Although some of the world's law firms are beginning to enjoy the results of a slow economic recovery, many others are not. In eastern Europe and Russia, for example, many firms are confronting the prospects of sharply declining fee revenues in 2015 from what were some of their most profitable practice areas and clients in 2013 and 2014. In such a scenario, it is very tempting to start cutting operating costs. I urge you to resist that temptation.
Knee-jerk, indiscriminate cost-cutting is one of what our firm describes as the "Seven Deadly Sins of Cost Management." In our monograph, Six Drivers of Law Firm Profitability, we urge that law firms carefully prune operating costs during times of declining fee revenues, rather than adopt a "slash and burn" approach that can produce immediate savings -- instant relief -- but could make it more difficult for the firm to emerge successfully from the financial downturn.
We refer to this "sin" as slashing costs without managing risks. We present a case study, based on one law firm's experience, in which the partners tried to boost year-end profits in a declining economy by firing 15 staff. We describe how this decision turned short-term "savings" of US$ 500,000 produced US$ 1.1 million in unnecessary losses and costs in less than a year. Although this case study is based primarily on one law firm, we have observed it being replicated in law firms -- especially small and midsize ones -- worldwide during economic downturns in the past 12 years.
Hard times are the worst time for a law firm to abandon an investment mentality in order to produce short-term savings. Of course, declining fee revenues should prompt partners to look for opportunities for prudent trimming of operating costs. However every proposed cost reduction should be evaluated in terms of not only its short-term savings, but also its mid-term and long-term risks.
In other words, ask questions such as:
- What are we giving up when we cut this expense?
- What will we not be able to do as well as before?
- How could this decision to cut costs in this area affect one of our competitive advantages?
- How will this decision affect the ability of our fee earners to deliver high-quality, responsive legal services to current clients and new ones?
- How will this cost reduction make it more difficult to respond to the demands of our market and the expectations of our clients when the economy improves?
Without a careful analysis of each and every proposed cost reduction, a law firm is simply guessing at -- and gambling with -- its long term financial success. The goal should be not only to survive an economic downturn, but to emerge from it stronger and more competitive than before. This requires intellectual discipline, careful analysis, and a prudent continuation of an investment mentality.