Law People : Law Practice Management, Organizational and Personal Dynamics; Talent Management : Ronda Muir of Law People Management, Inc.

James Surowiecki’s article in this past week’s The New Yorker reviews the rise, decline and near or total collapse of “category killer” businesses like CompUSA, Circuit City, Toys R Us, Home Depot and most recently Barnes & Noble and Blockbuster. Why were these businesses, which enjoyed enormous success for a significant period of time, often virtually eliminating their competitors, unable to thrive?

Surowiecki points to the reaction of management to changing circumstances, epitomized in the Blockbuster struggle.

“[The failure to evolve] was because of what you could call the ‘internal constituency’ problem: the company was full of people who had been there when bricks-and-mortar stores were hugely profitable, and who couldn’t believe that those days were gone for good… The familiar sunk-cost fallacy made things worse. Myriad studies have shown that, once decision-makers invest in a project, they’re likely to keep doing so, because of the money already at stake. ..throwing good money after bad.“

Surowiecki also points out the difficulties of making mid-business model transitions to new forms of product delivery that entry businesses, designed  for that purpose from the ground up, don’t have to contend with—think Macy’s and other retailers’ attempts to enter the mail order business that Sears had pioneered.

What does this have to do with law practice? Consider the rise of virtual law firms, legal service organizations and variations on/combinations of the two. And take a good look at firms like Finley Kumble that bet heavily on the future of law practice looking like the profitable past. 

Of course you don’t have to go to the dustheap to find firms investing heavily in bricks and mortar and the approaches of the past. In fact, those firms are often our most successful ones—top of the market firms who consider themselves to be category killers.

The science of paradigm shifts predicts that the last to change are the ones who were most successful at the old system, so the currently most profitable firms are unlikely to lead the way to new models. While struggling practices have no choice but to innovate. And of course, many firms, even if they want to, will not be able to transition to a new model without breaking up on the shoals—we are trained, after all, to find things wrong with any proposal and we are so good at that we can effectively impede our own progress with our objections.

But the most profitable firms are at particular risk for easily getting lulled by their past success.  Unless those firms are willing to take a hard look at the marketplace and how their business is going to make a profit in a rapidly changing competitive environment, unless they are willing to entertain turning their backs on what have been highly profitable approaches and risk retooling for an entirely new and targeted business model, those very firms who view themselves as the category killers in their markets are likely to fall to the next generation entries who are not hamstrung by impediments like internal constituencies and sunk-cost fallacies. 

The new category killers.

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As a followup to the previous entry's reference to law practice restrictions that exist in the US and are considered or being put in place in important new economies like Brazil and India, a recent article in The Economist discussed the significant drag such restrictions have on countries' attempts to improve productivity. Following are among the most relevant bits, as the Brits say.

"[T]he politicians’ current focus on fostering productivity growth via exciting high-tech breakthroughs misses a big part of what really drives innovation: the diffusion of better business processes and management methods. This sort of innovation is generally the result of competitive pressure. The best thing that governments can do to foster new ideas is to get out of the way. This is especially true in the most regulated and least competitive parts of the economy, notably services."

"[F]or many rich countries the quickest route to faster productivity growth will be to use the crisis to deregulate the service sector. A recent study by the Bank of France and the OECD looked at 20 sectors in 15 OECD countries between 1984 and 2007. It found that reducing regulation on 'upstream' services would have a marked effect not just on productivity in those sectors but also on other parts of the economy. The logic is simple: more efficient lawyers, distributors or banks enable firms across the economy to become more productive. The size of the potential gains calculated by the Bank of France is stunning. Getting rid of all price, market-entry and other competition-restricting regulations would boost annual total factor productivity growth by one percentage point in a typical country in their sample, enough to more than double its pace... [E]ven the more modest goal of embracing “best practice” would yield large benefits. The IMF has calculated that if countries could reduce regulation to the average of the least restrictive three OECD countries, annual productivity growth would rise by some 0.2 percentage points in America, 0.3 percentage points in the euro area and 0.6 percentage points in Japan."

