ALMJ
Have the fundamentals really changed since Maister?
Amid predictions that Generative AI could challenge billing models for law firms, Joel Barolsky suggests that reports of the death of the billable hour may have been exaggerated.
In short:
- This article suggests that David Maister’s five levers related to profit equation continue to be highly relevant today.
- Firms are still working out how to capture value from Gen AI and recover their investments in the new technology.
- Time-based billing is still the fairest way for buyers and sellers to transact when the scope of a matter is unclear.
In the opening scene of the 1968 movie, The Party, Hrundi V. Bakshi (Peter Sellers) plays the role of an army bugle player who refuses to die, despite being hit by hundreds of bullets.
It reminds me that former Harvard Business School professor David Maister’s profit equation has been shot at, bombed and ridiculed, but it, too, seems to refuse to die. To my knowledge, the vast majority of Australian law firms still have the Maister profit levers as the foundation of their performance-management system. These five profit levers are leverage, utilisation, blended billing rate, total expenses, and equity on issue.
The attacks on Maister centre on three main arguments:
- the equation is based on inputs (selling time) and not client results, or perceived value. Most specifically, it incentivises inefficiency – the more time taken and resources used to deliver a matter, the more the client is charged. Also, the firm misses out when highly valuable advice is delivered quickly.
- some levers have a natural limit and, therefore, place an artificial cap on profitability (e.g. most clocks go back to 0 at the 24-hour mark).
- making every lawyer record all their time in 6-minute increments is dehumanising and is anathema to how you might best lead and motivate skilled professionals.
The anti-Maister movement, led by people like Ron Baker, has tried their darndest to kill the billable hour. They argue that a better business model focuses on effectiveness, or client results (not efficiency or utilisation); on value- or benefit-based pricing (not hours recorded); and monetising all forms of intellectual capital (not just human resources).
Generative AI reopens the debate
The big question is whether Generative AI (assuming it works) is the final weapon of mass destruction that silences the bugle player. Is Maister redundant when we have a new technology that promises to reduce time 10-fold, slim leverage, and monetise data, not people?
The best way to tackle this question is to take each of the five Maister levers and examine them separately.
For the foreseeable future and regardless of technology developments, firms will still need to optimise ‘operating expenses’ and ‘equity on issue’. These are two fundamental commercial drivers that will endure.
When it comes to ‘blended billing rate’, I predict that a focus on hourly rates will persist, but there will be acceleration toward fixed and value-based pricing models. This shift will come as firms seek to capture value where Gen AI is used extensively and to recover their investments in the new technology. However, there are four reasons time-based billing will stick around for a while:
- it is still the fairest way for buyers and sellers to transact when the scope of a particular matter is extremely unclear. For example, in a highly complex bespoke litigation matter, Generative AI will not create more certainty around how long the matter will take, the settlement terms, the resources required to resolve the matter, or the pathways to get to that outcome.
- powerful and sophisticated buyers of legal services will see time-based billing as the primary way for them to realise the financial benefits of productivity gains. For example, if a legal document using Generative AI takes 30 minutes to prepare instead of 30 hours, these clients will demand that they pay based mostly on time spent, rather than on results or value. Law firms might try to negotiate the inclusion of technology use disbursement fees, but in a buyers’ market, clients will most likely dictate trading terms.
- large institutional buyers of legal services, such as banks, corporations, government and insurance companies, will prefer to use hourly rates as a critical criterion when deciding which firms to put on their preferred supplier panels. Hourly rates provide procurement professionals with a simple mechanism to compare the pricing of different law firms. Gen AI is not likely to change this approach.
- The Courts will still find time incurred as the fairest way to allocate costs in dispute settlements.
Two levers on the wane
The two remaining Maister levers are ‘leverage’ and ‘utilisation’. In legal practice teams with a predominance of fixed- or value-based pricing and extensive monetising of non-human resources, these two variables will become much less important. They will not provide helpful indicators of practice health or productivity. In these practices, timesheets will be used far more selectively, and there will be greater use of margin optimisation measures.
And so, the bugle plays on. It is going to play a little softer and mostly likely have a flute, saxophone and drum to accompany it. What is clear is that law firm leaders cannot rely on just one model to manage firm performance – they will need to become multi-instrumentalists.
Joel Barolsky is a leading strategy advisor, keynote speaker and workshop facilitator to law and other business advisory firms. He is a Principal of Edge International and Senior Fellow of Melbourne Law School. Visit www.barolskyadvisors.com for more details.