The Private Client Business Model in a nutshell
Private client legal issues can be complex and require a high level of skill and knowledge, but the business model that underpins a private client department is basically a simple one.
Essentially chargeable staff are given charging rates and a chargeable hours target that, if achieved, will yield sufficient cash to pay their employment costs, the overheads of the business and a reasonable level of profit for the equity partners or members.
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Different firms have different policies regarding how to set charging rates, but most use an approximately consistent multiple of gross employment cost (which should include employers national insurance contributions plus benefits in kind). The concept of a broad multiple is important in order that employees can’t crack the code and work out the details of everyone’s earnings.
In practice it is a rare firm that achieves a 100% recovery. Therefore charging rates should be set to reflect the expected recovery that might be achieved.
Value billing, where more than 100% of chargeable time on a matter is billed because of its inherent value, is also to be encouraged, as this increases the overall recovery rate and covers for other, less financially successful pieces of work.
Generally, private client departments are less cyclical than other departments, but cyclical effects also need to be taken into account.
In terms of working capital management, lock up is critical. Lock up represents the number of days it takes to turn chargeable time into cash – in other words work in progress (expressed as days of chargeable time) plus debtors (again expressed as days of chargeable time). The higher the number of days of lock up the more funding the practice needs and so the less cash that can be withdrawn by the partners or members.
Lock up for private client departments can be significant. This may reasonably reflect a fairly long period of work that is required before a billing point is reached. However, it can also reflect other factors, such as a culture of quarterly and not monthly billing cycles, a client history where clients have come to expect infrequent bills or a discomfort with dealing with work in progress that may prove difficult to recover in full.
Historically, the accounts of law firms recognised turnover when it was billed, and work in progress valued at cost – in this case gross employment cost. This has now changed and work in progress is valued (and taxed) at its recoverable amount. It is therefore even more important that work in progress is valued correctly and that all irrecoverable work in progress is cleared out regularly – after all partners will not want to pay tax on work in progress that they will never realise!
In short, the economic success of a private client department reflects the ability to maximise chargeable time at the highest possible recovery rate as quickly as possible.
It sounds so easy doesn’t it – it’s a shame that although it’s a simple concept, it’s a difficult trick to achieve.
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