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How Law Firms Make Money: A Revenue-Generation Guide for New Associates

By Ronald L. Seigneur

To optimize a firm's return on investment, everyone—even associates—needs to grasp the economics of the practice. Here's a primer on the cycle.

To optimize a law firm's return on investment, everyone in the firm needs to grasp the financial and economic aspects of the practice. This is true even of new associates. After all, how can you expect to make your living practicing law if you don't know understand the business of law?

The economics of law firms can be tricky, and the financial goals, how they are achieved, and the systems used to track them will vary across firms. But at least one factor is consistent and needs to be taken to heart from the moment you enter a law firm: When each individual has a solid grasp of how the firm functions from a revenue and expense standpoint, the firm as a whole benefits—because everyone understands the impact of their actions on the firm's financial results.

Management has a clear responsibility in providing new associates with the information they need to succeed financially. For their part, associates need to be active in expanding their knowledge of how the firm generates revenue. But where to start? Here are tips and techniques for enhancing the economic contributions of younger lawyers.

Work Inflow and Matter Budgets

The revenue-generation cycle for professional services starts with the proper intake of a client or matter, then moves through all the succeeding steps and actions that a well-run firm must follow, including properly explaining the firm's time and billing protocols to the client, and setting appropriate expectations for payment for the services rendered on the client's behalf. Even the newest associates need sufficient orientation in how this extremely critical and repetitive process is handled for matters flowing into the firm.

In addition, associates need to be made privy to the specific parameters of the matters in which they will be involved—meaning the terms of the work plan and budget that will guide the supervising lawyer in providing the services for which the client will be invoiced. This kind of baseline knowledge helps everyone involved in the matter to better manage the schedule and the budget and identify any delays or overages earlier in the process.

When associates better comprehend the inflow of work and how budgets for projects and tasks are established and monitored, it greatly facilitates their ability to fulfill—or exceed—the expectations of not only their supervising lawyers, but those of the clients as well.

Effort (or Time) and How It's Captured

The next phase of the revenue cycle involves the control and management of the work-in-process details that ultimately become the basis for rendering billings to clients. While most firms continue to use hourly based billing, some practices, or even some matters within an hourly based practice, rely on alternative-billing methods to price services. Regardless of the basis for measuring the value of the services provided to the client, associates need to gain a solid comprehension of how their efforts and the efforts of others are captured and converted into an invoice for professional fees. As they progress in the firm, this knowledge will significantly improve their ability to make better choices in how the firm can best staff particular projects on behalf of the clients.

In the case of hourly billing, however, there are other issues involved. Most firms now use time-and-billing software that allows for billing worksheets (sometimes referred to as pro forma billing statements) to be generated on a real-time basis, even though billing may remain on a monthly cycle. Understanding the underlying process of this phase of the cycle can greatly help an associate understand why contemporaneous timekeeping is so critically important.

Likely just about every managing partner can identify at least one "black sheep" within their firm who cannot seem to get his or her time entered on a real-time basis. It seems that it is always a struggle to get everyone on the same page with respect to the importance of appropriately recording chargeable time as the efforts are expended. Yet there is so much potential for slippage with the passing of time between when the chargeable effort actually occurs and when it ultimately gets recorded in the system—and when time on a matter goes unrecorded, or is underrecorded, the result is the loss of potential revenues.

The best way to drive home the point that time needs to be captured on a consistent and contemporaneous basis is for the firm to provide new associates with a full view of how their efforts get captured within the time-and-billing system; how their time, together with the time of others, gets reviewed; and how the assigned billing lawyer ultimately makes an assessment of the sum to determine how and what to convert into an invoice for the client.

Cost Recovery from Clients

Once an associate has a better grasp of how the collective efforts of the firm's timekeepers get converted into an invoice, the next step is to learn how the costs associated with client matters get captured for recovery from the respective client.

Similar to the benefits derived from a contemporaneous timekeeping regimen, a law firm that captures recoverable costs in the system on a real-time basis is generally much better situated to eventually recover those costs from the client. Seeing how these costs flow into and through the work-in-process schedules on their way to being included in an invoice as part of the ongoing billing process helps associates understand the importance of identifying and capturing any cost recoverable from the firm's clients.

How Revenues Flow

As the last leg of the cycle, there is the time frame in which payment for services rendered is actually received. In other words, a time lag typically occurs between when the work on a matter is undertaken, when a billing decision is made allowing an invoice to be prepared and sent to the client, and when the client processes and pays the invoice. Generally understanding this aspect of the receivables process will lead newer associates to a clearer comprehension of the overall revenue cycle of converting efforts to dollars—dollars that, in turn, are then available for all the costs of the firm, including the associate's salary and benefits.

Management's Critical Role

There is a good deal to know about the dollars and cents of law firms, and while new associates can do their part in studying the issues, they cannot learn it all on their own. Firm management needs to expose new timekeepers to all aspects of the revenue-generation cycle soon after their entry into the practice to allow them to see the "big picture." This means how the firm creates value for the clients it serves and how that value is captured, quantified and converted into dollars that become available to fund the firm's expenses, inclusive of a reasonable return and reward for the efforts of all involved. This orientation can be done in a structured fashion and may include exposure to the various management reports used by senior lawyers to manage the overall process. Firms that take steps to provide this type of training to their younger practitioners will almost certainly realize improved results over time.