The Coming Tsunami in the Legal Profession

This scenario is not as far-fetched as you may think. Satya Nadella, CEO at Microsoft, introduced a “Nadine” created by Professor Nedia Thalmann at the World Economic Forum recently. Cancer centers across the country are using Watson to set up treatments. According to a Wall Street Journal article in March, KPMG is using IBM's Watson to help examine corporate America's books. See, The Wall Street Journal, CFO Journal, March 9, 2016, “Auditors Count on Tech for Backup.” Linklaters of London created “Blue Flag” years ago to take the place of over 20 lawyers.

I invite you to go back in history and look at the waves (trends) that have turned into eras: Wave 1 was the Industrial Revolution in the early 1900s that propelled clients into improving the quality of service and the analysis of the processes for manufacturing. The same has come true for evaluating outside counsel. Wave 2 was the Internet. A famous quote from the “Seize the Future” conference in 1997 on the future of law was: “What the printing press did to the monopoly the priests and rabbis had on the interpretation of the Bible, the Internet will destroy the monopoly lawyers have on interpretation of the law.” Wave 3 was the introduction of smartphones and tablets, which have revolutionized communications and the transfer of information. Wave 4 was the introduction of alternative fee agreements (AFAs) and other pricing models that have created an Industrial Revolution-type of scenario where process improvement and project management has to work.

For example, look at what happened to other professional service providers. Doctors in the 1980s had to start pricing procedures at a fixed fee to satisfy payers. CPAs in the 1990s had to adapt to process improvement, with clients asking for a fixed fee for audits. And here comes Wave 5: the age of artificial intelligence, big data and IBM's Watson doing the work of administrative, para-professionals, and associates. Who will survive? My take: Lawyers must become counselors, not product producers. Firm leaders must take a 1%, step-by-step change process in the business model of the law firm.

The Fifth Wave: New Business Models

There are many questions that cannot be answered in this article, but I will try to address a sample. For example, here are some questions that come out of the fifth wave. How will a new business model affect the following:

• The leverage and specialty structure of the firm?
• The compensation of partners?
• The training of para-professionals and associates, if there are any?
• The model employee, who is hired and why?
• The upgrade of the client base? Can a firm accept just any client?
• The restructuring of services the firm can and will provide to clients?
• What chunks of work, typically performed in the firm, must be outsourced?
• Growth or shrinkage in the firm?
• Mergers or acquisitions of law firms?

Where will the capital come from to invest in all these changes? We must go through the art of “creative destruction.” We must create something that will change our direction by 1% per iteration. I used to fly, and if I was off by 1% in my heading, I would have missed a 10,000-mile way-point by over 100 miles. A 1% change in direction works, one step at a time. What are the building blocks for 1% incremental changes? Leaders must manage their culture to create a learning organization. Culture propels the organization ' good to success and bad to destruction. The foundation of a successful firm in the new era is driven by the following building blocks. Starting at the base:

• Collaboration supported by:
• |
  • a. Mutual trust and accountability;
  • b. Innovation and constant improvement; and
  • c. Supporting vision and core values that,
• Create a learning organization willing to innovate and invent new ways of delivering legal services which produce.
• Demonstrated internal improvements in efficiency and effectiveness that improve the quality of life and experience for partners, employees, and clients. That creates,
• Client recognition of the benefits in fee predictability and service which provides continued recognition by clients and financial results to the firm.

If the firm focuses on financial results without the building blocks that support it, the firm will waste away as if it had a cancer.

A Few Implications of the Coming Tsunami Wave

Disintermediation is the elimination of people in the mix because of better process management and replacement of human beings by thinking machines that can perform the same tasks. In business, disintermediation has typically affected the middle managers in the organization. These are the producers who create and manage the product, or filter the information going to the top. In law firms, these are the drafters and reviewers of legal products. The firm must still have knowledge experts and counselors who can deal with the critical issues and expert decisions. But those tasks that fall in the lower half of the Cobb Value Curve will be done by artificial intelligence.

