Practice Management

Partner Cost And Client Profitability, (Part III)

By Ron Paquette

This is the third in a series on partner compensation and client profitability written by Ron Paquette, consultant with Redwood Analytics, now part of LexisNexis.  The first article, titled Client Profitability: What Is The Cost Of Partner Time?, was an introduction to the concept of allocating partner cost in calculating client profitability.  The second article, titled Partner Cost And Client Profitability, (Part II), is focused on pitfalls of some firms' methodology in allocating costs to partners.  This article is focused on basing a partner's direct cost on a "minimum margin percentage".

 When it comes to allocating partner direct costs (compensation) to a client the answer, unfortunately, is not a simple one.  After exploring options with various law firm leaders at a number of firms, we heard consensus on one key point — that “it depends.”   “Depends on what?” you might ask. Well, it depends on the current state of affairs of the firm, the long and short term goals of the firm, the relative level of partner compensation, and maybe most importantly, how the firm thinks about client profitability. As a result, we have developed a handful of options to address the analytic needs while considering firm goals and philosophy. In my next several entries, I’ll explain some of those options, and their pros and cons. Today’s option is basing a partner’s direct cost on a minimum margin percentage for each partner.

• It ensures that every partner has a positive margin associated with his/her hours when valued at standard rate. While one may purposely choose to lose money on specific matters through discounting, there should be margin on every hour of time when valued at published rate.
• It is simple. Firm leaders need only to decide on one variable that can be based on firm analytics and margins for other titles (e.g. income partners or senior associates).
• It is based on the partner’s published rate. While total compensation can rise and fall with firm profits, this relative cost will not fluctuate and this method is in line with thinking about compensation for a partner’s work effort.
• The most highly compensated partners will be forced to the minimum margin ensuring they appear less profitable than junior partners, therefore supporting a leverage model.

• A firm will need to decide on the minimum margin percentage. While strong arguments can be made for a certain threshold, there still may be dissenters. 
• For those who have the minimum margin %, the only profitability differentiator relative to how they  affect client profitability is the realization on the hours worked. If too many partners are at the minimum, there is virtually no difference in leverage within the partner ranks.

Related posts

• Partner Cost and Client Profitability (Part II)
• Client Profitability: What Is The Cost Of Partner Time?
• Return on Partner Effort
• Measuring Your Law Firm's Billing Cycle
• Law Firm Business Model: Margin

Full post as published by More Partner Income on May 13, 2008 (boomark / email).