Should You Hire a Graduate of the Law School Class of 2020?

California has joined the ranks of states temporarily allowing law school graduates to practice under the supervision of licensed attorneys without first passing the bar exam. This unprecedented situation gives rise to two related questions: Should you hire a graduate of the class of 2020? And if you do, how should you employ them?

The decision to hire any lawyer, including one fresh out of law school, should be client-centered. Some firms might be tempted to take advantage of the lower cost of a recent graduate. And too many firms hire (or decline to hire) out of habit. Given the economic uncertainties, it is critical to determine what your firm needs to serve its clients.

Too many law firms skip the seemingly bureaucratic step of writing detailed job descriptions that identify what they need from each role. Focus on the first six months.  This analysis might lead you to the conclusion that an experienced paralegal could deliver more for your budget than a freshly graduated lawyer. If you’re looking to delegate some of the workload initially taken on by partners so that they can instead dedicate more time to business development, that role may not require a law school education.

If you do determine that it’s in your firm’s interest to hire a law school graduate with essentially no experience, you need to be prepared to devote much more time and many more resources to training and onboarding than most firms are inclined to. As consultants to law firms, we often hear partners say that they want lawyers to do things in a very specific way and to also work with little supervision. This sentiment is the hallmark of poor management.

One of the biggest and most common mistakes firms make with new hires is failing to give timely and detailed feedback on the work product they turn in. If a new associate prepares a document and then the partner in charge of the case makes changes to it, that associate should have the chance to see what was changed and learn the reasoning behind it. If you want to maximize the impact of such training, don’t wait for a formal performance review.

Given that much, if not all, of the communication with new hires will now take place remotely, it is especially important to carefully select work assignments for new lawyers.  Ideally, you want to train a new lawyer with respect to skills that they will use repeatedly. If you include the time it takes to explain a project to a new lawyer and then to review and correct their work product, it is very likely that you could do it faster yourself. But that becomes less true as that lawyer completes similar tasks. That fact leads back to the question of the need to hire: Do you have enough work of a similar nature that will serve your clients?

If the answer to this question is yes and you are committed to training and communicating virtually, a graduate of the class of 2020 might be a good fit for you.

The Dangers of Excessive Optimism

People who see themselves as successful are especially susceptible to overconfidence. Business owners often fall into this category, knowing how optimism has served them well as entrepreneurs. But in uncertain times like these, it’s doubly important not to get carried away betting on best-case scenarios.

In practical terms, this means that owners should plan for scenarios that include losing a third or more of their revenues in the near term, even those that have been generated by historically reliable clients. Many companies are conscious of managing cash flow, but fewer are considering that they may need to depart substantially from their existing business models to make money.

An article posted on the financial industry blog Naked Capitalism connects the dots in a way that accounts for the increased risk of a substantial downturn in business. Notably, it quotes from a recent Wall Street Journal article which details how restaurants, retailers, hotels, and other companies from Medtronic to Vox Media are recalibrating their time horizons:

“Executives who were bracing for a monthslong disruption are now thinking in terms of years. Their job has changed from riding it out to reinventing. Roles once thought core are now an extravagance. Strategies set in the spring are obsolete.”

The extra degree of caution needed also applies to underlying expectations regarding the prognosis for and timing of a vaccine. Experts have expressed some confidence that a vaccine is forthcoming in 2021 and that some of the preliminary experimental results have been promising. It is easy, however, to fall victim to a confirmation bias and ignore stories like this recent article in the San Francisco Chronicle which cites researchers at UCSF with concerns that people are shedding antibodies to COVID-19 too quickly to make a virus practical (full text available via the Benicia Independent). A vast majority of people are rooting for an effective vaccine, which is why we need to be mindful of the possibility that reality won’t conform to our hopes.