With artificial intelligence and access to vast amounts of world information by computers, where will the people in the middle go? What will happen to law schools and how will their curriculum have to change? Who will be the new professionals? In several IP firms of which I am familiar, there are more PhD professionals than there are lawyers, and the PhDs make more than many partners. Is this the future for commercial and litigation lawyers?

The new business model will turn compensation upside-down. What does your firm value most? If a consultant were to look at your compensation system, it is highly likely that those who have the biggest book of business make the most money. But if some simple return on investment principals are used, they would not make nearly as much. If a calculation of realization (return on time invested) were performed, calculations of performance would be very different. There are three levels of realization. R1 is the percentage of the standard rate that goes into work-in-progress (what the lawyer told the clients the billing rate would be for the matter). R2 is the percentage of work-in-progress rate that gets billed into accounts receivable. R3 is the percentage of the billed rate that is collected and the cost of money for long-standing receivables. A $50 million firm that has an overall realization rate of 90% (R1xR2xR3) loses $5 million of distributable income. There are many articles on realization that can be found in my website, www.cobb-consulting.com, and other websites as well.

Leverage will also be upside-down. With disintermediation, many of the para-professionals and associates will be replaced by artificial intelligence beings and systems. Partners will have to learn how to practice with their new robots. They will have to learn how to be efficient in communicating needs and tasks. They will have to create process maps for their matters. They will have to learn how to break up tasks in a process into chunks of work to outsource what should be done elsewhere and what should be done in-house with the firm's accumulated knowledge base. That will require administrators to create a training process to move one step at a time to process maps for work in the firm.

The Cobb Value Curve, below, shows the clients' perception of value added of the overall service and/or the value added of each task in the delivery process.

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The first step: the recognition that partners need to understand process and process maps. The second step: to create and use the processes. Consulting firms and accounting firms already use process maps to improve realization and reduce the time invested in projects. Pricing professionals can help lawyers create the processes maps. In addition, as many of my clients have found out, project managers from inside the clients have the skill set to work within firms to create the process maps and show how to use them.

Creating a New Business Model

Re-framing the law firm business model: see Marc de Jong, Menno vanDijk, “Disrupting Beliefs: New Approach to Business Model Innovation,” McKinsey Quarterly. The article is paraphrased below for use in a law firm or a general counsel's office.

1. Outline the dominant business model in the profession. What are the long-held core beliefs about how to create value? For example, here are some basic beliefs of the current law firm business model.

a. Billing rate multiplied by the time invested equals value added. Such a belief promotes inefficiency (wasted time) and ineffectiveness (doing the wrong things). A great defense lawyer once said to his team: “We are not trying to build a Maginot Line here. The client can't afford that.”

b . Growth through mergers and acquisitions equals market share, profits, and sustained performance. A firm cannot acquire itself into greatness as we have seen from the Howrey and Dewey implosions. See, Business Insider, “Eight Most Crushing Law Firm Imposions.” The second fallacy with this belief is that to acquire market share a firm has to reduce rates or take risks and write-offs. That kills realization.

2. Dissect the most important long-held beliefs into their supporting notions. How do notions about customer needs and interactions, technology, regulation, business economies, and ways of operating underpin the core belief?

a . Client needs beliefs: 1) Only lawyers can interpret the law; and 2) clients need to come to the lawyer's office. We know that neither of those statements is true today.

b . Business economics beliefs: 1) Associate pay is cheap relative to the production and billing rates they can create. This is becoming more and more a fallacy as clients demand seasoned lawyers for their work; 2) Technology has changed the landscape from FedX and fax to e-mails, text messaging, big data, and IBM's Watson, and artificial intelligence.

c . Regulations continue to become more and more complex as the growing number of bureaucrats keep creating new ones to justify their existence.

