Pricing strategy is key in a downturn

The cost cutting dilemma

Law firms are facing a situation most Partners have never encountered. EU inflation is at 10.1%, which is the highest since the EU was formed. This causes a predicament for many law firms which are trapped between increased NQ salaries, profit expectations by the Partners and the fear of talking to clients about increasing fees.

It’s tempting to avoid a potentially difficult conversation with clients about fee increases, by looking internally at the three levers of cost cutting, trying to work more efficiently and trying to find more work to increase revenues.

Cutting costs in a business which predominantly has salaries and rent as fixed costs is not a sustainable way forward. It’s also not a path that can be taken constantly, since at some point it will start to negatively impact quality. Given the increase of NQ salaries it begs the question, where can costs be reduced? Can/should money be saved on business services?

Whilst the temptation might be to introduce more efficient working, could this realistically be implemented quickly enough? Clients are already expecting law firms to work as efficiently as possible. Driving even more efficiency normally creates the need to invest in technology, but haven’t we just decided to cut costs? So, there is another dilemma. In addition, it will take time for those efficiency gains to materialise. Therefore, it’s not a quick solution.

Finding more work to create additional revenue is always a good idea, but given the work needs to be found and won first it isn’t the most immediate of solutions. And let’s face it … what’s the point in attracting more business with limited to bad profitability?

Pricing strategy

Rather than cutting costs attention should be turned to the pricing strategy. This is a discussion that too many law firms have been trying to sidestep for many years in order to avoid upsetting clients. But since everybody is currently talking about inflation and how to increase their own pricing, this is a good time to have these conversations. Your clients are almost certainly expecting your call to discuss updating fee arrangements.

For too long, law firms have shied away from a strategic approach on how to address regular fee updates with clients. It’s not uncommon to find lawyers that have worked on the same hourly rates for at least 10 years. My personal highlight was a framework agreement that had not been touched for 17 years.

How can you approach clients?

By nature, when we talk to Partners about increasing pricing, everybody immediately thinks about three clients that will never accept an increase, but the question is, what about the 20 clients who will? The most important step (after the strategy) is preparation.

Segmentation of clients

It’s important to divide your clients by their willingness to accept an increase combined with their importance to your business. Obviously, a law firm does not want to lose their most important clients. So, don’t start there. Start with the easier targets. It’s about gaining confidence that these discussions can be held and are very often easier than you think.

What keeps your clients up at night?

The next step is understanding your clients’ concerns. A law firm’s main cost driver is salaries, therefore the consumer price index (CPI) will most likely be the main inflation indicator to look at. But is this the same for your clients? It’s important to understand what influences your clients’ decisions, as well as your own, to make balanced decisions. For example, if your clients are in manufacturing, the main economic driver might be an energy index. Whilst there might be a similar development as with CPI, it’s good commercial practice to look at it from the clients’ perspective.

Openly discuss with your clients how they are impacted by inflation and what it means for them with regards to maintaining their own business. Discuss how inflation has impacted your mutual relationship and how to mitigate the impact. Not all sectors or companies face hard times during periods of high inflation, some even have significant business advantages – no matter what they might tell their lawyers. So it’s important to understand the business of the client in detail before starting a discussion and just taking their word for it.

Improve the relationship by making a concession towards the increase in exchange for a preferred advisor status or being notified early about upcoming opportunities. This demonstrates that you are invested in the relationship and that money is not everything to you. In return, you can still negotiate increased fees but below inflation level. Having these sorts of discussions brings us back to the subject of preparation.

What to propose?

Even though the currently high inflation rate is a tempting argument to align your proposed increase to, it can also turn into a boomerang in times of low inflation. Inflation is an argument outside of your control. If you solely base your increases on inflation, you don’t control the narrative. While it works in the current situation, it will become a struggle when inflation does go down again. When thinking about inflation levels we came from not so long ago (1-2%) clients might even ask if this tiny increase will be worth the work. In our opinion, increases should be based not only on tangible facts but also on benefits for the clients. Therefore, we need to be able to tell a story on why the increase is justified and what the value is to the client, even at times like this.

The outlook

Law firms will hardly see a better chance to open the door to discussion about increases than they are seeing in the current economic climate. But it takes a strategic approach to know how to talk to clients on a regular basis about increasing fees. Inflation should be a trigger for discussion, but it should not be the reason. We will not see the current level of inflation forever. The challenge for law firms will be to increase the number and the quality of discussions. The ultimate goal should be to improve the quality of the relationship.

 

Dirk is part of PSFI’s Profitability Enhancement group. Clients value Dirk and the team’s highly practical approach to improving profitability, and they regularly help professional and financial services firms think through the levers of profitability, law firm economics and the dilemma between busyness and profitability and how to overcome it. The team runs a sought-after fee negotiation programme which helps clients transform the way they approach fee related interactions with their clients, including re-negotiating long-standing existing arrangements.

Please contact Dirk to discuss inflation related profitability topics further or profitability in general.

Author
Dirk Eilers
Dirk is a Partner at PSFI and focuses primarily on pricing and profitability enhancement. He has more than 18 years’ experience working for magic circle law firms and also logistics giant UPS.
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