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Law Firm Economics: How Law Firms Earn Money

published May 03, 2022

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A law firm is a business like any other, and as such, it needs to earn money to function. Unfortunately, many lawyers have no idea how their law firm's economic model looks and how it makes money. Understanding law firm economics and the economic culture in their firm is vital for attorneys to advance in their legal careers and succeed. This article looks at how are midsized and larger law firms governed economically and why lawyers need to know this information to find success.
 

Why Is It Necessary To Understand How Law Firms Earn Money?

 

All attorneys know that they have to bill as many hours as possible if they want to climb the ladder. It has not always been like that in the legal industry. It has been common for law firms to estimate the bill based on the length of the documentation the lawyers comprised, or they had just set fees for various legal services they offered. However, this has changed, and a few decades ago, law firms started to adopt the billable hours system universally.

Attorneys have a set hourly billing rate that varies based on their seniority, their law firm's prestige, experience, credentials, etc. They put down all of the hours they work on specific tasks assigned to them by their superiors or clients directly. Clients are then billed the number of hours attorneys claim they were working, which often invites law firms or individual lawyers to inflate the number of hours an assignment requires. After all, clients usually have no idea how many hours go into writing a well-researched memo or how long it takes to do a proper discovery.

Law firms will generally have a statement in their policy documentation that they are against overbilling clients and do not want their employees doing so. The reality is very different, however. The amount of billed hours is directly connected to the law firm's profitability, so it is no surprise that many law firms encourage their attorneys to find additional work that might not be necessary to bill as many hours as possible. Many firms even fire attorneys who do not understand this principle and want to find the quickest solutions to clients' problems.

Understanding how your particular law firm deals with this issue and how its lawyers on various levels generate income to cover the firm's expenses and overhead expenses, and profit is essential for the success of any lawyer. Read on to find out how most law firms earn their revenue.
 

A Law Firm's Economic Model and Attorneys' Seniority Levels

 

If you have had experience in more law firms or have at least gone through various job offers on legal job boards, you might have noticed that the hierarchy in most law firms is very similar. There are usually law students at the lowest levels as interns or law clerks. They are then followed by associates on junior, mid-level, and senior levels. After that, the firms have counsel and partners. These positions can also be divided into various levels, such as non-equity and equity partners. These levels have different value to the firm and the firm's profitability, and there are also different expectations of attorneys on different levels.
 

The Law Clerk Level

 

Most law firms have law clerks throughout the year or summer associates during the summer break. These positions allow the law firm to test out young talent and see who they want to choose to advance to a full-time position.

Generally, law clerks are tasked with doing necessary things that might be too time-consuming or not directly profitable to assign to associates who need billable hours. It could be researching a topic related to a case or some mundane day-to-day tasks that have been pushed off before to allow attorneys in the office to bill hours to their clients.

However, one of the main purposes of this level is to find people who will be able to fit into the law firm economics. As already mentioned in the previous section, law firm economics is built on billable hours - attorneys have to bill as many hours as they can so that the law firm can earn money and collect profits. Law firms can discover which law students or young graduates are able and willing to bill the number of hours the firm needs to fulfill its economic goals through clerkships and summer associate programs.

Most clerks lose their positions or are not offered a full-time one because they are not billing enough hours. I talk to many of them through my work as a legal recruiter, and the reason they are stating most often for not billing enough hours is because they do not have enough assignments to bill more.

However, I also know this situation from partners and senior associates who are assigning these tasks. When they see a law clerk who cannot bill the number of hours they expect on a task, they stop assigning them more work because their position, as well as the future of the law firm, stands on the amount of work its lawyers can bill. Senior attorneys assign tasks to those who fulfill their expectations on the task's amount of work. It is a vicious circle designed to uncover those clerks who are law firm material. Those who know how to swim in the billable hours and can be profitable for the firm are the ones that can move forward.
 

The Junior Associates Level

 

Junior associates are the next in the law firm hierarchy. Their hourly rate is a bit higher than that of law clerks or summer associates; however, it is significantly lower than the rate of more senior attorneys. This rate grows with every year the attorney works in the firm.

Although law firms like to tell junior associates that they are not profitable for the firm and have to invest a lot of time and money into training them, they are an extremely important part of law firm economics.

Trained and experienced senior attorneys have significantly higher hourly rates, making some of us think that firms should only employ attorneys with the highest rates to earn the most money. However, if you look at how long an experienced attorney spends on a task versus how long a first-year associate spends on the same task, the math adds up. Something an experienced partner deals with within half an hour can take junior associates several days. They first have to research more information more senior lawyers already know from experience.

Of course, many clients want only the best people to work on their cases and prefer a partner or a senior associate to handle everything. Senior attorneys know about this, and they often tell their clients that much more research is needed than expected. Still, they can delegate this work to a talented junior associate with significantly lower rates. This makes them look sympathetic to the client, and they feel like the senior attorney looks out for them and their interests.

In reality, the junior associate will be asked to research issues that might not be as essential as making them out to be. Because of the lack of experience, working on a memo or research will often last much longer than necessary. The junior associate will spend days rewriting the text to perfect the grammar and syntax. The firm's clients, of course, have no idea about this, and they feel like the attorneys and the firm work hard to save them money where possible.

Many attorneys might consider this unethical or do not agree with this. And even though not every law firm follows this process, most firms function like this, and if you want to succeed in this environment, you have to get used to it.
 