None of this information is meant to engender a sense of hopelessness. The unfortunate reality is that, while many sophisticated corporations are taking steps to weigh the risks of undesirable scenarios, many law firms and other professional services firms are not. We wrote early on in the pandemic about the importance of humility. COVID-19 has lasted far longer than most of us predicted in March and April. That fact alone suggests that law firms in particular need to do a better job of examining options and strategies that even a short time ago may have seemed unnecessary.

Increase Your Firm’s Cash Reserves

As we reach the mid-point of the calendar year, law firms should be evaluating key financial metrics. It’s a great time to begin tax planning for the full year and to preview next year’s tax returns. Starting now gives owners time to adjust if too much or too little has been withheld. It also allows leaders to take stock of projected cash flow and expenses.

There’s one element to which firms should pay particular attention this year: cash reserves. Many are in the habit of distributing all profits to partners or shareholders at year’s end, but this means they have no cash on hand when January 1st rolls around. The legal press has finally gotten around to questioning the wisdom of draining cash reserves every year. This is a dubious strategy generally (as we wrote about back in 2015), but it could be ruinous in 2020.

Right now, the risk of a financial shock is significantly higher than usual. Employees could get sick, clients could be unable to pay their invoices, and hackers could take advantage of the vulnerabilities of a work-from-home system. The government is rapidly changing rules and requirements, which makes it difficult to plan, and a firm’s other sources of revenue, like subletting office space, are much less reliable.

Beyond the safety net that cash reserves provide, law firms can use cash to expand through acquisitions of distressed firms. There will be more disgruntled but talented lawyers on the market over the next 6-9 months. And with interest rates as low as they are, now could be the perfect time to grow your firm’s market share. These are all better potential uses of firm profits than dividing them among the owners.

Because of the dip in revenues that generally accompanies the holidays in the last quarter, firms should work with their accountants now to plan toward ending the year with cash reserves to cover, at minimum, two months’ worth of expenses.

California SB-939 Signals Potentially Major Changes in Real Estate Leasing

Businesses in California will have an opportunity to rehash traditionally long-term leases if Senate Bill 939 is passed. Applicable to commercial tenants who have experienced a decline in average monthly revenue equal to or exceeding 20% since government restrictions altered the economic landscape, many could qualify “to engage in good faith negotiations with [landlords] in order to modify any rent or economic requirements.”

This provision applies to tenants in food and beverage, entertainment, and performance venues. By its terms, SB-939 would not appear to cover law firms and other professional services companies. Moreover, the bill was recently amended to eliminate perhaps its most far-reaching tenant protection – the ability of commercial tenants to walk away from leases while capping their financial exposure.

Although the protections afforded tenants under SB-939 are narrowing, it is clear that COVID-19 and its aftermath have fundamentally changed commercial real estate. After decades of leaving commercial landlords and tenants to negotiate their own deals and live with the results, the last few months have seen prohibitions on the eviction of commercial tenants and other government interventions that would have seemed unthinkable a few months ago.

In this environment, some law firms are likely to take aggressive action to renegotiate leases. As consultants to law firms, we have already been contacted by managing partners looking to reduce their square footage, especially as relatively few lawyers have expressed enthusiasm about returning to work in a high-rise office.

It would be a mistake for law firms to conclude that they can just walk away from their lease obligations. In this legal and economic environment, it would be easy for law firms to overplay their hands in discussions with landlords. The next few months do, however, provide law firm managing partners with a rare opportunity to address their real estate needs and perhaps negotiate a more appropriate lease.

This Is a Time for Humility

The decisions made by human beings are subject to numerous logical flaws and idiosyncrasies. Unfortunately, COVID-19 and our individual and collective responses to it require us to make prudent decisions despite our flawed reasoning.

There is a lot of research showing that we tend to underestimate risks associated with low-probability but catastrophic events. For example, humans can’t easily distinguish between bad outcomes that are likely to happen one in twenty times and those that take place one in two hundred, two thousand, or two million. This flaw in our thinking is linked to an even more general and systematic one – overconfidence. Whether it’s business owners estimating the chances of their business surviving five years or experts assessing the chance of a rare event, we tend to overestimate what we know.  And this can be a particularly severe problem in cultures that encourage positive thinking and ostracize those who are deemed to be “negative” people.