3. Turn the underlying belief on its head. Formulate a radical new hypothesis, one that no one wants to believe ' at least no one currently in your firm. For example:

a. What if there were no para-legal and associate leverage? The primary leverage your firm has is your accumulated knowledge built by the firm and your access to global data bases.

b. What if the perception of clients to your value added had nothing to do with your work pace or your billing rates?

c. What if you can get specific tasks done in chunks by accessing a global workforce for small increments? By building process maps for various matters in the firm, you could identify chunks of work that could be performed faster and cheaper by an outside provider. A law firm in New York was able to develop a process map for IPOs that reduced investment of hours by 20%, reduced turn-around by three weeks, and increased realization to 120%.

4. Sanity-test your re-frame. Applying a re-frame that has already proved itself in another firm greatly enhances your prospects of hitting on something that makes business sense. For example, accounting firms went to a complex process to manage audits under a fixed-fee system and six sigma six.

a. In the 1980s, doctors had to go to specific procedures to accommodate the insurance companies. This created whole new processes for rendering medical care in order sustain and improve efficiency.

b. In the 1990s, CPAs had to develop process maps to determine what was critical and not critical in an audit in order to comply with client demands for fixed fees.

c. Law firms like Linklaters developed a way to perform complex financial offerings through a system called “Blue Flag” that reduced the turnaround time from more than three weeks to one day and eliminated the need for 20-plus lawyers per transaction.

d . If you are persistent, you can find such innovations in every practice area of the firm.

5. Translate the re-framed belief into your firm's new business model. Typically, once firms arrive at a re-frame, the new mechanism for creating value suggests itself ' a new way to interact with customers, organize your business model, leverage your resources and capture income.

Nine Steps for Creating and Sustaining Change

Do you want be reactive and lose the race to 2020 or be proactive and start the incremental changes now?

Step 1: Start your research on re-framing a future business model for your firm or counsel's office. List all of the old assumptions held by your current business model as they were outlined in the discussion of the Mc- Kinsey article mentioned above. Then list the implications that will be detrimental to your firm's future. Create a modified Pareto Chart listing the negative implications on the firm. The X axis on the implications chart represents the Impact of the coming tsunami on your firm and your clients on a scale of 0 to 10. The Y axis on the implications chart represents the probability that bad things will happen to the firm on a scale of 0 to 10. Any implication that gets a combined score (X times Y) of 160 should be on your watch list.

Step 2: Create a sense of urgency to show how long it will take to be fully functional in the world of 2020.

Step 3: Find a core coalition of leaders in the firm that see the urgency and want to start the incremental changes to a new business model.

Step 4: Have the core coalition create a vision of what the new business model should be and what incremental steps are required to get to that vision. These incremental steps are measurable and time-sensitive as in 1% changes in direction. Use the Pareto Chart again to identify what steps will move the firm forward toward the vision with the most impact and the highest probability of success.

Step 5 : Communication with the core coalition and the clients involved will be critical. Keep the team and the rest of leadership in the loop so progress can be shown.

Step 6: Remove the petty barriers. Blue Flag was only created by taking some lawyers offline for almost two years. One major firm has been working at the changes mentioned above for over 10 years, starting first with the development of model process maps.

Step 7: Divide up the progress steps into incremental objectives to realize short-term wins.

Step 8: Have no victory celebrations. This is a long-term process with a series of short-term wins. Keep improving the model.

Step 9: Anchor the concepts into the fabric of the firm. Once the model works in one area of practice and financial objectives can be demonstrated, have other groups submit proposals to go through the process with the support and consultation of the core coalition.

Conclusion

The next four to six years will be critical for law firms regardless of size. We know the Tsunami is coming because there are too many recent events that point to a general trend. Once a trend is established, a new era will begin for law firms. If not prepared, law firms will find that they will go the way of the guilds of the 1800s as processes and artificial intelligence take over the analysis and production effort.

William C. Cobb is the managing partner of Cobb Consulting (WCCI, Inc.), based in Houston. He has been a consultant in strategic issues affecting law firms and general counsel since 1978. Reach him at [email protected].