April 25, 2017

Law Practice Profitability is all about The Way You Make It Happen, Not In Which You Get

Law Practice Profitability is all about The Way You Make It Happen, Not In Which You Get

Law Practice Profitability is all about The Way You Make It Happen, Not In Which You Get

By Edwin B. Reeser

Management effectiveness is frequently evaluated by profitability. There are many measures of profit, many are effective for performance and a few work well “spin.” Broad partner knowledge of the main difference might be important to maintaining your firm on the sustainable course.

Profit on Operations

The “PMO” ratio is “partner profit,” the swimming pool of internet earnings, divided by firm revenue. The typical PMO for that AmLaw 100 is 36 percent – much like our hypothetical firm with $100 million in annual revenue and $36 million in profits.

Suppose PMO falls to 32 percent, but nonetheless delivers $36 million profit. What went down? The firm would need to increase revenue to $112.5 million. Expenses would increase from $64 million ($100M – $64M = $36M profit) to $76.5 million ($112.5M – $76.5M = $36M). So both revenue and expenses elevated by $12.5 million. The firm made no profit on the revenue increase which in the past must have delivered $4.5 million of profit.

Where did the extra revenue and expenses originate from?

Revenue might be from your abnormally large receivables collection or possibly a contingency – a nonrepeating event. Or revenue might be from new cases. Time focusing on new cases that grow the stabilized receivables base can front load costs by 2 to 3 several weeks or even more, before revenues flow towards the firm.

An optimistic reason behind elevated expenses might be that they are incurred precisely because revenue, from whatever source, was there. It presents an chance to pay for deferred expenses or make expense advances each year when partner profits wouldn’t be reduced therefore. An adverse explanation might be a commitment of attorney time for you to a situation(s) that led to no revenues.

Note the big effect on the firm for unproductive work. A PMO of 36 percent requires $4.5 million of unproductive work costs to offset $4.5 million make money from $12. 5 million in revenue, which cost $8 million to create. Just consider what goes on whenever a firm operates in a 20 % margin!

(Reprinted with permission from the Daily Journal Corp, copyright 2014)

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