Law firm business models
Traditional business models versus new business models
The traditional law firm business model, at its core, is built on the concept of selling time or the dreaded “billable hour.” Until recently, the practice of law was largely uncontested and clients quietly acquiesced to paying lawyer invoices billed by the hour. However, recent developments in technology, a tightening market, educated customers and empowered workforce are putting pressure on the traditional law firm and demonstrating the need for a change.
The legal profession to date has been risk averse and conservative when dealing with change (CBA, 2017). Clients are now demanding value for the fees they pay, and are no longer willing to pay based solely on time spent (Georgetown law, 2016). These changes bring significant opportunities for law firms willing to innovate (CBA, 2017). These changes have also brought about questions regarding ethical and regulatory issues in this traditional and regulated profession (Flip, 2017).
The International Business Association report (Esteban & Klotz, 2017) identifies a variety of drivers for change in law firm business models including client demands, challenges to the partnership model, new models of working, increased competition and development of legal technology and innovation. Clients are also looking for integrated, business solutions, rather than siloed legal advice (Deloitte, 2016). According to Deloitte’s survey (2016), 52% of clients can imagine a future where they would be happy to buy their legal services from non-traditional law firm entities.
Although drivers for change are present, partner performance remuneration models are still based on traditional methods, such as billable hours, in addition to fee income, profitability and referral of work (PWC, 2017). Although there have been signs of change in law firms in terms of adoption of technology and innovation, there has not yet been any significant change in the core business model of law firms.
Client demands on law firms are changing as their sophistication and buying power increases, for example, clients are expressing dissatisfaction with the billable hour and demand alternative fee structures and increased use of technology (Esteban et al, 2017). Until recently, in-house legal teams did not want procurement involved in sourcing of legal service providers (Bloomberg, 2017). Due to pressure on in-house legal teams to reduce spend and demonstrate value, legal counsel no longer select law firms solely on long-standing relationships, and have increased the requirements of legal service providers they use (Bloomberg, 2017).
Employee demands for a more flexible lifestyle, including contract and virtual work are also putting pressure on the traditional law firm business model (Esteban et al, 2017). Change in law firm business models can also improve personal wellbeing of its lawyers who are currently pressured to work long hours in order to meet their performance requirements (Flip, 2017). Flexible work arrangements could also enhance diversity, for example, extended retention of senior women lawyers (Flip, 2017).
In addition, law firms are seeing increased competition from new unregulated entrants to the market leveraging technology and alternate business models, as well as the big four auditing firms entering into the legal services market (Esteban et al, 2017). The advancement in legal technology and innovation gives law firms the tools to potentially leverage opportunities to transform existing traditional business models into newer, innovative business models. According to the Time for Change survey by PwC (2017), technology has the potential to have the biggest impact for change in law firms as it will impact all aspects of a law firm.
Performance in traditional law firms is stagnating, and law firms need to take action now to future-proof themselves (PWC, 2017). Challenges facing law firms in the UK market include clients’ demands, threat from US firms, new entrants and new technologies (PWC, 2017).
Digital advancement in law firms
In its Future of Legal Services report (2016), the Law Society of England and Wales cites technological and process innovation as one of five drivers of change in the legal services market. According to the Flip report (2017), changing cultures, consumer pressure and lower prices are driving increased use of legal technology.
Rajah (2017) states that although technology will not replace lawyers, it “will change the way lawyers work” and eventually those who do not adopt technology “will fall behind and lose out”.
Some of the key trends and digital advancements identified for 2017 for law firms are practice management software (Clio, 2017), e-discovery (Kane, 2017), social media (Kane, 2017), legal processing outsourcing (Seeger & Clay, 2017), and alternate business structures (Seeger et al, 2017).
As we approach the next five years, some of the key future legal technology trends that will play a significant role in shaping the future of law include automation (George, 2016), cloud computing (George, 2016), big data analytics (Rajah, 2017), artificial intelligence (Hyde, 2016) and technology focused legal professionals ((Flip, 2017). Although law firms have made some progress with traditional technologies, adoption is low with newer emerging technologies such as artificial intelligence, predictive analytics and smart contracting, although 80% of the top 10 law firms are piloting artificial intelligence solutions (PWC, 2017).
