124-Industry Contraction Exposes Potential Low Price Points
The legal industry is suffering just like the rest of us in this economy. Interestingly, not all legal firms are suffering. The firms that are suffering the most are the large firms, who have done well for many years. These firms typically bill their large clients between $700 and $800 an hour for legal work. They have more than 200 lawyers in the firm. The next tier down sees law firms with 200 or fewer lawyers. These firms typically bill clients between $200 and $500 an hour for work done by their senior partners. Overall, the smaller firms seem to be about 25% cheaper than their larger cousins. These smaller firms are actually growing in this economy. While their larger brethren are laying off lawyers, the small to medium sized firms are hiring today. (See Video #6: Competition and Low-Cost Expansion on StrategyStreet.com.)
These firms are hiring because many of the large clients for corporate legal work are shifting some of the work that they used to give to the larger, more expensive law firms, to these smaller firms. These clients have discovered that they have more than one type of legal need. And, at least in some cases, the legal need is for less skill and cost than the capabilities offered by the largest law firms.
Clearly, the larger law firms are having trouble adjusting their pricing to meet these cheaper legal competitors. It appears they could do so, at least in part, by acknowledging that there is more than one price point for legal work. (See Video #21: Definition of Price Leaders on StrategyStreet.com.) These larger firms might offer less senior staff at lower costs for projects that would be satisfactorily serviced with less experienced employees. They could create a lower price point that would enable the larger law firms to reduce the loss of business to the smaller firms.
The large clients for the larger firms will always need the larger firms for the most sophisticated transactions. But, in these straitened times, these clients have to reduce their spending. If the large law firms allow them to reduce this spending by shifting work to smaller firms, they are losing an opportunity to preserve their revenues. These revenues can go a long way toward covering the cash fixed costs that all law firms face. (See Video #56: Design to Value as an Approach to Cost Management on StrategyStreet.com.)
The legal industry is highly fragmented in comparison to other professional services sectors. For example, the big four accounting firms billed a total of $157 billion in fees in 2020. The four largest law firms billed a total of $15 billion in that year and the entire top 200 billed a total of $125 billion. It is difficult for the industry to consolidate because of ethical considerations and client conflicts.
Demand for legal services continues to grow, as do the number of lawyers. Unfortunately, productivity has yet to follow. In 2011, a large sample of lawyers’ billing found that the average lawyer was billing 126 hours per month. By 2019, that number had dropped to 122.
In recent years the legal industry has been gradually shifting some of its work to technology to reduce human involvement and improve productivity. The legal industry has been successful in introducing services for clients that enable them to the get legal services through technology without any additional lawyer involvement. One legal analyst outlined some of these services introduced by large US and European law firms, including:
- Software that provides regulatory gap analyses in data and privacy risk areas.
- Client-facing claims management systems and loss prevention tools.
- An online dashboard that lets corporations navigate the financial regulatory landscape.
- Artificial intelligence systems for e-discovery, cybersecurity, and contract and document review.
- Machine-learning systems for document review during merger and acquisition transactions; and
- Tools that calculate potential client damages in class actions and identify litigation risks.
These are all software and technology tools that effectively leverage the legal capability of the law firm at relatively low costs for the client. They reduce the number of activities (we call these Intermediate Cost Drivers, ICDs) in the legal cost process. See HERE for examples of this concept.
These new services help large law firms in their competition with smaller firms in two ways. First, the services leverage the natural economies of scale of the large firms. They have far more revenues over which to write off the fixed costs of developing these services than do smaller firms. The smaller firms are unlikely to be able to develop these services as cost-effectively as can the larger firms. Second, they reduce the total cost of the relationship between the large firm and its large client. This cost reduction narrows the pricing advantage the small firm might have in serving the large client. The large firms have successfully introduced these low end Price Leader products in response to pressures both from clients and from smaller competitors.
The legal industry has debated using nonlawyers for some of the work now done by lawyers. That debate has gone on for years. However, productivity still lags. The legal industry avoids significant suffering despite falling productivity because demand seems to grow perpetually.
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