Archive for February, 2009

Surviving the Savings Loss

February 23rd, 2009 by Jim Cotterman

An earlier post covered how much one can safely withdraw from a retirement fund.  See 8/15/08, Spending Those Retirement Savings.  A new article in the AAII Journal (American Association of Individual Investors, February 2009) entitled, Retirement Income:  Repairing the Damage to Assure the Flow, discusses how retirees and near retirees should cope with lost savings.  It is based on research by T. Rowe Price Associates. 

Their research indicates that the most likely reason retirees run out of money is over-withdrawal in the early years of retirement.  The first five years of retirement are especially critical. 

Earlier advice about the importance of diversification and using a 4% withdrawal rate remain.  Further guidance is given on foregoing cost of living increases for five years and/or reductions in withdrawal amount.  Remember that you will likely need to have financial resources for up to three decades of retirement and wrestle with the long term corrosive affects of inflation.

Talking about Succession and Transition

February 17th, 2009 by Jim Cotterman

Business continuity (succession and transition) is important to both clients and their law firms.  Although many law firms may not be fully aware of its importance to clients.  At some point the client who has a relationship with the aging senior partner will start to wonder about who will be there if and when…  This leads to topics that many of us are uncomfortable discussing.  But for each of us there will be a point where the practice will extend beyond our participation. 

The client may look for a way to open the dialogue with the partner.  If that happens the partner should welcome the conversation and begin planning for continuity.  Your concern should be that the client may find the conversation too uncomfortable to take the first step.  They may take the easier path and respond to one or more of the many competitors looking to get an opportunity.  It is critical that the partners look ahead and take affirmative actions to discuss and plan for the transition. 

Younger partners may also be wary of initiating the conversation about client transition with their senior partners.  This is usually for the reasons cited above as well as for the respect we hold for seniors — the very people who mentored us along the way.  The risk that younger partners may look for other opportunities is directly related to the comfort they have that client relationships will be shared.  This leads to compensation issues currently and over the intermediate horizon, but more importantly business continuity issues longer term.  Again, if the younger partners raise the issue, embrace the opportunity to begin a conversation.  And also again, the senior partners should not wait for this to happen, they should be leading the dialogue.

Let’s also look at this from the client side, but with a slightly different twist.  That client, business owner or executive, will someday move on just as you will.  Have you discussed with them what their business continuity program looks like?  The client has their own business continuity concerns that should be addressed.  Concurrently you want to make sure the relationship you have with the client includes those who are being groomed for promotion in the client organization. 

Challenging Economy — What to Do…

February 13th, 2009 by Jim Cotterman

We are in a very bad economy with excessively tight credit markets.  That plays out with variations around the country and around the globe which complicates the ability of global law firms to mitigate recessionary pressures.  Regional and smaller market law firms are more likely to be tied to the specifics of their local economy.  As the recession unfolded, it first hit financial centers.  Law firms with structured finance and real estate practices led the way.  Now that the recession is more pervasive, it is affecting businesses (and law firms) in every market.  Corporations and individuals are curtailing spending — and each affects the other. 

Businesses (including law firms) can really only control what they spend.  Revenues are always the more difficult variable.  Hence the rush to tighten budgets and preserve cash.  The cost structure of a law firm is 78% labor, 8% facility and technology and 14% other.  The facility and technology costs are largely tied to leases and contracts that will not be easily broken.  The ‘other’ category has potential savings.  But there are some practical realities.  You can conserve on some, maybe defer some, and eliminate a few.  But realize that within this category are your basic operating costs, a goodly portion of which are not going away.
That leaves labor and its associated costs.  Some firms are trying hour reductions as opposed to layoffs.  A worthy approach to consider, but it will present some challenges.  Others are reducing pay rates and asking individuals to pay more of their benefit costs.  Possibly the easiest to implement, but also not without some potential adverse consequences.  But those firms are trying to preserve jobs.  Stemming job losses is critically important because it keeps cash flow for households and maintains access to benefits.  However, the mainstay will most likely be layoffs which have their own associated costs in the short term such as severance.  This is the most likely action when the demand (work from clients)/supply (timekeepers to deliver services) imbalance is significant.  Once the imbalance is at a manageable level the options mentioned above become realistic alternatives.  Let’s face it, law firms are labor-intensive.  That is where the money goes and that is where the savings are.  We should point out that all three of those options — hours reductions, pay rate cuts, and layoffs apply equally to partners.
On the revenue side, law firms need to stay close to their clients, appreciate their clients’ challenges, and assist them as much as possible.  Not raising rates or raising rates much more modestly can help.  Work with the clients to find more efficient and effective ways to provide the services — hopefully such that the firm and the client can make progress.
These times are a bit unprecedented and the prudent course is not to act precipitously; but rather deliberately.  This is not a problem where you can identify, assess and treat.  It moves and changes so law firms must be diligent and maintain as flexible a position as possible.