It may be time for US policies such as banning non-lawyer investment in legal practices and even requiring state-by-state bar qualification to become relics from a less productive past.

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What recession? Slater & Gordon, the Australian firm, has been on a roll, buying up 10 firms over the last 3 years, realizing a 21% increase in revenues for 2009-2010, along with a 16% increase in PEP, both modest compared to the 27% increase in revenues and 42% increase in net profit achieved in 2008-2009. 

How are they doing that? S&G was the first firm in the world to accept outside investors. In May 2007 it floated a $25million IPO and the rest, as they say, is history. The original 7 partners each got @ $3.6 million and have retained an ownership interest in the ongoing profits of the firm, which are turning out to be significant.

In the U.K., there is only one year left before the final stage of the Legal Services Act comes into force, permitting U.K. firms to accept equity investments from non-lawyers, and a number of investors are already lining up to invest. The law also allows corporations owned by non-lawyers to provide legal services, which raises the specter of "Tesco," a giant grocer, providing consumer legal advice boutiques at their various stores.  

Although a number of firms seem ripe for investment, speculation abounds as to whether, after the cost cutting that many firms have recently undergone, there will still be room for private investors to realize a return--typically targeted at 20% within 3-5 years--from efficiency improvements and also whether partners can expect comparable compensation from what remains. 

These issues are reminiscent of those raised in the transition in the US financial services industry from partnerships to corporations, which, as we know, provided both significant buy-outs to the existing partners at the time and continues to produce sizeable profits. 

Will US law firms follow suit?   Many firms, having managed to extract working capital from their partners and through credit lines in the past--even from the debt markets, as Clifford Chance's $150 million debt issue demonstrated--will decide they won't need to draw on outside investors. For those firms willing to make the plunge into outside investment, some question whether US law partners accustomed to managing their businesses in their own way are able or willing to admit outside investors to the firm management positions that they are likely to demand. And even if  the specter rises of Finley Kumble and others inexpert in managing their own debt. The big question, of course, is whether the US and interested parties, including bar groups, will flex the political muscle to allow the legal industry here the option of following in the steps of the financial industry and their competitors abroad.

One of the more interesting developments in the global legal services market are moves to block or limit foreign law firms from some of the countries with the most explosive legal services growth.  India has announced that it "has decided not to permit foreign lawyers into India" while Brazil's more local restrictions are raising concerns about the future of many foreign practices there. Think France back two decades ago when foreign firms were trying to structure practices there consistent with local concerns. 

These kinds of developments may put pressure on foreign firms to invest financially in local firms or the entities that own those local firms in order to participate in this era's most flourishing markets. Investor-experienced law groups from countries like the UK or Australia may well turn out to be at an advantage in financing, structuring and/or managing those truly international practices.

What is certain is that all these developments are going to be carefully observed in the US and that they are adding fuel to the argument that other countries are permitting innovation that will put US law firms at a disadvantage internationally.

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The most interesting question, in my opinion, that was asked of me and Peter Zeugheuser at last Thursday's CCM audio conference on Origination Credit and Partner Compensation for the New Legal Landscape was not really within the purview of the topic.  It was "does compensation really work as an incentive?"  

The topic--for a broadly diverse audience--was an overview of law firm partner compensation systems and the forces that are shaping changes in those systems. Of course the assumption underlying all law firm compensation systems, and the concomitant imperative to align compensation with firm goals, is that they do work in achieving at least some part of our objectives.

But the truth is that the answer to that critical question is not at all clear cut--and the research that has been done could and probably should disrupt many of our settled ideas about partner pay. 

