“Show Me the Math”: The Importance of Cost Estimates in the New Legal Marketplace

Topics: Billing & Pricing, Business Development & Marketing Blog Posts, Client Relations, Data Analytics, Efficiency, Law Firm Profitability, Law Firms, Legal Innovation, Legal Managed Services, Midsize Law Firms Blog Posts, Practice Engineering, Process Management

alternative fee arrangements

Gone are the days when a law firm would provide their corporate client with a cost estimate for a matter that was based solely on subjective “gut feelings” and nothing more.

In my 20 years of legal operations experience, I have heard many partners at many firms say such things as “Business people are not lawyers, so they don’t understand the nuances of the law and how we price our work;” or that clients “don’t have our (legal) intuitive experience;” or “the legal work is bespoke, complicated and has too many variables to put into a cost estimate.” Clients today, however, are extremely sophisticated, data savvy, and fiscally prudent. They are the drivers in the new legal marketplace (i.e., post-Great Recession) that are increasingly looking to law firms for objective and analytical cost estimates that are well thought out and supported by an understanding of what the client wants.

Excellent legal advice and efficient service delivery are atop many clients’ list of requirements when engaging a law firm, but so is transparency when it comes to how a firm prices its legal services. Clients are requiring that law firms’ cost estimates should not be based on any subjective, visceral, or “gut feelings,” but instead on real empirical data.

Show Me the Math

“Show me the math” has become the mantra for many clients that are demanding transparency around law firm pricing. Clients understand that some of the legal work may be complicated and require a special skill set; but much of it is highly transactional, commoditized, and therefore driven by data and analytics. Consequently, cost estimates are increasing in popularity and complexity because many clients are looking for better ways to manage, control, and forecast their external legal costs against internal budget requirements.

The economic pressures to control or reduce legal spend, generate cost savings, and create operational efficiencies that many clients face are not abating anytime soon. More and more corporate legal departments are focusing greater attention and efforts on their legal service providers. Consequently, law firms are having to respond to not only the economic pressures from their clients, but also from within their own firm amid all the challenges that come with having to maintain (or grow) market share and profitability in a hyper-competitive legal marketplace.

The economic rationalization and efficiency practices that have gripped many different companies around the globe certainly have made their way to the legal marketplace, forcing many large law firms to increasingly look inwards at their cost structures, business processes, and operations in order to better reduce expenses and protect profits. Clients expect that because firms today are increasingly having to work smarter and more efficiently, those efforts should translate into more affordable legal services and that those savings should show up in the cost estimates that the firms put forward.

Excellent legal advice and efficient service delivery are atop many clients’ list of requirements when engaging a firm, but so is transparency when it comes to how a firm prices its legal services.

Sophisticated legal departments with mature legal operations teams find themselves empowered by a plethora of legal billing and matter management data that is now at their fingertips. Cost estimates today, at least the good ones, are almost always created in large part by legal ops professionals who possess specialized legal project management, accounting, and business expertise. Consequently, it is increasingly becoming the legal ops pros (at both the law firm and in-house legal departments) and not the lawyers that hold the pen when cost estimates are being developed or negotiated. Legal ops folks are focused (objectively) on the business of law, instead of on the law itself, and these professionals bring tremendous value to any cost exercise or price negotiation.

Efficiency practices — such as a focus on legal effectiveness and the utilization of data and metrics — have empowered many clients in how they source and manage external legal spend. They have increasingly been attracted to those law firms that have embraced business optimization and efficiency strategies and have welcome opportunities with clients to discuss alternative and value-based billing arrangements beyond simple hourly rates. I believe that those firms which can deliver transparent value through transparent pricing are the most attractive to clients.

In the past, unsuspecting clients were happy when their law firms would offer up discounts on hourly rates, or cap a matter with a fixed fee. However, buyers of legal services today are much more market savvy. They recognize that cost estimates supported by hourly rates discounted from commercial (street) rates, even though they look pleasing, may not be what they seem.

Understanding the Client

The true value of a good cost estimate offers clients a precise understanding of what it is that the firm will be delivering (communication strategy, defined scope-minus any ambiguity), how and when it will be delivered (staffing ratio, pricing for variances and assumptions, defined timelines) and finally, the economic cost of the work product. Some clients will go so far as to want to understand how the firm will leverage existing work to save the client money (i.e., efficiency ratio).

Perhaps the only component of the cost estimate that is not quantifiable, yet critically important, is that every cost estimate must be backed up by an assurance and commitment from the law firm to honor the cost estimate proposal. It’s a simple principle, yet many firms struggle with it. It may take months for a firm to win over a new client, but only minutes to lose them if a client’s confidence in a firm is undermined by a firm’s excuse or surprise that ends up derailing a mutually agreed-upon cost estimate. In today’s competitive market, the phrases “no excuses” and “no surprises” should become an integral truism by which firms service their clients.

The expectations that many institutional clients have set out in regard to legal service delivery are extremely high and something which many traditional law firms have struggled with for years. Firms need to understand that everything they present in a cost estimate may at some point be scrutinized and require validation.

Finally, if done correctly, a well-defined cost estimate can provide clients with greater visibility and transparency into validating the analysis that is used by a law firm to price its legal services. Greater transparency leads to greater comfort for the client and an assurance that the firm is acting in the client’s best interest. Transparency also ensures that the client understands the value proposition of the cost estimate as it relates to the success of the matter.

Those law firms that cannot demonstrate how they have objectively determined their cost estimate (and potential cost savings for the client) will be at a competitive disadvantage and increasingly challenged to find new clients — as existing clients may have moved onto more competitively priced and efficient firms.