Law People : Law Practice Management, Law Firm Coaching : Ronda Muir of Robin Rolfe Resources : Law People Blog

An extraordinary and convincing vision of a revolution in big law's future was presented by Mark Chandler, SVP and General Counsel of Cisco, in a speech in January at Northwestern School of Law's 34th Annual Securities Regulation Institute.  I would like to join other legal commentators in paraphrasing Chandler's comments and commending him on his far-sightedness.

Driven as are other GCs to realize productivity improvements in his department, Chandler is committed to reducing Cisco's legal expenses as Cisco gets bigger.  Chandler points out that information, a law firm's stock in trade, will only get easier, and therefore cheaper, to access over time.  Already standardized on-line legal data is available, with residential leases and individual tax returns now largely done by software.

But even Cisco's first tier corporate legal work is being drilled down to a cost-effective, accessible product.  Contracts are drafted, executed and archived by employees using on-line software. Cisco pays a fixed fee for patent prosecution and intends to pay at least 5% less each year, requiring its firms to find ways to lower costs.  It also pays a fixed fee for the review of license offers, which Baker & Botts has been able to make profitable by developing a more efficient systematic approach.   In the corporate secretarial area, Cisco has replaced a group of outside firms with a one-firm solution that aims for a 20% reduction in legal expenses in part by using standardized forms and open interfaces. 

In litigation, Cisco has a fixed fee arrangement with Morgan Lewis to manage all of its US commercial litigation, which has made litigation avoidance the firm's key goal, aligning perfectly with Cisco's interest.

Counseling will be the next frontier, Chandler believes, as online tools like tax counseling via www.taxalmanac spread to other legal areas, such as export regulations, human resources and employment and eventually securities law compliance.  Cisco is already working with eight other Fortune 500 companies and a number of law firms on a site called Legal On Ramp to allow direct access to search law firms' knowledge management systems.  See www.legalonramp.com.

And in each instance, what was novel in Cisco's legal management strategies five years ago has become more commonplace among its peers today and may well eventually become available for purchase as packaged software.

The current law firm business model, according to Chandler, reflects a fundamental misalignment of interest between clients who are driven to manage expenses and law firms compensated by the hour.  Clients are not in the market of buying time, he points out, but value.  The current system not only mis-serves clients, but also the lawyers themselves, particularly associates, who Chandler says are beating down his doors because they don't want to work for law firms any more--enslaved by a billable hour-based compensation system that is inefficient in producing a valuable product and that offers them little chance of making partner.

Chandler recognizes that law firms are currently profitable as structured.  Clay Christensen of Harvard Business School calls large American law firms "the most profitable businesses in the world.  Speedier information-gathering capabilities allow large law firms to increase utilization of less experienced lawyers without passing cost savings on to their customers."  But Chandler is convinced that the very source of success for firms today--the ability to control client access to expertise, requiring 1:1 delivery--will be the source of their failure in the future.  It is top quality boutiques that Chandler is betting will change and survive, and it is in Cisco's interest to help make them profitable while doing so.  Chandler views slower-moving, cost-heavy large centralized firms to be at risk. 

"If the economic system of law firms is frustrating to associates and even some partners, I can tell you that from the standpoint of a metric driven general counsel, it is more than incomprehensible.  It looks like the last vestige of the medieval guild system to survive into the 21st century."

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Ronda Muir has been asked by Yale Law School to conduct a seminar in April for law students on the economics of law firm practice and how associates can add to the bottom line. 

In the highly competitive legal market, associates benefit from understanding the underlying financial considerations that shape law practices and their policies, and how to quickly become a productive contributor to their firms' financial success.  

Yale Law School was acknowledged in the Carnegie Foundation's Advancement of Teaching two-year study of the North American legal education system, published in 2006, as one of only three law schools offering a balanced curriculum.

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The linchpin to forging a solution to the associate recruitment/retention/compensation issue may be getting partners to acknowledge that partner profits, hotly negotiated, carefully calculated and closely compared, have to take a hit.  Accounting firms have managed to significantly lower their attrition rates and achieve strikingly higher diversity than their law firm cousins in part by sacrificing some portion of partner profits.

