Metric noise: Six ways to improve your firm's performance

29 Aug 2012News

Simon Nash discusses the six measurements that can help you ?to determine the drivers and drags on your firm's performance

Six things you will learn from this Masterclass:

How to select the measures that count
How to combine data to produce comparable statistics
How to assess long and short-term trends
How to use benchmarking data on competitor firms
How to take a sophisticated approach to variations
How to set meaningful targets that are aligned with the firm’s strategy

The first two articles in this series on strategic performance management looked at profitability in law firms in two very different ways.

We first looked at David Maister’s PSF profitability model, in which the firm may be viewed metaphorically as a production line for churning out chargeable hours.

In the second article, we analysed Jim Heskett’s service profit chain, in which the firm is seen more as an organic system for creating loyal and satisfied clients.

We found in both models that, by attending to a number of people management factors, firms could obtain valuable client or financial outcomes.

This article takes those analyses ?a stage further and unpacks the issues of measurement and metrics in law firm management. This is a critical issue in a law firm’s people and performance strategy, for two principal reasons.

First, the idea of viewing the firm as a value-generating system is one that is alien to the professional background of most law firm finance directors and managing partners, whose training and expertise is often limited to matters of law or accounting.

Second, many law firm HR directors have a background that lacks the commercial and numerical skills to perform the strategic analysis. This dichotomy is heightened in firms in which HR directors do not get involved in the discussion of key numbers and ratios.

If the message of the first two articles was that seeing the world and the firm differently is important, it is perhaps even more important to learn to measure ?things differently.

We live in a society that counts the price of everything. Many people could tell you, for example, the cost of a Rolex watch, a Ferrari or the last transfer value of footballer Carlos Tévez. People know the cost of the wedding celebrations of the rich and famous as well as, a short time later, their divorce settlements. We live ?by interest rates, petrol prices, the value ?of the FTSE and exchange rates. In the world of law firm management, we are familiar with the profits per equity partner of the top ten firms.

It has been said that what gets measured gets done. HR people, ?rightly or wrongly, have a reputation for having an aversion for numbers. Maybe the profession was an attractive option for people who either didn’t like maths or were not very confident with it.

Accountants and finance people, on the other hand, have moved right into the measurement space. But, dogged by an accounting model that is largely retrospective and firmly stuck in the previous business paradigm, they have come to the table lacking a useful analysis of how value is really generated. Or, they have become lost in the business model and, more importantly, how innovation can make a vital difference to the firm.

What we need are new ways of tracking the creation of value in the firm – ones that enables us to identify the drivers of value creation as well as the outcomes, and that help firm leaders to think creatively and numerically about change.

Figure 1 looks at six different levels of measurement in ascending order of complexity, and examines some of the implicit assumptions that need to be challenged at each level. Please note that the examples that follow use fictitious firm and survey data.

Data

The starting point is data. As the seventeenth-century historian Thomas Fuller once said: “Get the facts, or the facts will get you”.

More recently, postmodernists have insisted that there is no such thing as ‘facts’ out there to be discovered: data is a result of human curiosity and creativity. We don’t find facts; we make data. And, we creatively make data by selectively filtering out from the billions of sensory impressions according to our interests.

This filtering process can be unconscious or raised to conscious awareness. Data then is a conscious – and subjective – selection and patterning from a mess of arbitrary information.

When we start to measure law firm performance, the first question we should ask ourselves is: what information are we interested in? Some of these decisions have been made for us, but it is still worth bringing them to mind.

We might find, at the data level, that for example Smith Industries paid the firm £1,785,254 in fee income last year, or that the electricity bill for the Didcot office was £37,000, or that we have 129 secretaries in the firm who took 1,198 days of uncertified sickness, and that Smith Industries paid its bills after 41 days.

All of these might be valid facts. When you look for data in a firm, you can be absolutely inundated with facts. The key is to select those that yield meaning under analysis and to beware of simply taking those facts that are easy to obtain or have always been collected.

Ratios and averages

The second level of measurement is ratios and averages. Ratios and averages are ?a shorthand way of comparing chunks ?of data.

Some of the common ratios we look at utilisation and realisation ratios. These take together two numbers such as the number of hours recorded and the level of fees received and creatively produce a third number, but one that is more useful.

You can, with care, compare ratios and avoid the dangers inherent in comparing raw data where the data referents are not the same.

Trends

Level three is about trends. You can have a trend over time or across a population, where time is constant.

So, to take utilisation, we might take the firm’s capacity in fee-earner hours and divide that by total bills for the period to get a utilisation rate of 82 per cent. We might think that was fine.

By looking at the trend over time, we see that last year it was 79 per cent; our conclusion might be that things are on the up. Looking back a second year, we see that it was 74 per cent. By this stage, we can pat ourselves on the back as business geniuses. Let’s look a further year back; it was 85 per cent. Okay, wasn’t life easier before the crash. Let’s look at the ten-year average, which was 83.6 per cent. It seems we’re currently running below par.

Another way trends may be observed is across a relevant population. To take an example, suppose we look at Mike in M&A: his utilisation is 61 per cent. The man is a lazy idiot compared to that legal superhero, Deirdre in debt recovery, who is posting 114 per cent. It clear from this facile example that trends can be useful to a point, but one needs as much care with these as with selecting data and ratios in the first place.

Context

The fourth level of analysis is context. ?This is where we look at factors outside ?of the firm that lend greater meaning to ?the analysis of data. Two principal areas ?of contextual data are benchmarking ?and understanding broader external ?factors such as the economic cycle and social trends.