The Mid-Level Associate Level

 

Once a junior associate gains experience and is with the firm for a few years, they move up the hierarchy to a mid-level associate. This is the level where associates are expected to start taking responsibility for the quality and amount of work.

Associates on this level are very lucrative for the law firm. From their experience, they know how many hours the firm or partners expect a task to take. They can do some of the tasks themselves for their hourly rates, which are still much lower than those of partners, and thanks to their experience, they can do the work more efficiently. However, they can also delegate much work to junior associates who can bill more hours on these issues.

This system can be very profitable for law firms, which means that mid-level associates are marketable when looking for positions. They are skilled enough to work competently on complex matters. However, they are not threatening partners as their rates are still relatively small compared to those of partners or senior associates. Partners can still use them for client service when they want to seem like they are trying to cut costs down for their clients. This level is beneficial for the partners, law firms, and probably the most beneficial even for clients. They are still getting work done at relatively low rates while already by people who have experience and can work efficiently.
 

The Senior Associate Level

 

The next level of lawyers are senior associates, and law firm economics are not nice to them. That is why attorneys with 6+ years of experience often have difficulty finding positions. Senior associates work hard to gain experience, so their billing rates increase significantly. Their hourly rates are often comparable to those of partners because their knowledge and expertise are also approaching their level.

Combining all of this usually results in partners not wanting to delegate work to senior associates as they can do it themselves and collect more money for themselves. These senior attorneys then have to bring in their clients. Otherwise, they do not have enough work, do not bill enough hours, and risk losing their job.

This is the last associate level before partner and counsel roles, which means that senior associates have to either bill a ton of hours thanks to the work from their clients or the clients the firm already has, or they will be asked to leave because they are just not profitable for the law firm economic model.
 

The Level of Partners and Counsel

 

The highest level of the hierarchy belongs to partners and counsel lawyers, who fill an important role in the economic model, as they are the main attorneys who bring in the work and supply this work to the attorneys under them. They can benefit the most. However, they have to be skilled and know how to generate business to be self-sustaining. Not many lawyers are fit for the role and prosper more in the associate positions. But those few who are good at it can utilize law firm economics for their profit.
 

The Implications of This Law Firm Model for Lawyers' Careers

 

As you saw in the previous sections, every level of the law firm hierarchy fulfills a different role and comes with different expectations. Success in your legal career depends on how well you perform in your role on all of these levels as you advance and how much profit you can generate for your law firm.

Law students and young graduates on the law clerk level get evaluated by how their work ethic corresponds with what law firms expect of their full-time lawyers. If they can work a ton of hours and are willing to take on as many tasks as they can handle, the law firm's economic model will love them later on. If they are unwilling to do so and cannot wait to get home every day after work, they are not the right candidates for the legal machine and will not get an offer at the end of their summer associate program.

Once a law clerk advances and becomes a junior associate, their role and expectations the firm has of them change. Junior associates are expected to work crazy hours and bill thousands of hours every year. Many movies focusing on lawyers show them working nights, weekends, and holidays are about junior associates. Law firms employ junior attorneys to bill hours and to be profitable. Only those who can do it can survive or even prosper.

Associates who are at the mid-level still have to work a lot. However, their value to the firm and clients changes. They can now work the work more efficiently for a higher rate. If they are smart, they know how to divide the work and delegate some of it to more junior attorneys while doing enough work to be valuable to the partners and clients.

From the senior associate level to partners, the value of lawyers to the firm depends on their ability to generate business and bring in work. Some senior attorneys might be lucky and work in a firm where others have too much work and give it to senior associates. However, most lawyers on the senior levels have to be able to generate work themselves.

From all of this, it becomes clear that if you want to succeed, you have to be prepared to work a lot throughout your whole career and figure out how to generate work wherever possible. On the more junior levels, knowing how to get tasks assigned and finding additional tasks where you can bill more hours gets you noticed by your superiors and puts you in a better position to advance. On the more senior levels, knowing how to attract clients or get work out of the existing ones is the only way to survive.

That is why the more senior levels are when many lawyers decide to change practice settings. It can be extremely difficult to keep creating work, and with no tasks to work on and no money to generate, going in-house to a less competitive firm or a setting like government or public service often seems like the right career step to make.

In-house positions or work in public service do not depend on the attorney's ability to generate work or bill a ton of hours, which can be a needed change for many people who are tired of the constant race. On the other hand, less competitive firms that are either smaller or in a less competitive legal market usually do not need to chase big clients to profit. They have a stable base of clients, and the lower fees also attract many people and companies that cannot afford the high billing rates prestigious law firms have. Both are great options for attorneys who do not want to work extremely hard to generate work until the day they retire. However, many attorneys enjoy the way big law firm economics are set up and thrive on every level throughout their careers.
 

Conclusions

Most attorneys are well-aware that law firms are currently based on the billable hour. It has not been like that in the past. However, it is now, and they have to figure out how to use it to find success in their legal careers. Most law firms function on a similar economic model where they have various levels of lawyers - clerks, junior to senior associates, and partners or counsel attorneys. If an attorney wants to advance in a law firm, they have to understand how to use the billable hour system to help them stand out from others.

At the more junior levels, they have to work like never before and bill more hours than they thought possible, while later on in their career, they have to figure out how to create work not only for themselves but also for those under them to allow them to bill just as many hours as they did when they were junior associates. Proving that they can work hard and create more work for themselves and others is the only way to succeed in the law firm's economic model regardless of the practice areas you are in.

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