Finance’s Role in the Law Firm of the Future…

by David J Bilinsky

Nothin’ from nothin’ leaves nothin’
You gotta have somethin’ if you wanna be with me
Nothin’ from nothin’ leaves nothin’
You gotta have somethin’ if you wanna be with me...

Words and Music Written by Billy Preston and Bruce Fisher
Recorded by Billy Preston

It is nearing financial year-end again and you will soon see your annual finance statements. With a sinking heart you look at the calendar and see circled in red the upcoming partners meeting to discuss this year’s financial results. Despite all attempts at improving your firm’s performance over the last year, your efforts have not resulted in any major changes. Gazing upwards at the heavens, you wonder aloud if there isn’t a better way of doing things…

CFO Research Services in collaboration with Cap Gemini Ernst & Young have just released a paper entitled “CFOs: Driving Finance Transformation for the 21st Century” on the Internet and it provides food for thought for anyone wanting to increase the financial performance of their business. In their study, they looked at companies such as Allergan, American Express, Chevron Phillips, GE Capital, and Intel. The results set out in the paper are instructive when applied to lawyers and law firms:

• The top three priorities for the companies seeking to make their finance departments more responsive to the needs of the business were: accuracy of earnings and revenue forecasts, operational decision support and formulation of corporate strategy. Aside from hourly billing targets, how many law firms engage in revenue forecasting? How many go further and compare expected vs. actual results on a file-by-file basis? How many determine quantitatively if it is viable to maintain services in a legal area or move to a more profitable niche?
• The study found that in ‘cautious observer’ companies, 46 per cent of finance’s time is spent on transaction processing while in ‘leader’ companies, 24 per cent of finance’s time is spend on these processes. In fact, the top four matters outsourced were: payroll, benefits, tax processes and internal audit. The four matters kept internally were: planning and budgeting, cost accounting, reporting, and cash management. How many law firms free up time for finance to work on higher, value-added analysis, by contracting out the basic accounting commodity processing?
• Leader companies developed dynamic budgets and forecasts based on operational drivers while cautious observer companies developed long-term line-item budgets and static forecasts. The implication seems clear – leaders had taken the time to integrate their accounting IT systems with other office systems to a point where they were able to deliver real-time, accurate financial information to management. How many firms have lawyers using case management systems that are integrated into their accounting system to provide accurate, real-time data?
• How many firms can determine whether any particular file in the office was profitable? Here we are not talking about fees collection, but determining the total of direct and allocated costs (commonly known as the Costs of Services Rendered). Without hard data on the number of hours worked on a file and the file’s share of office overhead including staff time, you would be hard-pressed to determine what a file cost the firm. Most firms simply look at the gross revenue generated at the conclusion of a file, but this can be misleading. For example, let us look at two files, each of which generated $100,000 in revenue (after disbursements). File A took three years and involved 400 hours of legal time (at $250/hr = $100,000) + hundreds of hours of staff time. File B took six months and 100 hours of legal time (at $250/hr = $25,000) and the same amount of staff time. Which file was more profitable? Not only was B more profitable, you could argue that File A resulted in a net loss to the firm since the total of legal and staff costs exceeded revenues. Yet, in most eat-what-you-kill systems, each file would be treated equally when it comes to determining partner compensation! Financial analysis can help you determine which files and practice areas yield the greatest return to the firm and which are black holes.
• Cautious observers were also likely to have transaction systems that were mostly legacy and non-integrated. By comparison, the increasing trend in legal software is to integrate accounting software into other office systems such as case management, among others. Forward thinking software developers realize that lawyers need to track and post all costs dynamically from the office systems directly into the financial system as well as have fingertip access into the analysis that is enabled by the integrated financial system.
• The biggest barriers to achieving finance transformation were: building the necessary employee skills, implementing the right enabling technology, building business unit support and ensuring senior management support. Contrast this with the perception that the accounting department eats resources and should be carefully managed to minimize expenses. Reality: devoting resources to build, staff, and maintain the finance system results in big payoffs.
• Furthermore, successful transformations were deeply tied to cultural and human issues such as: developing new skills in the finance department (since you are moving from a reporting to a forecasting skill set), getting the support of senior management, and convincing business unit heads (such as other partners) to support the project. As with so many other projects in a law firm environment, ultimately it is the people side of the equation that determines success.
• What can you expect from a transformed finance department? The study found that reformed finance departments were active in strategic activities characterized as profitability analysis, partnering decisions, pricing decisions and demand forecasting. Part of this transformation involved developing financial and non-financial measures to support the implementation of strategy. Hillenbrand Industries was cited in the study as developing the following measures: financial (revenue growth, asset utilization and profit margins), customer (customer retention and revenue from key customers), process (logistics, research and development) and organizational learning (talent redeployment and business transformational activities).
• The paper found that, in the handful of companies that have transformed their finance departments, the results that they have achieved have been worth the effort. These companies reported that they achieved a lower cost of finance and more importantly, a greater strategic contribution from their finance departments. Once success was demonstrated, the project met with greater support as people began to see the value the change was creating.

Informational processing has brought powerful financial analysis tools within the grasp of the present-day law firm. Such analysis can result in more than just a lot of nothing left over at the end of the day…

David J Bilinsky is the Practice Management Advisor at the Law Society of British Columbia. He can be reached on the Internet at dbilinsky@lsbc.org. The views expressed herein are strictly those of the author and may not be shared by the Law Society of British Columbia.

This article originally appeared in the December 2002 issue of BarTalk and is reproduced here with permission of both the author and the Canadian Bar Association, British Columbia Branch.