9/12/12

2012: The Year of Pain

With great interest, I have been following Bruce’s series on Growth is Dead. Bruce brings a refreshing economist’s perspective to a bear on an important set of issues.

Apart from agreeing with him, I offer yet another economist’s perspective, taking on another dimension of this analysis. Back in the Spring, I dubbed 2012 "The Year of Pain" for law firms, especially BigLaw. If you track the stats from Bruce’s posts back a few years, the situation he describes has been in place or developing for some time now. So why is 2012 The Year of Pain?

My view is that most firms, or perhaps even the entire market, have been ‘kicking the can down the road’ for some time now. By this I mean they have been cutting and tweaking to stave off any reductions in profit (a.k.a. the almighty PPP). By terminating staff and cutting various costs, firms have been able to maintain, and in some circumstances, even expand their PPP numbers. But, for the most part, this PPP maintenance has not come about based on real revenue growth.

Revenue growth in the market for the past few years has been tracking almost one-to-one the growth in billing rates. This means the actual amount of business has not been growing; only moderate price increases have produced any revenue growth.

Another aspect of 'kicking the can' on the cost reduction side has come from non-sustainable cost savings. By this I mean delaying expenses, such as technology upgrades or space build outs or any number of major expenses. Certainly some staff reductions resulted in long-term cost savings. In fact some of these measures came in to full impact in 2011, as the cost of severance packages were fully paid out in 2010. But even these expenses do not address the real problem. Some were obviously luxuries, but many were the reduction of the lowest cost labor sources in the firm.

Bruce rightly focuses on the revenue side in his analysis, but also within the same stats are a 6% growth in expenses for law firms in 2012. So what the market is experiencing is slowing growth (per Bruce) and rising expenses driven to a large extent by excess capacity in the lawyer ranks. Bruce is right on with this assessment, the market stats clearly show that firms have more lawyers than work and this has been the case for the past few years.

But here is where I part from Bruce’s analysis. The core issue is far more than excess capacity or even having excess capacity in the wrong practices. If we could wave a wand and ‘right size’ law firms would that address the core problem?

I say no. In fact, this wand waving act would be another ‘kick the can’ effort, trying to hold on to a reasonable PPP in the face change. It will buy firms another year or so of face-saving PPP, but only delays the real consequences. And I think further avoidance of embracing change will be disastrous for law firms. Every day that passes that law firms avoid change is another day closer to irrelevance. Susskind’s book title was right. His question mark was strategically placed saying that The End of Lawyers? will come if lawyers do not embrace change. Many of his predictions are coming true or are already in place. So in many respects, The End of Lawyers has already begun and is well under way.

So I say we need The Pain. That may be the only way law firms finally stop talking about the need to change and start actually doing it.

From my economist’s perspective, we have fully transitioned in to a Competitive Market. I make the distinction between a Competitive Market and a Buyer’s Market for a reason. For one, the Buyer’s Market label smells of temporary; as in this is a pendulum swinging back – and then forth. Whereas a Competitive Market signals structural change and thus brings an impetus for embracing new methods. Layering in Susskind’s thinking, not only is it a Competitive Market, but the nature of competition is changing. LPOs and non-law firms are now beating at the door. Delayed change is merely ceding market share to new players. Every day that passes = more market share gone.

The Year of Pain means the day of reckoning is upon us. All of the can kicking has caught up with us. So instead of finding more ways to kick it, I say it's time to … Bring on The Pain.

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2 comments:

Edie Dillon said...

I couldn't agree more. As you and I have discussed, Toby, this is not unlike the shift that accounting and consulting firms encountered a number of years ago. The other similarity I forsee is an even larger chasm between Big Law (think Big Eight - now Big Four) and speciality/boutique firms. Time will tell...

Bruce MacEwen said...

Toby: Thanks for the HT! I actually agree with you that structural change will be required (I just haven't gotten there yet in my series...).

As the great Sicilian writer Giovanni de Lampedusa said in this classic, The Leopard, "If we want things to stay as they are, things will have to change."

 

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