As a business owner or manager, some anxiety under the present circumstances is a sign of intelligence. But anxiety without some analysis is not useful. So, where should the analysis of your business start?

In our experience consulting with law firms and other professional services companies, two areas of risk tend to get overlooked during a crisis. The first relates to low probability events involving cash flow. For example, business owners tend to underestimate the chances that typically reliable clients will stop paying. We understandably focus on those clients who have a history of paying us inconsistently or who have said something to alert us to the threat of non-payment. That’s why businesses tend to get blindsided when a dependable client suddenly changes course. You should, therefore, run revenue scenarios that include non-payment by some of your best clients. That will help you decide what to do before such an event takes place and how to react once it does.

The second area of balky risk assessment involves relationship management. In a crisis, we tend to shrink our focus to those who are closest to us, and that is true of both personal and business relationships. But weaker relationships have been found to be especially helpful in creating new opportunities and finding new clients. Excessive reliance on your strongest relationships often results in you knowing the same people. And when you know and rely on a relatively narrow circle of people, you are at risk of something happening to a key relationship. That is why you should evaluate your systems and identify key relationships and alternative ways of receiving certain services. For example, if you are entirely dependent on a single person to provide your IT support, consider what will happen if that person falls ill or otherwise becomes unavailable to you.

The list of human logical flaws is long and varied. Papers like Eliezer Yudkowsky’s “Cognitive Biases Potentially Affecting Judgment of Global Risks” have done a good job of cataloging these. But even without delving into the academic literature, you can help your business and the people you care about by being aware that our ability to assess risks is impaired during a pandemic and we should be wary of overconfidence.

This is a time for humility.

Cash Flow in a Crisis

In our last post, we advised firms against letting go of personnel as a first resort in this time of crisis. That was published before the Small Business Administration launched its Payroll Protection Program, which provides significant financial incentives to keep people on the payroll through the end of June. We continue to advise most law firms to hold on to their people unless they foresee a reduction in demand that would continue once social interactions return to normal.

There is every reason to think that car accidents will resume once traffic returns. In contrast, cruise ship occupancy may not go back to pre-pandemic levels even after the threat of COVID-19 has passed. Notably, the question of how quickly business financing will bounce back remains up in the air.

After 9/11, even the most credit-worthy of business customers struggled for months to obtain financing. As consultants to law firms and other professional services companies, we are working with our clients to help evaluate how each of their existing practice areas is likely to fare, and we are identifying additional practice areas to complement their existing offerings.

So what can professional services firms do to protect their cash flow?

At many small and mid-sized firms, the equity partners collect around fifty percent of total revenues. So, the first place to look in addressing cash flow concerns is non-essential partner compensation. This might strike some as a quaint notion, but having owners economize to keep their people on the payroll is a tried and proven solution in times like these.

Toward the same end, we don’t recommend skimping on expenses that are directly tied to bringing in revenues. Invoices need to be sent out and collections issues need to be handled. Don’t let important administrative functions fall by the wayside, but look at all other outgoing checks for places to pull back.

Firms should first consider the low-hanging fruit, taking such measures as cancelling subscriptions to non-essential services, postponing or renegotiating perks like club memberships, and looking for cheaper alternatives to elements like the company’s phone plan. Communication is vital here to maintaining relationships with your vendors. If you decide to delay a payment or cut out a particular expense, talk to your providers about it so they can plan too. You don’t want to unexpectedly stiff someone, especially in a time when their margins are probably just as tight.

If these measures prove not enough and your firm finds itself in need of an infusion of capital to make payroll, you’ll have to decide where it’s coming from. The sooner you start thinking about this possibility, the better. The fastest option with the least red tape is for partners to pony up the cash personally. Standard bank financing might be harder to acquire during an economic downturn, but you won’t need any institutional approval to charge to your own credit card.

