Starting a new firm is daunting. Many lawyers focus on their expenses, and are pleasantly surprised that the overhead and other necessary expenses are less than they expected. But the real difficulty arises on the other side of the ledger because accurately projecting income can be so elusive.
If you’re starting with guaranteed clients, then making projections is easier. But otherwise, you really can’t project your income unless you know the extent to which your business plan in general (and your business development plan in particular) will succeed.
Even if you can accurately project how much potential business you will have, it’s still easy to slip by overestimating your expected income…
First, of all your waking hours, how many of them will you actually spend working? You need to realistically consider all your non-work priorities and obligations. It’s easy to pull out a calculator and start with the assumption of working eight hours per day, and start doing the math. That exercise can be dangerously misleading. Among other things, you need to think hard about whether, over the course of a year, you really average working eight hours per day, or whether the average is closer to seven… or maybe five….
Account for the vacation you will take. And sick days. And personal, discretionary days. Remember that, as owner, your number of days off is likely to skyrocket. After all, you are taking a risk with your firm, and working so hard, you deserve to enjoy the fruits of your labor. Often, one of the perceived advantages of running your own firm is the luxury of having more time to spend on non-work priorities, to perhaps enjoy longer lunches, etc. That’s perfectly appropriate, but you do need to account for it when crunching the numbers of starting a firm.
Next, of all your working hours, how many of them will you spend doing billable work? Here, too, I think it is easy to overestimate. You likely will spend more time on business development — writ large, including socializing and networking — than you were expecting. Making pitches or otherwise soliciting work can eat up more time than you might expect.
Also, the administrative tasks involved with running even a small firm are significant and time-consuming. A lot of people I know who started solo practices or boutiques began with especially light administrative help, either out of necessity or frugality. This might (or might not) be a good idea, but regardless you need to realistically consider how much of your time will be spent on administrative tasks or anything else that isn’t billable work.
Next you need to consider how much of what you bill you will actually collect. Again, the tendency is to overestimate. Especially when you are starting out, you are tempted to take on sub-par clients and, consequently, are likely to end up spending more-than-expected time working for free.
Only after you realistically discount your projections in all these ways can you factor in your expenses and arrive at your estimated profit.
Each of these discounting stages can be expressed in terms of a ratio: total hours available to number of hours worked; hours worked to the number of hours billed; number of hours billed to the total fees collected; and total fees collected to expenses. The ratios are affected by a number of factors, so every person and firm will have different ratios at every stage.
The different stages also interrelate. For example, at some point, spending less time working might make you more focused and less distracted when working. You might find that if you lessen your overall working hours you actually improve your ratio of working hours to work billed.
For another example, you might find that incurring additional overhead expenses worsens your income to profit ratio, but improves your working hours to billable hours ratio. Hiring an administrative assistant may decrease your profit margin but free you up to generate business that you wouldn’t otherwise have, leading to more available billable hours. Hiring a bookkeeper costs money, but if doing so increases your billable hours by any significant amount then the hire is generally going to be worth the investment.
Firms that have low overhead, or otherwise have an overall favorable efficiency ratio in all these stages collectively, are able to charge lower rates to clients. Many small firms trumpet their low overhead as a way of explaining to their clients how they are able to offer such competitive rates if the quality of the service is truly comparable.
The caveat about “quality of service” is important and again interrelates with the various stages. If you work too little, or even too much, your quality of work can suffer. If you spend too little time on admin your quality of work can suffer. For example, without careful calendaring you might miss important deadlines; without proper filing you might misplace important papers. If you do not have sufficient administrative support, the overall quality of your services can suffer in innumerable ways.
Beyond thinking of their “efficiency” in terms of the stages above, lawyers starting a new practice should think about efficiency in terms of how long it takes to perform a task or accomplish a result relative to how long it would take another attorney of comparable skill. Attorneys leaving Biglaw might be surprised to find that work simply takes longer to complete when they no longer have the infrastructure they are accustomed to.
On the other hand, some attorneys are able to greatly improve their efficiency when they move from Biglaw to boutique. My firm, for example, strives to be “efficient” in terms of trying to generate superior work product while billing our clients for fewer hours than our competition bills to perform comparable work. Clients clearly understand the value of a firm billing fewer hours for a given task (again, provided the quality and/or results meet expectations). That’s one reason we try to have our invoices not only show where does the time go, but also reflect our efficiency and demonstrate value.
Attorneys billing by the hour might worry that completing tasks more quickly means lower revenues. But that is misguided and short-sighted. In the long run, providing billable services more efficiently than your competition can only be good for you. Rather than worry about short term lost billable hours, remember the prospect of getting repeat business and referrals from duly impressed clients, colleagues, and adversaries.
Tom Wallerstein lives in San Francisco and is a partner with Colt Wallerstein LLP, a Silicon Valley litigation boutique. The firm’s practice focuses on high tech trade secret, employment, and general complex-commercial litigation. He can be reached at firstname.lastname@example.org.