these types of write-downs/ write-offs can average 10% to 20% each month. The approach is understandable from the originating attorney’s perspective, but it’s not a good practice for the firm. When law firm management ddresses the issue, the originating attorney will often point to the amount of fees in the door, but in most cases, that $50,000 received cost the firm $60,000 to produce. Cash in the door while sacrificing profitability is not a good practice. Attorneys need to stand behind their work and the value provided and should not be regularly discounting their work. This often happens when resolving unpaid aged accounts receivable as well. If an attorney has a client who expects the discounting on a regular basis, it is time to reassess that client relationship.
Discounts are very appealing and are an effective marketing tool when retail shopping, but not in a law firm. Write-downs/ write-offs can be one of the largest expenses of any law firm.
The problem with write-downs/write-offs is they accumulate over time and carry a significant cost. For example, XYZ law firm has a $50,000 receivable that is written down to $40,000 for fast payment. In most cases, the $10,000 write-off is looked upon as only a 20% write-down. Careful analysis will reveal the true impact of the write-off is double that. If the firm has a 40% profit margin, the impact is closer to 50% Also, additional billable work will be required to replace the $10,000 written off. Assuming a 40% profit margin, the firm will need to produce $25,000 in new fees and, under the same profit margin, $40,000 in write-offs would require $100,000 in new legal fees. These are real numbers. To drive that point home, the amount of additional billable hours per lawyer required to generate the $100,000 often gets attention very quickly and is an excellent motivator to facilitate improvement.
Attorneys provide excellent legal services, so should capture their time, bill promptly and collect quickly. We have referenced these “ingredients” as a recipe for “baking a cake.” The cake is only as good as the ingredients, and if write-downs/write-offs take away some of the flavor and appeal (perhaps no frosting), then it will go to waste.
Law firms that proactively initiate steps to tighten the billing process, and improve monitoring and controlling the frequency and amounts written down or written off, will start to see improved profitability without anyone having to work any harder to produce the desired results. In short, if the oven is on, what’s to keep the cake from baking to tasty perfection? The lesson? Keep the frosting!