By happenstance,on Friday, October 1, the day after the audio conference, I had the good fortune to participate in a conversation with Daniel Pink.  Pink is the author of  the book Drive: The Surprising Truth About What Motivates Us, in which he summarizes decades of research that business has essentially ignored:  extrinsic rewards (i.e. compensation) are not the best motivators of productivity and profitability. Pink is an engaging speaker on the subject, as this video demonstrates (he along with my college Psych professor Barry Schwartz was named one of TED's Ten Best Speakers ) and has a particular perspective about the practice of law.  Although he is a Yale Law School graduate-- "something I regret" --"to his lasting joy, he has never practiced law," as his website says. 

Pink's position is that while carrots and sticks worked successfully in the twentieth century, that’s precisely the wrong way to motivate people for today’s challenges.  In Drive, he identifies three "true motivators"—autonomy (the ability to control your work), mastery (of skills or subject matters), and purpose (which gives a personal meaning to your work).  In support of his premises, he gives a number of examples of solid research in which those motivators soundly trounced financial rewards, even in such objectively hard results as sales and profits. 

Pink's conclusions rest on a line of research starting in the 40s with Maslow's "Theory of Human Motivation," which posited a "hierarchy of needs," in which, after a minimal amount of compensation, other benefits like appreciation, mastery, meaning, etc., were more motivating. In that vein, David Maister did an interesting study  of 139 law firms a number of years ago looking at what most aligned with profit, and found that attitudes held throughout the firm were more predictive of profit than compensation policies.

With demonstrated high levels of pessimism and need for autonomy and also low resilience and sociability (among other attributes), coupled with the expectations of the workplace, lawyers are a particularly challenging, and perhaps even unique, group to motivate.

In response to my question about his take on the world of lawyers, Pink said that he had spoken to a number of law firms and that good motivators weren't in place at most firms--young attorneys are given very little autonomy to direct their work or careers, they are kept in a hierarchical ladder that doesn't recognize individual mastery and they find little personal meaning or purpose in what they do. In fact, Pink has devoted several pages of Drive (pp 98-101) to law firms as the poster boys of outdated industrial-age thinking.

Pink's views have to be taken in the context of an earlier book, A Whole New Mind, in which he contended that the era of “left brain” dominance, and the Information Age that it engendered, is giving way to a new world in which “right brain” qualities--inventiveness, empathy and meaning--predominate.  According to Pink, the future belongs not to the analytical types--lawyers. accountants and computer programmers are the examples he mentions--but to "a very different kind of person with a very different kind of mind."  In other words, the analytical skills are susceptible to being out-sourced.  In a fast-moving, inter-related world, innovation, empathically identifying with others' experiences and providing purpose can't be.

Pink's emphasis in looking at motivation, therefore, is to find what will bring those critical 21st Century skills to the fore.

But if extrinsic rewards are not that motivating, how is it that we lawyers are obsessed with PPP and compensation? Given how many lawyers game their comp systems to make the last nickel or change firms for an extra dime, it's hard to see how money isn't a motivator, right?  One explanation for this behavior is that in a one-metric world, highly competitive lawyers are going to reach for the top of that metric, whatever it is. 

But compensation doesn't have to be the only metric and it is by all knowledgeable lights not the motivational tool of choice.  Our experience is that firms who are concerned about their lawyers being dissatisfied about the level of compensation usually find that in fact the fiercest dissatisfaction comes not with regard to financial rewards but other aspects of the work experience---communication, respect, recognition, investment in training, etc. In nearly every case, lawyers will trade compensation for non-financial benefits--better support for their career objectives, a seat at the governing table or more control of their working lives.

These three factors are certainly not the final words in the discussion about motivation and compensation. We will be looking at positive psychology's contribution to the field and some startling results achieved simply by raising the mood in the work force (something many law firms could benefit from). There are also some amazing insights that have been achieved into the best function of rewards, whether we are better off rewarding efforts or results, which I will elaborate on in a later post.

But according to Pink, if we could start from scratch to build a system that motivates the highest performance,  we would make sure we offer our lawyers the opportunity for more automous, individually purposeful work that provides them with a sense of mastery. 

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