Leveraging digital opportunities in law firms According to the Law Firms in Transition: 2017 Trends survey, 84% of respondents remarked that technology replacing human resources is a permanent trend (Seeger et al, 2017). Although this seems like a high response, few in the industry are actively implementing solutions or taking steps to prevent themselves from being “replaced” or disrupted. The current state of the legal industry is a classic example of the “innovator’s dilemma” coined by Clay Christensen, Harvard Business School professor (Ovbiagele, 2017). According to the theory, it is the incumbents’ own success that makes them slow to adopt change, and once they realise drastic innovative change is required, it is already too late and they have lost valuable market share to new entrants seizing the opportunity to disrupt the status quo (Ovbiagele, 2017).
Although it may appear obvious to some that radical innovation and change is required, there are also systemic barriers to change that prevent law firms from adopting true digital advancement and disruption. These include the business model of selling time (the billable hour) (Georgetown Law, 2016). In order to increase profits, law firms have historically increased hourly rates at very high percentages year-on-year (since there are only 24 fixed hours in a day!) and are now facing push back from clients who are no longer willing to pay these exorbitant fees (Georgetown Law, 2016).
In addition, key strategic decisions about the law firm business are made by partners in the law firm who also share in the profits of the business and are likely those who have excelled at billing hours – therefore the incentive or drive to invest in change is low (Georgetown Law, 2016). Other barriers include relatively high cost of adoption (which could be prohibitive for small to medium size law firms which may be more incentivized to implementchange), lack of awareness by decision makers as well as a lack of urgency (given that they are largely still successful operating under the traditional business model) (Rajah, 2017).
Law firms willing to move forward could leverage opportunities brought about by digital advancements in these four broad categories:
To gain competitive advantage
To improve productivity and performance
To enable new ways of managing and organising
To develop new business (Altameen, Aldrees, & Alsaeed, 2014, pg. 1)
For example, if law firms looked at cost per unit versus revenue per unit in a similar manner to software and publishing companies, the potential cost savings would be more evident:
According to the table below, it is clear that law firm revenue is tied directly the cost of production. This means that law firm revenue is limited by the number of hours that humans are capable of producing. Comparatively, software and publishing companies reduce their cost over time, and increase profits as volumes increase. It is also arguable that the revenue per unit may also increase exponentially over time as more products are sold, while costs continue to decrease.
(Neota Logic, 2014).
It will be interesting to see whether the legal industry, especially long-standing successful incumbents, are able to recognize current and future looking digital advancements and technological trends in their industry, and act on those insights before it’s too late. Larger law firms have powerful strategic advantages given their established brands, international networks, client relationships and talented workforce (PWC, 2017). The winning law firms will be those who use these strategic advantages to adapt and respond to change (PWC, 2017).
Core themes that law firms need to focus on in order to reinvent their business models include focusing on the client, leveraging lawyers, re-engineering processes and innovate to differentiate (Talwar, 2014). Law firms have to decide whether they will become “business innovators” (leaders in technology which have transformed through effective use of IT), “survivors” (little change in business model, loss in market share, and remain in few key areas), “seat warmers” (law firms that understand the potential but do not have an effective strategy or IT team to deliver and leverage digital opportunities presented) or “frustrated superheros” (the law firm has a highly capable resources or IT team but lacks the buy-in of senior management and leadership to evolve) (Talware, 2014).
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About the Author Nerushka Bowan is an emerging technology law specialist, legal technology innovator and speaker. She has a background as a technology & privacy lawyer for an international law firm. She is involved in the awareness and upskilling of lawyers about the future of law. She is also a consultant trainer at the Blockchain Academy and a co-chair of the Johannesburg chapter of the International Association of Privacy Professionals. She regularly speaks to corporates and at events, publishes blogs and articles, and is regularly interviewed and quoted in media on various technology-related topics. She was recently listed on CryptoCoin. News as one of 20 African women to watch in Blockchain and Crypto. Nerushka uses her unique experience and forward looking mindset to identify future risks and ask the legal and ethical questions brought about by emerging technology and packages these topics into stimulating and thought-provoking workshops and presentations.