BigLaw v NewLaw: The economic viability of the traditional legal business model

By Mira Stammers

As we are all aware, the legal profession is undergoing a paradigm shift, a shift that is likely to transform the profession significantly. A combination of factors, such as market forces, regulatory liberalisation and technology have all played a transformative role, leaving lawyers panicked and confused about how best to respond.

Until recently, most firms incorrectly assumed that the pressure they were feeling stemmed from a pricing issue.  Many thought that clients had simply become more commercially savvy and cost conscious, thus placing a downward pressure on pricing.  In response, firms scrambled to review their pricing methodologies, only to be left confused about how to ensure profitability whilst moving away from hourly rates.

Over time, we have come to realise that what is broken is not just the pricing methodology; indeed, it may be the entire business model upon which most traditional firms sit.

 

What is a business model?

A business model, put simply, is essentially about how a business generates revenue and makes a profit from its operations.  Gross profit is determined by subtracting operational costs from revenues.  The gross profit metric is then used to compare the efficiency and effectiveness of the business model.

Whether or not gross profit is the most important metric in any business model is questionable, but for now let us rely on this assumption.

What do traditional legal business models look like?

Traditional legal business models usually encompass some, if not all, of the following:

  • Structured as a partnership
  • Charge tiered hourly rates according to seniority
  • Focused on bespoke and technically excellent work
  • Attract and retain top legal talent
  • Leverage full-time technically excellent lawyers to do the bulk of the work servicing the clients
  • Create billable hour targets for lawyers
  • Create competition amongst the lawyers to motivate lawyers to become equity partners
  • Restrict the number of equity partners
  • Marketing efforts focused on traditional networking and referrals

These traditional legal business models are commonly known as BigLaw business models[1].

BigLaw models make a profit by setting the hourly rate at a rate that exceeds the labour/operational costs of the firm.  This is somewhat easy to do as the operational costs of the business are, for the most part, fixed and therefore easy to estimate.  However, given this, the rate is somewhat arbitrary in most instances.  It is simply set at a rate to ensure profitability.

Accordingly, to increase profitability under a BigLaw model, the firm must either bill more hours or increase their hourly rates.  Given that rates need to remain competitive, lawyers are pressured to meet or exceed billable targets.

Another major flaw with a traditional business model that utilises the hourly rate pricing methodology is that when client demand is low, firms must reduce rates or offer discounts in order to compete.  This then decreases profitability and equity partners may be incentivised to move elsewhere.

What are the main problems with traditional BigLaw business models?

There has been much commentary on the pitfalls of BigLaw business models, but in short, here are some things to think about:

  • They are inherently lawyer (not client) focused – have we asked clients whether we are giving them what they want?
  • Hourly rates promote inefficiency, which creates a potential conflict of interest – why would lawyers work faster or use technology when they are paid more for taking their time?
  • Hourly rates mean the risk is not evenly balanced – the risk is placed wholly on the client
  • Hourly rates measure inputs, not outputs – clients are interested in outputs
  • There is a strong perception of elitism – hierarchies and fancy offices don’t help
  • They create issues of affordability for most clients – which in turn increases the ‘justice gap’
  • There is a lack of transparency / accessibility for the client – what about affordable online services?
  • Lawyer burnout/depression increases with the increased pressure to meet billable targets
  • Equity partners pocket the profit and aren’t invested (at least financially) in changing the business model – why would they risk losing money when they have worked so hard?
  • Marketing efforts are traditional and aren’t reaching large segments of clients – not to mention how often written marketing material/blogs are written in legal jargon

What is the question we need to be asking?

Fundamentally, the question we should be asking is whether a good business model is one that is wholly focused on gross profit.  In this writer’s opinion, the answer is no.

More progressive business models ensure that there is also a focus on how the business creates, delivers and captures value.

Most BigLaw firms understand that they must respond to the market pressure they are experiencing.  Unfortunately, for the most part, the response has been solely a reaction to the pressure on pricing. We know that there are significant problems with traditional ‘hourly rates’. We also know that most clients would be delighted to be offered alternative fee structures.  However, this is not the only change that clients seem to be demanding.  From my experience, clients want tailored, accessible legal services at prices that bear a reasonable relationship to the perceived value, all delivered in a timely manner, and containing as little legal jargon as possible.

If we assume that the BigLaw business model is broken, then the alternative must lie in a new form of business model.  The antithesis of a BigLaw business model is what is known as a NewLaw business model.