The Logic of Lower Partner Profits

Lower partner profits seem almost logical when today's associate pay is compared to historical ratios of partner profits, according to a recent National Law Journal article.  As a percentage of average profits per partner, the starting salary at top law firms is at its lowest level in a decade.  In 2005 new associates at 500+ lawyer firms made 11.7% of the amount partners earned, the smallest proportion over the last 10 years.  By contrast, new associate salaries at the AmLaw 100 were 15.4%of partner profits in 2001, the highest percentage over that same time.  While new lawyers at smaller firms earned a higher proportion of profits, their percentages have declined in recent years as well.  (The article notes, however, the methodological challenges posed by combining different sources of data to reach these conclusions.)

Surely no one is arguing that some set ratio should be rigorously maintained regardless of the larger economic scenario.  Or even if they are, that it could be.  Associate salaries are set for the year ahead, and are paid regardless of the legal industry's or the individual firm's profitability that year.   Partners, on the other hand, ride the wave of  what could be a banner year, like 2005, or a financial dog, like 2001.  No one asks associates for money back when the firm's economic projections have turned out to be too rosy, and few would argue that associates should be entitled to the same degree of additional compensation that partners realize in an unexpectedly good year.  So the variations cited above may well be left as just that-- the vagaries of profitability.

The general consensus is, anyway, that without any further ado the gap between associate salaries and profits per partner will narrow over the next few years as a result of an anticipated plateau in overall law firm profitability, which is being negatively impacted by the escalating race for qualified law school graduates, among other things.  See our February 20, 2007 entry "The Looming Associate Crisis and What It Means For Your Firm."  Salaries will have to rise for firms to stay competitive and partners will be the ones who finance them.  Simpson Thatcher, for example, the firm that started this latest round of raises, will, because of those raises, reshuffle approximately 2% of the firm's anticipated net profits for 2007, or at least $8 million, to its 520 associates, for a minimum contribution of $50,000 per equity partner.  And there is no anticipated increase in demand for legal services.  In fact, there are credible arguments that the legal business, like nearly every other industry, may well see a concentration of demand and streamlining of delivery over the next decade or so.

The Necessity of Lower Partner Profits

But still firms may have to contemplate even lower partner profits.  Hiring associates and keeping them are two different matters.  After high salaries have landed associates, it might be that only rejiggering the traditional law firm business model can make them stay for what seems to be the increasingly unattractive partnership prize.  Higher associate salaries put more pressure on productivity and hours, exacerbating precisely the quality-of-life issues that apparently make junior lawyers so unhappy.  See our February 14, 2007 entry "What All That Money Is Buying You."  Particularly for Generation Xers, Yers and beyond, the benefits and lifestyle that are their stated priorities may not only be a matter of steadily higher (and expensive) compensation, but, just as intrusive to partners' pockets, also require hiring more bodies to accomplish the same amount of associate work.

Leverage statistics often get bandied around in the discussion of associate salaries and partner profits.  Leverage has always been a two-edged sword: both an engine for producing more revenue when business is plentiful and an albatross around the neck when business turns south.  Interestingly enough, according to the (possibly skewed) NLJ statistics, over the last decade, law firms of all sizes turned out to be the most highly leveraged in some of the least profitable years-- 2001 and 2002.  But the kind of leverage we are talking about possibly evolving is the worst of both worlds-- leverage that produces no more additional revenue and, once again, higher expenses.

So it is partner profits that will suffer.  This is a difficult pill to swallow.  No one likes to see their compensation heading south, least of all the lawyers in your firm making the most money, i.e., those with the most seniority, the highest productivity and the strongest ties to clients:  the very ones who may well be billing more hours than the associates whose salaries they are being asked to subsidize.  The pundits say that firms will continue to raise either associate hours or hourly rates before they ask partners to pony up.  The alternative is too risky.

Firms are Already Lowering Partner Profits

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