As law firms attempt to drive greater profitability, it is common for partners to talk about firing unprofitable clients. But few firms have the ability to distinguish the comparative profitability of clients and even fewer have the discipline to take action. The truth is that a law firm’s client base goes a long way to determining its profit level, and improvement does not require a wholesale change of clients.

Defining Profitability
Most firms don’t have the wherewithal to determine the profitability of their clients. Usually it is not because the firms lack the appropriate computer software or do not have access to the necessary data. Rather, the firms have a problem coming up with a common definition of what constitutes profitability. The difficulty is that law firms are made up of partners who are skilled advocates prepared to vigorously defend their clients regardless of their value to the firm.

Experience with countless firms trying to increase client profitability provides two simple lessons. First, there is no measure of client profitability with sufficient credibility to withstand attack by a skilled advocate. Lawyers earn their living using small flaws to defeat otherwise sound arguments. Spending a lot of time on a computer profitability model is not worth the effort. Secondly, when firms are looking for unprofitable clients, what they usually find is the smaller the client, the smaller the profit.

Small Clients
By almost any standard, small clients–either individuals or businesses–are problematic for law firms. Being sensitive to the limited financial resources of small clients, rarely is all of the time required to perform work recorded by the working attorneys and, while billing, small clients often are the most frequently written down.

After billing, small clients represent the greatest risk of bad debt write-off of all accounts receivable. Indeed when you review the accounts receivable delinquency lists of law firms, individuals and small and startup companies tend to be the largest offenders. And if a firm becomes aggressive in attempting to secure payment, small clients represent the greatest risk of a malpractice suit. In fact, the nuisance claims that law firms routinely buy off are invariably brought by small clients. By the same token, small clients by their sheer number present the greatest conflicts of interest.

Any firm that has attempted to trace where its entertainment expenses are going, particularly tickets to sporting events and usage of stadium loges, will quickly note the small clients are entertained with a frequency disproportionate to their revenue contribution.

Finally, small clients do little to enhance the reputation of the firm and build the skill levels of its lawyers.

80/20 Rule
Rarely do law firms focus on the magnitude of small client issues. There is clearly a difference between clients that are small businesses but pay a large amount of money in fees and large businesses that do not pay much in fees. But the converse is more typically true and, for all intents and purposes, small total fee amounts tend to be paid by small clients. In virtually every law firm 80% of the firm’s revenues come from 20% or fewer of its clients. Or, conversely, if a law firm fired 80% of its clients it would only lose 20% of its revenue or less. Consider the impact on overhead expenses of eliminating 80% of the client base and focusing the firm’s attention and service resources on the top 20% of its clients.

At this point, some partner in a law firm will point out that all large clients started out as small clients. Indeed, it seems that every law firm has one story of a large client that grew from being a small client. Usually the story involves a business starting in a garage. But rarely does a firm have more than one such story. Therefore, if a law firm can point to one such occasion…forget it…it will probably never happen again. Besides, when the client develops in size, it will be the target of competitors who will point out that the client has outgrown a law firm that serves small clients.

Taking Action
While it is easy to make an intellectual argument in favor of firing small clients, few firms are able to even begin culling their client list. In most firms, specific clients are the exclusive property of individual lawyers whose compensation is based on gross revenues, regardless of the cost of creating those revenues. It is hard to find someone to deliver the difficult message to a client the firm would rather not serve.

There are, however, some actions a firm can take which do not require the actual firing of a client:

Eliminate discounts. Most businesses provide price discounts based on volume. But in law firms, often the lowest rates are charged to the smallest clients. With the next bill simply charge the client at full rates. Explain that the firm has large clients who expect to enjoy most favored nation rates, which forces the firm to bring the small client’s rate up to standard. Either the client will pay the higher rates or they will seek other counsel–both good results.

Push work down. Hand off small client relationships to a junior associate. The associate will charge lower rates and gain experience in client relations and billing management. A year later if the firm still wants to fire the client, it can do so with less political flak.

Refer it out. Refer the client to a smaller law firm. Set up a referral relationship and explain to the client that they will be charged less and get better service from the smaller firm.

Cut out small clients at the source. Change client acceptance procedures to eliminate small matters. Prohibit acceptance of work that particularly attracts individuals and small clients. If the firm must accept some individual work, establish a fixed fee minimum for individual services such as will preparation or residential real estate closings (and make it pretty high).

Track and publicize the statistics. Make a point of publishing a list of client billings by billing attorney every month. The attorneys who constantly maintain a stable of small clients will become obvious. Track at the value of the firm’s average and median client in terms of annual revenue. Publish the ratio of clients paying over $100,000 in the last year to the number of partners. If that ratio is less than 3-to-1, the firm’s partners are focusing on the wrong kind of practice.

Improving profitability is tough. For most firms, culling small clients represents a relatively easy first step.