Pricing Management Survey

In spring of this year, the author's firm, KermaPartners, conducted a comprehensive, worldwide survey of pricing management practices in the legal sector. The KermaPartners 2010 Pricing Management Survey shows that law firms continue to face a significant execution gap in the context of pricing management ' meaning they intellectually understand what's needed to price legal services more effectively, but they struggle in executing this to their advantage. We polled law firms from the UK, Continental Europe and the United States about their approach to pricing in their firms, ranging in size from 25 to 300 partners. The key takeaway is that firms recognize the importance of pricing as part of their business model, but too much lip service is paid to pricing management.

Pricing Management Is Not Implemented As a Priority Element of Strategy Execution

More than 75% of our respondents considered pricing a strategic priority, but only 61% of respondents indicated that they have a clearly defined pricing strategy that is aligned with the firm's strategic objectives. At the same time, 54% of respondents were either neutral or disagreed that they effectively communicate their pricing strategy throughout the firm.

This communication Achilles' heel may come down to a lack of clarity in the firm's pricing strategy itself. On specific pricing strategies, for instance, firms in our survey chiefly picked out the statement “Our firm sets its fees to cover our costs and achieve an acceptable profit margin for partners” ' with 96% of firms agreeing or strongly agreeing with this statement. The next most significant result (71%) was for the statement “Our firm sets our fees to capture the full value of our services.” Both statements are no longer within the times, as they are inward-looking and do not take the client side of the pricing equation into account. From our work with law firms, we know that reconciling these two statements, day-to-day, between Finance, Business Development, and the partners is one of the most difficult issues to get right for firms looking to improve their pricing.

Pricing Performance Is Not an Integral Part of Firm Governance

Many firms do not seem to have a clear approach to their pricing policies and compliance with them. Less than half of our respondents have in place written pricing policies/guidelines. This explains, in part, firms' apparent difficulties in measuring their partners' compliance with pricing policies/guidelines ' as many as 77% of firms do not seem to be measuring or reporting on partners' compliance with pricing guidelines (realization being an inadequate measure on its own). However, nearly half of our respondents claim to include pricing compliance as part of their partner remuneration criteria.

Good intentions simply have not been translated into good governance. While 68% of respondents have in place clear decision rights for setting rates/alternative fee arrangements, very few have a single partner responsible for delivering pricing strategy beyond the practice head/MP or CEO. The majority agreed that each partner negotiates his or her arrangements and then asks for sign-off by the responsible person. This relatively limited supervision may work well for charging by the hour, where guidelines are straightforward and well understood by partners. From our work with law firms we know that a hands-off approach does not work effectively when more and more work is being done on an alternative fee arrangement basis: Firms will want to manage their alternative fee-based pricing strategy, and related pricing risk, more actively than leaving (often undertrained and ill-equipped) partners to attempt to negotiate the new landscape themselves.

Alternative Fee Arrangements Are Here to Stay

One third of respondents estimated that 26-50% of their work is already now on an alternative fee arrangement (“AFA”) basis, with another third opting for 11-25%. Not surprisingly, 87% of respondents see either a moderate or substantial increase in the use of alternative fee arrangements over the next 18 months.

More significant, however, is the perceived impact of AFAs on law firm profit. The majority of firm respondents view AFAs as being “just about as profitable” (within a 10% variance in either direction) as hourly fee arrangements. One-third deem AFAs as “less profitable” by between 10% and 25%, and only 8% deem AFAs as being more profitable by at least 10% over hourly arrangements.

This pessimism relates back to the pricing-management issues touched upon above: Almost two-thirds of respondents are neutral or disagree that their partners are proactive about offering AFAs, and three-quarters think their partners are reactive to clients' requests for AFAs. It is hardly surprising, therefore, that the vast majority of respondents (almost 90%) think that fee negotiation skills would support higher rates/more profitable AFAs. About two-thirds also think that clearer pricing policies and guidelines would help as well as a clearly articulated pricing strategy.

Takeaways

Law firms ' rightfully ' consider pricing to be an essential part of strategy execution. Surprisingly, few seem to have clear policies and guidelines ' or measurement processes ' in place to help them manage this important profit driver. Including price performance as part of partner remuneration is positive, but without measurement and tools it is difficult to execute on price performance.

We do not declare the billable hour as dead; however, alternative fee arrangements are here to stay. Most partners are reactive to AFA requests by their clients, instead of proactively putting together service, value and pricing propositions for their clients to beat the competition. Only if law firm management starts to mandate that their partners do the latter will AFAs become profitable propositions for the firm.

Elements of successful price execution start with a clear pricing strategy, solid internal communications, measured management of sound pricing policies, and partner performance pegged against measurable benchmarks. Appropriate tools are as important as is their reinforcement in development programs for partners, too many of whom are still embedded in an hourly-billing-only mentality (the latter of which is all too often reinforced by the firm's own CFOs).

Continued lip service to both pricing management and AFAs will mean reduced profits in the short-term and missed opportunities in the long-term.

Michael Roch is a London-based partner of KermaPartners, an international strategy consultancy for the professional services sector worldwide. He can be reached at [email protected] or +44 (0)20 8133 6849.

