The "R. O. I-rony" of Accounts Receivable:
How Should Law Firms Spend Money to Get Money?
I recently attended a legal industry panel discussion about “return on investment” (ROI), which featured, of course, a distinguished panel of experienced and eloquent speakers. It did not, however, involve CFOs, controllers, administrative officers, or accounting managers. Instead, it was the local chapter meeting of the Legal Marketing Association (LMA).
The debate on measuring ROI from marketing expenditures and public relations programs has continued for years. Of course, all businesses, from hardware stores to soap manufacturers, experience difficulty with the metrics of marketing ROI. In the world of professional services, the link between marketing efforts and increased revenues is arguably even more tenuous.
It struck me, while seated in the large conference room filled with legal marketers, that law firms are constantly “spending money to get money.” Even with the murkiness surrounding the metrics, and despite a common opinion that “much of the advertising that is intended as legal marketing really is an exercise in law firm vanity,”* firms are willing and able to allocate large sums of money for marketing activities.
This is money spent before the first billable hour. The firm hires outside industry consultants, graphic designers, branding experts, entertainment organizers, publishing experts, etc., to make a good first impression. Law firms invest in convincing corporate clients to choose their outside counsel wisely. Those long hours and late nights toiling over a litigation strategy or structuring a corporate deal have not even begun. The putative attorney-client relationship is, in essence, a blank canvas. To be sure, it’s often an expensive canvas that may eventually become a masterpiece, but the brush has yet to touch the paint, so to speak.
Why should firms spend a fortune on the “painting supplies,” but subsequently sell their “masterpiece” for pennies on the dollar? Put more concretely: why are firms willing to spend significant sums on outside help to woo prospective clients, yet are unwilling to spend even modest sums on outside help to manage receivables and ensure payment for the services rendered?
Because of their reluctance, large law firms lose hundreds of thousands, sometimes millions of dollars, by agreeing to settlements and write-downs for substantially less than the firm’s invoiced amounts. The result is lost revenues.
In most cases nothing is murky about these lost revenues; they are very measurable. Few things in the firm are tracked more diligently or recorded more meticulously than billable hours. Indeed, attorneys gauge their performance (whether implicitly or explicitly in annual reviews or distributions) by that gold standard of legal hard work: The Billable Hour. Unlike the “blank canvas” world of legal marketing, where dollar values are nebulous and results unclear, the “post-masterpiece” world of law firm accounts receivable is very measurable.
Surprisingly, however, many law firms view their portfolio of accounts receivable as sacrosanct. The conventional wisdom at these firms is that negotiation of client balances is the exclusive domain of the attorney. The result, strangely, is that firms are sometimes reluctant to enforce their own retainer agreements or engagement letters. Many attorneys trivialize or ignore their clients’ non-payment, even when professional and effective A/R portfolio managers are available and specialize in precisely this type of work. And since very few attorneys possess the skills, motivation and time to contact clients about past due amounts, the delinquencies may go unattended until they reach a crisis stage.
So much for the stereotype of greedy lawyers. Judging from what they are actually paid by clients on average (as opposed to the value of billable hours actually worked), attorneys seem to be a relatively self-effacing group.
For example, in anticipation of client “sticker shock,” some attorneys reduce their final monthly bills before the client has a chance to object. Others knowingly open new matters when past due balances for work on old matters remain on the books for the same client.
How many service providers in other fields would routinely discount their own invoices after services are rendered, or anticipate and defend a client’s fiscal delinquency on those same invoices? From a profitability standpoint, attorneys’ forbearance with delinquent clients may be at unhealthy levels.
If law firms already spend a considerable amount in the “courtship ritual” to develop business initially, it seems entirely reasonable to spend the same amount (or perhaps more) to ensure realization of the very revenue they are courting. Because accounting and software tools already exist to track the difference between the agreed value of legal services on one hand, and the amount paid for such services on the other hand, a firm’s spending in A/R management becomes a much higher-leverage investment in profitability than its spending on marketing.
It’s good to have marquee clients. But it’s great to have marquee clients who actually pay in full for the services rendered to them. The best lawyers and law firms already know this. Instead of using The Billable Hour to measure results, they have essentially introduced the new unit of law firm currency: The Realized Hour. They may not use this precise term, but the concept exists in the firms’ management philosophies. The most effective attorneys are not simply doing great legal work; they are doing great legal work for clients who honor their financial commitments.
Don’t misunderstand me. I fully support client development efforts and many of the programs run by very qualified and competent marketing directors. Law firms need effective marketing and business development, and they are right to be concerned about ROI for these efforts. In most cases, healthy budgets for marketing are a good thing.
The irony lies in a firm’s apparent willingness to pay outside consultants and contractors for new clients, but unwillingness to pay for accounts receivable management, when those same clients later have large unpaid amounts.
It’s difficult to imagine attorneys adopting the “lawyer knows best” attitude in the realm of marketing and new client acquisition. In that context, they feel comfortable using outside experts, logo developers, event planners, etc. They acknowledge expertise of the marketing gurus, even when it’s hard to connect the up-front client development activity with the expected eventual revenue.
If you’re unsure about your firm’s needs in this area, ask yourself the following questions:
- How effective are your policies, procedures, and personnel in handling accounts receivable?
- Has the firm, in its haste to cut costs and reduce expenditures, neglected to look at the A/R portfolio for increased financial capacity?
- If the firm already “spends money to get money” in terms of marketing and business development, wouldn’t it seem prudent to ensure that the “get money” part of that equation also includes revenue from clients with past due balances?
The answers to those questions likely will show that accounts receivable management represents the most measurable and the most underappreciated area for improved ROI, and the resulting impact on a firm’s bottom line.
Dave Hicks enjoys his role as Vice President of Consulting Services for CMS Intelliteach. Mr. Hicks graduated Princeton University cum laude where his independent study focused on media regulation. He received his J.D. from the University of San Diego and has worked in risk mitigation and corporate compliance for various consultancies. His subject matter interests have ranged from financial transparency and the requirements of Sarbanes-Oxley legislation, to prevention of employment bias claims and other risk management concerns. His current aspirations include improving both client satisfaction and law firm profitability by using financial metrics to advocate a common sense approach to law firm management. Mr. Hicks’s articles have appeared in several publications, including the California Regulatory Law Reporter. He lives in Marin County, California.