You could tap into an existing line of credit if you’ve got it or consider a higher-interest-rate loan, knowing that you’ll be paying it back in a short period. In this circumstance, business debt is particularly justifiable. Explore the financing options and defer bills where possible to keep the business afloat until revenues improve.

We recommend that you make these decisions in consultation with people who are not as emotionally invested in your firm. These are difficult conversations, so it is helpful to get used to talking about them. We also urge you to increase the frequency at which you review the firm’s cash flow. While monthly or even quarterly is often enough, during a crisis, you should be generating and assessing profit and loss statements every week, even every day if it comes to that.

These are tough times for sure, but professional services firms have generally done very well once past crises have abated.  We expect the same to happen here. This too shall pass, and we are here to help you.

Should Law Firms Let Their Employees Go?

The present situation is bringing a few harsh realities to light. One is that the biggest threat to law firm survival is running out of cash. And the biggest expense that law firms and pretty much all professional service companies face is the cost of their people. It is therefore imperative that law firm leaders take a sober look at the direct and indirect costs of their workers.

There are businesses that should be reducing their workforce rapidly in the short run. These are companies that are suffering dramatic declines in the demand for their services and whose employees are not that highly skilled. For example, we recently spoke to the owner of a dog walking and pet sitting company. That company’s business model depends on people not being home in the middle of the day. Now that many are at home, approximately ninety percent of its clients have cancelled.

Dog walking will resume once people get back to physical workspaces outside of their homes. When that time comes, the supply of available dog walkers will probably be as high as it is now. Thus, letting people go now could make a lot of sense for dog walking businesses or for other service providers that are experiencing massive declines in demand and expecting a readily available supply of workers in the future (hotels, many restaurants, commercial parking companies, etc.).

A vast majority of law firms, however, are not in this situation. There are areas of law that are facing major reductions in demand for their services. Many areas of civil litigation have been put on hold. The number of divorce filings, for example, will probably decline sharply in the short term. But divorce is likely to spike once couples are no longer forced to live together in isolation. And when that happens, divorce firms will not want to train new hires who inevitably lack the skills and experience of those they’re replacing.

Most law firms are better off looking to alternatives like reducing hours for employees and independent contractors instead of laying them off or starting a furlough. We suggest that leadership review cash flow on a weekly basis, so if the financial and health impacts of COVID-19 last beyond eight or twelve weeks, the firm is ready to revisit its options. For now, it is generally a mistake for law firms to let people go.

Why Big Law Partners Struggle to Go Solo

Am Law 200 partners and other large firm attorneys are surrounded by helpers. When a computer glitch occurs, someone from IT visits your office. The billing department takes care of the collections process, so you rarely have to get involved. And some firms have an in-house kitchen with food delivered right to your desk. At some point, all these perks can become the ball and chain keeping you in the wrong job.

Time and again, we’ve seen attorneys sacrificing half their revenues and the control that comes with managing your own practice in exchange for the infrastructure offered by larger firms. Even when the draws paid out don’t match up to expectations, many large law firm partners overestimate the effort and funding required to create a new business.

As consultants to lawyers and law firms, we’ve seen that the reality of starting a firm is much less daunting than what you may imagine. Yes, you should expect a sharp decline in billable hours for your first year as you devote time to retaining clients, creating marketing materials, and hiring staff. But as you bring on new people and train them, you’ll be able to delegate these duties as you’re used to doing and focus on providing legal services. You don’t have to bill 2,000 hours or anything close to it to make a new firm financially viable.

To break out on your own, there’s no need to recreate the entire system you had at the big firm. Set up just the level of infrastructure you’ll require for the first year or so. Give yourself a few months to plan if you can, and don’t overspend on a more elaborate structure than you need to start practicing.