In spring of this year, the author's firm, KermaPartners, conducted a comprehensive, worldwide survey of pricing management practices in the legal sector. The KermaPartners 2010 Pricing Management Survey shows that law firms continue to face a significant execution gap in the context of pricing management ' meaning they intellectually understand what's needed to price legal services more effectively, but they struggle in executing this to their advantage. We polled law firms from the UK, Continental Europe and the United States about their approach to pricing in their firms, ranging in size from 25 to 300 partners. The key takeaway is that firms recognize the importance of pricing as part of their business model, but too much lip service is paid to pricing management.

Pricing Management Is Not Implemented As a Priority Element of Strategy Execution

More than 75% of our respondents considered pricing a strategic priority, but only 61% of respondents indicated that they have a clearly defined pricing strategy that is aligned with the firm's strategic objectives. At the same time, 54% of respondents were either neutral or disagreed that they effectively communicate their pricing strategy throughout the firm.

This communication Achilles' heel may come down to a lack of clarity in the firm's pricing strategy itself. On specific pricing strategies, for instance, firms in our survey chiefly picked out the statement “Our firm sets its fees to cover our costs and achieve an acceptable profit margin for partners” ' with 96% of firms agreeing or strongly agreeing with this statement. The next most significant result (71%) was for the statement “Our firm sets our fees to capture the full value of our services.” Both statements are no longer within the times, as they are inward-looking and do not take the client side of the pricing equation into account. From our work with law firms, we know that reconciling these two statements, day-to-day, between Finance, Business Development, and the partners is one of the most difficult issues to get right for firms looking to improve their pricing.

Pricing Performance Is Not an Integral Part of Firm Governance

Many firms do not seem to have a clear approach to their pricing policies and compliance with them. Less than half of our respondents have in place written pricing policies/guidelines. This explains, in part, firms' apparent difficulties in measuring their partners' compliance with pricing policies/guidelines ' as many as 77% of firms do not seem to be measuring or reporting on partners' compliance with pricing guidelines (realization being an inadequate measure on its own). However, nearly half of our respondents claim to include pricing compliance as part of their partner remuneration criteria.

Good intentions simply have not been translated into good governance. While 68% of respondents have in place clear decision rights for setting rates/alternative fee arrangements, very few have a single partner responsible for delivering pricing strategy beyond the practice head/MP or CEO. The majority agreed that each partner negotiates his or her arrangements and then asks for sign-off by the responsible person. This relatively limited supervision may work well for charging by the hour, where guidelines are straightforward and well understood by partners. From our work with law firms we know that a hands-off approach does not work effectively when more and more work is being done on an alternative fee arrangement basis: Firms will want to manage their alternative fee-based pricing strategy, and related pricing risk, more actively than leaving (often undertrained and ill-equipped) partners to attempt to negotiate the new landscape themselves.

Alternative Fee Arrangements Are Here to Stay

One third of respondents estimated that 26-50% of their work is already now on an alternative fee arrangement (“AFA”) basis, with another third opting for 11-25%. Not surprisingly, 87% of respondents see either a moderate or substantial increase in the use of alternative fee arrangements over the next 18 months.

More significant, however, is the perceived impact of AFAs on law firm profit. The majority of firm respondents view AFAs as being “just about as profitable” (within a 10% variance in either direction) as hourly fee arrangements. One-third deem AFAs as “less profitable” by between 10% and 25%, and only 8% deem AFAs as being more profitable by at least 10% over hourly arrangements.

This pessimism relates back to the pricing-management issues touched upon above: Almost two-thirds of respondents are neutral or disagree that their partners are proactive about offering AFAs, and three-quarters think their partners are reactive to clients' requests for AFAs. It is hardly surprising, therefore, that the vast majority of respondents (almost 90%) think that fee negotiation skills would support higher rates/more profitable AFAs. About two-thirds also think that clearer pricing policies and guidelines would help as well as a clearly articulated pricing strategy.

Takeaways

Law firms ' rightfully ' consider pricing to be an essential part of strategy execution. Surprisingly, few seem to have clear policies and guidelines ' or measurement processes ' in place to help them manage this important profit driver. Including price performance as part of partner remuneration is positive, but without measurement and tools it is difficult to execute on price performance.

We do not declare the billable hour as dead; however, alternative fee arrangements are here to stay. Most partners are reactive to AFA requests by their clients, instead of proactively putting together service, value and pricing propositions for their clients to beat the competition. Only if law firm management starts to mandate that their partners do the latter will AFAs become profitable propositions for the firm.

Elements of successful price execution start with a clear pricing strategy, solid internal communications, measured management of sound pricing policies, and partner performance pegged against measurable benchmarks. Appropriate tools are as important as is their reinforcement in development programs for partners, too many of whom are still embedded in an hourly-billing-only mentality (the latter of which is all too often reinforced by the firm's own CFOs).

Continued lip service to both pricing management and AFAs will mean reduced profits in the short-term and missed opportunities in the long-term.

Michael Roch is a London-based partner of KermaPartners, an international strategy consultancy for the professional services sector worldwide. He can be reached at [email protected] or +44 (0)20 8133 6849.