There are many definitions of NewLaw, a term coined in 2013 by consultant Eric Chin.  Most commonly, it is described as a flexible alternative to BigLaw.  Jordan Furlong, a legal market analyst and consultant, described NewLaw as:

‘Any model, process, or tool that represents a significantly different approach to the creation or provision of legal services than what the legal profession traditionally has employed’[2]

Although the term ‘NewLaw’ was only coined in 2013, forms of NewLaw actually emerged in the 90’s when document automation began.  Since then, many firms have used the definition as a basis for creating NewLaw firms or technology companies operating under Newlaw business models.  Examples in Australia include Legal Vision, LawPath and Your Law Firm.  Examples in the US include Rocket Lawyer, Legal Zoom and Avvo.

Importantly, whether a firm or legal services provider is operating under a BigLaw or NewLaw business model has absolutely nothing to do with its size.

Why are we experiencing such change now?

There is significant debate about why NewLaw is increasing in prominence.  However, the following three key drivers are apparent:

Clients demand more-for-less

  • Traditional legal services are unaffordable for most, but this makes little sense as the majority of legal work does not need to be bespoke. NewLaw models recognise this and have systemetised, packaged and commoditised some forms of legal work in response.  Combined with technology, these services become scalable and therefore affordable.
  • In-house lawyers are increasingly under pressure to reduce external legal spend.
  • Consumers and small business owners need and want legal help, but due to pricing pressure they often go without, so there is an incentive for Newlaw firms to capture that market by increasing affordability and access to legal services (virtual services/fixed fees etc)

Liberalisation

  • Lawyers and law firms are heavily regulated. Certain types of legal work can only be provided by qualified lawyers in an effort to ensure certain standards and protections for consumers. Some argue that this creates exclusive communities of legal specialists, which in turn reduces choice for consumers and ensures the legal profession maintains a monopoly over legal services with anti-competitive practices.
  • Many have campaigned for a relaxation of the laws and regulations regarding who can offer legal services and/or run a legal services business. This led to the introduction of Alternative Business Structures in Australia and in some other jurisdictions around the world (non-lawyer owners/outside investment/sharing of profits). These structures are perfect for NewLaw business models that intend to utilise technology.

Technology

  • Technology has disrupted most markets around the world (think Netflix, Google, iPhones). The legal profession is no longer immune to technological disruption.
  • The appropriate use of technology can reduce a lot of the monotonous legal work and can ultimately change the way lawyers practise law (e.g., online templates, live chat, AI in real time chat).
  • Global competition (online/LPOs)

How can BigLaw firms respond?

The answer to this question is not simple, and is the topic of much debate.  What is increasingly clear is that in order to maintain market share, BigLaw firms will need to be more:

  • Client-centric
  • Efficient (perhaps with the use of technology or outsourcing)
  • Agile

They may choose to:

  • Run two business models internally
  • Invest in legal start-ups
  • Offer commoditised online services as part of their product offering
  • Change their pricing model
  • Outsource their talent in down times

Last but not least, they may choose to invest in technology and change their business model.

Whatever BigLaw firms do, however they respond, they must respond, and respond quickly.

 

Opportunities to innovate and create new business models to deliver value are abundant.  For more information on this topic, see our new masters subject Contemporary Issues in the Legal Profession or contact Mira Stammers on m.stammers@latrobe.edu.au

Mira Stammers is a lawyer and a legal entrepreneur. In 2013 Mira founded Legally Yours, an online legal marketplace connecting clients to virtual, fixed-fee lawyers. Legally Yours was launched in an effort to make legal services more accessible, transparent and affordable for all Australians. She was a finalist in the 2015 Women in Law Awards in the category of Thought Leader of the Year.  Mira writes and speaks on all areas of NewLaw and Legal Entrepreneurship, and is due to publish her book The Modern Lawyer in late 2017.

 

[1] George Beaton, Last Days of the BigLaw Business Model? (6 September 2013) Beaton Capital

< http://www.beatoncapital.com/2013/09/last-days-biglaw-business-model/>

 

[2] Jordan Furlong and Sean Larkan, A Brief Inventory of NewLaw in Australia (25 August 2014) Australian legal Practice Management Association [3]

http://www.alpma.com.au/a-survival-guide-for-legal-practice-managers/inventory-of-new-law-in-Australia

 

La Trobe Academic