Can Your Firm Afford You? How Profitability Helps Associates Keep Their Jobs

Reprinted from:

june 2004

Today's law firm associates have been accused of having an "entitlement mentality." They believe that a solid education, graduation from a good law school near the top of their class, and passage of the jurisdiction's Bar exam entitles them to a job at a major law firm with a high compensation package (today approximating $150,000).

The management of major law firms, however, are on the other side of the bargaining table, and they are upset with this entitlement mentality. Management is now unsure about how to achieve the greatest production from the new associates for the money being invested. On top of that, law firms are also feeling the pressure from clients to give more value for the charges of thier legal services delivered. In other words, law firm management is being squeezed from both ends.

Every law firm—even the large ones—must provide value to their clients, and they must be profitable in order to open their doors the following day. While the new, high-priced associates may not earn more than they cost the firm in the beginning, at some point, that situation must change. In fact, large-firm managing partners agree that it takes, on average, from three to five years to break-even on the investment in a new lawyer.

The central question for law firm associates, then, is: What does your financial formula look like? How can you determine your own Profit and Loss Statement (P & L) in order to place yourself in the best possible position with your firm? In order to create your own P & L, you may want to look at either the cash flow statement featured in "The Profitable Law Office Handbook: Attorneys' Guide to Successful Business Planning" (available at www.lawbiz.com) or any college accounting textbook.

To create your own P & L, you will need to plug in the right numbers, and the first piece of information required is your billable hours. How many hours did you record for the month? This data should be easily within your grasp. Then you will need to find out how many hours did the firm bill out for you? In other words, was there a mark-down or write-off for some of your work? Did the firm consider some of your work as a part of its investment in your learning curve? You may have to ask for this information.

Alternatively, you may have to estimate the percentage of write-offs the firm will take on your work.

Now comes the harder part. You need to find out what the other side of the equation is, which means the expenses that are attributable to you. They include: the cost of your compensation package (gross salary, profit sharing/pension plan contributions, etc.), the cost of your secretary, the cost of the physical space that you occupy, and other expenses that can be called "direct expenses." In addition, you need to estimate the amount of office overhead, by percentage, that you account for. Overhead includes rent, insurance, utilities, entertainment, education, to name just a few. (In earlier days, you could simply use a figure of one-third of gross revenue, or in an individual associate's case, his or her billings. Today, it's easier to simply ask someone in the accounting department for the firm's overhead percentage.)

Armed with the above information, you can now come up with a personal financial formula that would look like this:

Billings – [Your Total Compensation + Direct and Indirect Expenses] = Net Profit

The Net is the profit available resulting from your effort. This is the bottom line in determining your value to the firm.

The associate's responsibility is to do the work assigned in the most effective and efficient way possible, and in the shortest amount of time. Fulfilling this responsibility in a way that produces net profits for the firm is a near-guarantee to keeping your job and, hopefully, rising in the ranks to partner.