When it comes to law firm financial performance, there’s
a fatalistic school of thought which more or less adopts
the following position:
"Profitability all depends
on matters outside the firm’s immediate control, starting
with the basics such as:
- whether it’s a New York powerhouse or a regional
player; - its mix of practices, and specifically the proportion
of its business where price is not much of an object; - the leverage intrinsic to its strongest departments;
and other things management can’t do much about, certainly
not in a time-frame measured in less than a decade. So
a firm’s profits really depend on those ‘built-in’ factors
and management can at best tweak at the margins."
Now, as loyal readers know, I’m a subscriber to the "people
make the times" not "the times make people" theory of history
(and of law firm management), so this fatalistic
view has always irritated and aroused me, but like the
grain of sand that irritates the oyster, it’s taken me
awhile to lay down a pearlescent intellectual coating to
rebut it. Riding to my aid is McKinsey.
Last year McKinsey and the Centre for Economic Performance,
at the London School of Economics, looked
at the "relationship
between management and performance in more than 700 midsize
manufacturing companies in France, Germany, the United
Kingdom, and the United States."
Granted, these
were manufacturing companies, a far cry from professional
service firms, but part of the rationale for studying the
quality of management in the manufacturing sector is that
there are well-recognized, generally-proven "best practices"
in manufacturing, such as lean production methods, setting
targets and tracking outcomes. Thus it was less controversial,
and generated more comparable rankings across firms, to grade
the quality of management.
And the bottom line?
Not only does the quality of management matter, it matters a
lot:
"Managers are more important than the industry
sector in which a company competes, the regulatory environment
that constrains it, or the country where it operates. In
other words, managers are more important to how a company
is managed than business lines, government policy, or geography."
Substitute "practice areas" for "business
lines," and you
begin to get a sense of the power of the McKinsey results. It’s
almost shocking: "Managers
are more important than the industry sector in which a company
competes."
McKinsey graded 18 different dimensions of management
quality on 1 to 5 scales (5 the best), and then averaged
all 18 scores to produce one "Management Quality" number
for each of the 700 firms. They then ran those quality
numbers against an animal called "Total Factor Productivity,"
or TFP, which they define as follows:
"TFP is an efficiency measure capturing the impact
of all the elements that contribute to a company’s output
growth but are not explicitly stated as factors of production
(unlike capital and hours worked, for example). In other
words, TFP is a grab bag for the unexplained elements—such
as technology, luck, public infrastructure, and, not least,
management techniques—that affect productivity."
In a law firm, think of TFP as a stand-in for everything
that is not explained by changes in billable hours and
rates, headcount and realization, investments in IT infrastructure,
etc. TFP is the "secret sauce" that reveals how well
your firm is doing on the intangibles that don’t appear
on your P&L or balance sheet: Professional development,
work-life balance and a feeling of autonomy, respect among
colleagues, willing collaboration and knowledge sharing,
etc.
Though this chart is a little small, it shows the impact
of increasing the management quality score by one point. Let
me point out the top center comparison in particular,
"Market share growth"—indexed to a constant
score of 100 before the one-point gain, it jumps to 171
with a single point gain in management quality.
Note a somewhat mysterious point that’s
pregnant within this data: In an era of globalization,
there are no good-management secrets. As McKinsey
puts it:
"In sector after sector, best practices
emerge in operations, sales and marketing, service delivery,
and elsewhere. Under the pressure of competition, companies
pay close attention to the improvements that rivals make
and rapidly adopt their ideas. Pioneers of best practices
thus gain only a short-term advantage. […] If effective management
and good performance are tightly linked, how do so many badly managed companies
survive? It is a question that has long baffled researchers."
Their answer, something of a temporization but something
as well of an empirically justified observation, is that
poorly managed firms manage to hang on because they exist
in market niches relatively protected from competition,
and in that state "can survive for years."
Conversely, the more competitive the landscape and,
interestingly enough, the younger the firm, the better
management practices were.
Back in law-firm-land, I would argue the most competitive
landscape is among the AmLaw 50, which have experienced
rather remarkable turnover and ranking-shifts during
the past 10 years compared to almost any conceivable
prior decade. And firms newer to the AmLaw
50 are not, I think it is safe to say without exception
are not, old-line long-established firms.
A final insight from McKinsey may tie this back into
the managerial and governance structures of the newer
firms: McKinsey did a country comparison of the
quality of management in general in the US, the UK,
France, and Germany, and the US came out on top (highest
proportion of well-managed companies). Why? "Female
managers and decentralized decision-making are more
common than [in the other countries]" and the study
also found that more female managers correlated with
decision-making being delegated further down in the
ranks, giving employees a greater sense of autonomy.
Fatalists despair! And, those of you sniff
and scoff at the impact visionary and inspired management
can have, shed your cynicism. People matter. Management
matters. Insist your firm get its share.