Benchmarking law firm performance is easier now than ever before and there are many independent market surveys. My favourite by far is Agenda Consulting’s PeopleCount Law series of surveys, which has the twin advantages of a decent broad scope of participants and a detailed depth of data.

Let’s take a brief example of how benchmarking data can be used. Clark & Kent is a firm interested in the design of its bonus scheme. It calculates that the amount paid to staff in discretionary bonuses as a percentage of turnover is ?1.6 per cent – pretty meaningless so far.

Trend analysis shows that this ratio has been pretty constant over the past five years, even though the turnover and bonus figures have varied somewhat. This at least tells us that the firm has been fairly constant in the exercise of discretion. It probably also means that the variation in turnover has been absorbed by partner profits rather than staff bonuses, which is a choice for the firm to make.

The firm consults a market survey report and sees that the median level of this statistic for multisite firms with fewer than 100 partners is 0.9 per cent this ?year. So Clark & Kent now knows it is giving more of its income to staff than its peers. Looking back, it sees a figure of ?1.5 per cent.?

By seeing this data in context, a story emerges. In this case, it appears that Clark & Kent has not taken the same HR decisions as many of its peers. This may be because it has fallen behind the trend, or perhaps because it has sought to differentiate its employment proposition on this point.

It is important to appreciate that benchmarks do not tell you what to do – they merely tell you what everyone else is doing. It is still for the firm to decide whether it wishes any particular area of measurement to be a differentiator in ?the market.

Variation

Variation is the topic of level five. Variation is a statistical property of any data set that is one of the descriptors of probability distribution. This is one of the trickiest issues for businesses to get right.

Many lawyers and accountants like to deal in certainties and – perhaps naïvely – expect to see a steady progression in the data and neat relationships between management cause and financial effect. The truth is that much of the variation ?we see in data is just ‘noise’. In any ?natural system, you will have ups and downs in the numbers, irrespective of ?any trend.

More sophisticated analysts will distinguish between two types of variation. The first is known as common cause variation, which is inherent to the system of work and can only be reduced through greater quality control within the system. The second is special cause variation, which can describe the impact of truly external effects on the firm, or the effect of genuinely innovative change to the system of work.

Aspiration

The final level within this simple model is the aspirational level. All of the preceding analyses are descriptive in that they are seeking to better understand the past or predict the future – in other words, they are trying to give us a better idea of the flow of value within the system. The aspirational level is prescriptive in that it determines what the firm is trying to achieve in future.

The aspirational level is not just about goals and targets, which must be achieved or exceeded by as great an extent as possible. It is important to also quantify standards and thresholds below which the firm does not want a measure to consistently breach.

As we saw in the first article in this series, many measures work in tension with each other such that, for example, the average fee earner salary and the average partner profit can, in the absence of other factors, act in opposite directions.

On this particular measure, those firms that have, for example, coupled average fee earner salaries to recovered charge rates, will find that both measures can increase at the same time.

In general, though, without innovation, any increase in one stat will usually be accompanied by a proportional and opposite reduction in another. So we need to express targets in bundles and ranges, and to map the flow of value as suggested in the second article in this series.

Six ways to better understand your firm’s value drivers

Data – select the measures that count.
Ratios – combine data to produce comparable statistics.
Trends – look across time and population, and sometime use the long timeframe.
Benchmarking – acquire accurate data on relevant competitor firms.
Variation – take a sophisticated approach, to avoid reacting to ‘noise’ in the numbers.
Aspiration – set a bundle of meaningful targets that are aligned with the firm’s strategy.

Changing strategies

Our brief journey through the world of law firm HR metrics should cause us to consider three key points.

Firstly, managing partners and HR directors should finally to consign the clichéd phrase “our people are our most important asset” to the dustbin of bad management history.

As we have seen in this series, the relationship between people management and value creation is subtle, systemic and measureable, and is not helped by meaningless management platitudes.

As management guru Paul LaFontaine once said: “When management starts talking about how important people are, you can bet there is going to be an unpopular human resources decision coming soon”.

Secondly, firms should measure what is important rather than what is merely easily measurable.

Thomas A. Stewart put it like this in The Wealth of Knowledge: “The [HRD] can tell you how big the company’s payroll is but cannot tell you the replacement costs of employees’ skills, much less whether they are appreciating or depreciating. The [L&D manager] may know how much the company spends on formal training but does not know how much learning resulted from it”.

Thirdly, firms should manage the location of organisational data and access to it. Law firms, perhaps as a reflection of being small privately-owned enterprises, are notoriously difficult to navigate from a value analysis perspective.

In many firms, different pockets of data are held separately by different people and not readily shared. It is as if the old maxim ‘knowledge is power’ was applicable within the confines of the firm itself. To add a new edge to those old words, if knowledge is power, then knowledge shared is power squared.

Make sure that all of the people in your firm who create or restrain value – which is just about everyone – have enough data at each of the six levels to make a difference to their work and to do so in ways that impacts positively on the bottom line.

Key takeaway points

Measurement and metrics are vital to successful and strategic law firm management.
The six-level model can help firms take a more sophisticated approach to measuring the leading and lagging indicators of performance.
Metrics are for all people in the firm who are concerned with the creation of value.
Benchmarking can be a key tool in the modern management of law firm metrics.

Simon Nash is the HR director at ?offshore law firm Carey Olsen ?(simon.nash@careyolsen.com)