Wednesday, 2 February 2011

The Numbers Don't Lie

Following on from my last post, I've been asked to offer an example of the sort of numbers that a firm should be looking at (and it was very gratifying to know that people read my blog!). Given the feedback, I'm going to use a (fictitious) law firm as an example (and another caveat here - I use a lot of examples in my work - and in a major report soon to be published. None of the examples or anonymous cases are firms I've worked for, no matter what you think).

Our firm - like most in the industry - is obsessed with turnover. In its first five years as an LLP, it has had rising revenues and has been happy to shout about them in the press:

Its year 6 turnover is down, but the firm is content to rely on 'poor economic conditions' as a reason. The firm's belief is that the above chart shows the firm's success. PEP (Profit per Equity Partner) has been rather all over the place. The firm has been content, however, to emphasise the large increases in PEP in years 5 and 3 (over 66% in year five) without feeling the need to look at the actual numbers, the fact that the large increase was the result of a poor result the year before or the trend:

We know, however, that neither PEP nor turnover are robust measurements (although looking at their multi-year trend can begin to be useful), and so our examination should move to other metrics. The trend in Net Profit is worryingly downward - and this from a 'high' of just over 18% which I would normally categorise as 'barely acceptable'. For comparison, the average NP% of the UK's top 100 firms (as defined by "The Lawyer" in 2010 was 24.3%. Our firm's numbers are bad and the trend is poor:

I have an in-depth report coming out very soon which examines a number of new measurements for examining the success of a firm, one of which is 'Net Profit per Total Staff' which divides the net profit made by the firm by the total number of staff it employs (including partners) and so examines the efficiency of its staff. On this measurement, too, the firm is in trouble:

Its efficiency is dropping and its staff numbers are increasing - and so expected efficiencies of scale are not happening. Looking at the staff numbers:

it would appear that there has been a degree of gaming of the firm's PEP figures - that the increase of PEP in year five has been helped significantly by a drop in the number of equity partners and that the firm's overall profitability has been driven by cuts in staff numbers. While this may be necessary, it can be counter productive if the firm sees a drop in turnover (as it has) partly driven by a reduction in marketing staff, marketing effort, and a desire on the part of partners and staff alike to be seen to be billing work rather than spending (unbilled) time looking for new work and new clients.

Ignoring the turnover figures, the numbers suggest a firm in trouble. Their cost cutting exercise has either been insufficient to address their poor net profitability and seems to be accompanied by a reduction in turnover. All the major trend lines are downward. Partners are staff are - and should be - worried.

In my next posting, I'll examine some of the things that the firm should be doing.

No comments:

Post a Comment