Succession by Acquisition

February 10th, 2009 by Jim Cotterman

One of the expected drivers of law firm acquisitions is the succession and exit strategy needs of smaller firms, particularly law firms with under 20 lawyers, although this certainly this will affect law firms of any size. 

Many of these deals are being done because the senior group looks around and finds that they are short on talent immediately behind them who have the “right stuff” to carry the business forward.  There may be some rising stars further down the line, but they may not be ready in time and they may not stay very long if their assessment is the same as yours.  The best opportunity to monetize their interests (realize their buy-out expectations) may be to secure a deal with another firm.  Other viable options may also exist, but they will take resources and time to implement that a deal will not.

Yet there still needs to be a real strategic benefit beyond business continuity for doing a deal.  That benefit may be improved scope and/or scale.  Deals where one is simply “buying” clients, even when there is no “consideration” involved are risky to the buyer.  Note that most of these deals are not acquisitions in the traditional corporate sense where cash, notes and stock are used as the primary consideration.  Here the primary consideration is most often a compensation guarantee currently and possibly in the future upon exiting.  But I digress.  The very reason discussed above that may have prompted the senior partners to look for a deal is a warning to the buyer.  The buyer needs to understand the increased risk of acquiring a firm where the senior partners are moving out immediately or shortly after the deal closes if the rationale is along the lines described above.

The No Debt Law Firm

February 6th, 2009 by Jim Cotterman

Some law firms have avoided the use of debt.  Rarely is this an accident.  Those firms have a particular operating philosophy that stresses partner investment and avoids financial leverage.  Is this a good position?

1. No debt raises the capital requirements of the partners.  The funding will come from partners either through increased capital levels or reduced distributions (the hidden capital contribution!) or a combination of the two. It also encourages a heightened owner mentality since those partners have significant amounts of their own money invested in the law firm.

2. No debt without adequate liquidity is marginally useful because there is still a need to rely on lines of credit as a first measure to supplement operating cash flow.  All too often we see law firm balance sheets with a good liabilities and equity side of the balance sheet but no cash to operate the business on the asset side.

3. No debt with adequate liquidity yields significant flexibility to manage the variability of daily operating cash flows, undertake opportunities and weather predictable yet unplanned contingencies. This leaves lines of credit for the more extreme variations from operating plans.

4. No debt may mean slower growth, but maybe more strategically oriented growth.  Since the partners are funding the growth they are likely to take greater interest in the strategic importance of the initiative.

5. No debt means not worrying about reporting to the bank, loan covenants, interest and other financing costs. Although some firms may end up paying interest to its partners for their capital contributions; it is generally better received when the interest goes to owners rather than bankers.

6. No debt (particularly if it includes adequate liquidity) is a strong balance sheet that makes doing deals easier and bankers more accessible if you do need funds. Having no debt does not mean not having banking relationships, nor does it mean that you do not have significant lines of credit available and/or letters of credit to satisfy deposit requirements for leases.

7.  At year-end 2007 a little less then one-in-four law firms had no debt.  But only about 8% of those firms with more then 150 lawyers according to the Survey of Law Firm Economics.  We suspect that year-end 2008 will not be as good a year for law firm balance sheets and it will be interesting to see if those percentages hold.

No debt is a conservative operating philosophy.  It should and most likely will be matched with partners of a similar inclination.  We have seen that the more profitable law firms of any size category also have stronger balance sheets — less debt, more capital and better liquidity.