With the ability to outsource a huge number of functions, you can utilize the services of other entities for aspects of the business like accounting, payroll, IT, and branding. Beyond this, there are advisors who can speed up your learning curve dramatically. So, don’t give up a huge portion of your revenues by staying put or switching to another firm out of fear of the varied tasks involved in law firm management. It’s easier than ever to handle the logistical issues that arise when starting a new firm. And trust us when we say you won’t miss the lunch deliveries.

Avoiding Common Errors In Compensating Law Firm Associates

Many lawyers practicing now came up through the ranks in a time when the norm was to compensate associates with a third of the revenues they brought in through billable hours (another third going to employee benefits and overhead and the remaining third going to the firm’s profits). In today’s market, using this rule almost always means you’re paying associates more than you need to or should.

Rainmaking For Lawyers recently advised a Los Angeles-based boutique firm regarding how they would compensate a second-year litigation associate whom the firm had hired on a contract basis. The firm wanted to convert the associate to a salaried position for the new year. The firm’s relatively new managing partner used the one-third/one-third/one-third formula to calculate a salary of about $110k.  The market for associates, even in large cities, is not what it used to be. In fact, it can be harder and more expensive to find an experienced litigation paralegal than a junior litigation associate. The firm ended up offering $85k, and the associate gladly accepted it. As consultants to law firms, we can assure you this is not an isolated result, so please drop this dated and dangerously reductive method.

Instead, tie the elements of associate compensation to the conduct you want to encourage.  If, for example, you want a junior associate to learn their craft, compensate them for the hours they bill along with the professional development activities in which they engage.  This can be an appropriate opportunity to provide bonuses for increased billable hours, so long as the increased hours are not marked with a reduction in quality of work. Likewise, if you want a senior associate to start focusing on business development, reward them for their marketing efforts, and pay them a percentage of what is collected on the work they bring in. Especially, don’t overlook the importance of the management efforts attorneys offer to more junior lawyers and to the staff. The economic value of managing, training, and mentoring can exceed the dollar value of a billable hour and, in some circumstances, by a very large margin.

Compensation at law firms is and should be complicated. Law firms essentially have nothing to offer apart from the skills and talents of their people. And human beings respond to money, status, and other compensation-related factors in complex and sometimes counter-intuitive ways. So, please give this the attention it deserves. Senior law firm management should not be using a simplistic formula to determine something as important as associate compensation.

New ABA Ethics Opinion Further Strengthens Rainmakers

A new opinion from the ABA’s Standing Committee on Ethics and Professional Responsibility outlines recommended behaviors for firms and attorneys when lawyers decide to move on from their firms.  Published December fourth, the piece emphasizes the power of the client and encourages all parties to cooperate to serve the client’s best interests.

“Clients are not property,” the Committee writes. Thus, the best practices set forth in this opinion include the delivery of a joint letter from the firm and the departing lawyer to each client with whom that lawyer has had “significant contact” (a term further defined by the ABA). This notice would announce the change in affiliation and explain the client’s options in their future representation. Notably, the opinion disapproves of the practice of offering to replace a departing lawyer with another lawyer at the firm “unless the firm has the ability to retain other lawyers with similar expertise.”

The Committee also addresses the need for cooperation in sharing resources, insisting that firms not withhold access to systems or personnel once an attorney has given notice.  The opinion emphasizes every lawyer’s duty to provide all relevant records to the counsel who will be handling the case moving forward.

Overwhelmingly, the ABA’s opinion reinforces the notion that clients are and should be in control of their cases.  It is therefore the responsibility of the firm and the departing attorney to smoothly transfer the information and commitments involved. Detailed and timely communication allows the client opportunity to make informed decisions in regard to changes at the firm.

If the power ultimately lies in the hands of the client, it stands to reason that the most powerful lawyer is the one who has the strongest client relationship. Although the Committee’s opinion is advisory in nature, it could be cited with some frequency by lawyers who are leaving firms and taking clients with them.