Professional-service firms count themselves successful if they make 20 per cent net profit. Tony Scott and Brian Chandler calculate that even small improvements in the internal management of knowledge could add much to that margin.
Trimming the waste line
Small savings on costs translate into big uplifts in profits. That's basic business. Indeed, professional-service firms spend much of their time advising their clients on how to take advantage of exactly that principle.
But how many such firms turn the principle back on to themselves to look at the economics of their own performance. And how many look for ways to improve it?
In our experience during 20 years of working with knowledge-based businesses, including law firms, the answers are Not many, and Not well. The temptation to chase down the next lead, or to prepare for the next beauty parade, or to complete the next report, often serves to construct a behavioural treadmill in which staff and partners focus outwards on clients and overlook their own firm's internal habits.
Yet changes to the habits may generate much larger improvements to partners' bank balances and staff bonuses than any number of glossy marketing initiatives. Of course, the precise ratios will vary from firm to firm (big firms tend to spend a larger sum but a smaller proportion on marketing), and some waste is probably inescapable. As a partner in an accountancy firm put it: We know that 50 per cent of our marketing spend works; we just don't know which 50 per cent.' But even a crude analysis suggests that change can swell profits radically.
The biggest differences flow from changes at either end of a typical project: how well a firm wins work; and how well it delivers work.
The effects of front-end change
Consider, for instance, a typical professional firm of any discipline turning over 10 million a year. Allowing for notional partner salaries, the firm makes profits of 1.5 million. Of the remaining 8.5 million, perhaps two-thirds goes on salaries (including partner salaries), 10 per cent (a little over 1 million) on marketing in all its forms, and the rest on overheads (rent, utilities, equipment and the like). For smaller firms, the marketing percentage might be more than 10 per cent; for very large firms, it may be less than 1 per cent.
But consider the marketing figure a little more closely. In particular, compare it with a typical hit rate the proportion of sales leads which turn into paying work.
No firm we know has completely reliable hit-rate figures by number or by value either because the figures aren't gathered centrally, or because staff are tempted not to count informal' sales efforts and letters which go nowhere. Nevertheless, it's probably fair and may be optimistic to suggest that, on average, firms can expect to win about one proposal in five.
Any firm can expect to win some work without a formal proposal, of course. But the average ratio suggests that of the million spent on marketing in our hypothetical firm, only a fifth about 200,000 delivers a direct return. The rest at best serves to support the firm's general profile.
But suppose for a moment that the firm could improve its hit rate by 50 per cent, to three out of ten by, say, replacing boiler-plated tomes and Powerpoint overkill with crisp and tailored pitches. What would be the effects? If nothing else changed, turnover would increase. By 50 per cent to 15 million if the firm's work all came in via competitive tenders, by less if some work was recurring or needed no proposals. Other direct costs, particularly salaries, would rise in proportion. But marketing costs would not need to.
This is how the figures compare:
Effects of improving hit rates by half
( million)
BEFORE
AFTER
Turnover
Less
Salaries etc
Marketing
Overheads
Total costs
Profit
5.67
1.00
1.83
10.00
8.50
1.50
8.50
1.00
2.75
15.00
12.25
2.75
Lifting the average sales hit rate by 50 per cent can have the effect even after allowing for higher payroll and overhead costs of nearly doubling profits.
Of course, lifting turnover by as much as 50 per cent may seem an impossible dream. Indeed, in some markets or at some times (like now in some firms, for instance) it may be. But even if you decide to hold your overall turnover at its current level, lifting your hit rate generates savings on marketing which fall straight through to the bottom line: in this example, 100,000 a year of extra profit for every 10 per cent improvement in hit rate.
It may also seem pointless to aim for a higher hit rate. After all, it's the client who decides who wins, not the professional. So it's tempting to believe that the hit rate is out of your hands. But even if you accept this argument, there are prizes to be won from rethinking another activity which is entirely within a professional firm's control: the process of producing documents at the back end of a project.
The effects of back-end change
If true hit rates are hard to pin down, true time figures are harder. Every professional firm has its time-sheet dump codes', financial buckets to which spare and non-chargeable hours in the working week can be assigned to keep an individual's figures up. Every firm has conscientious managers who put in extra time on projects, but don't record the time in order to avoid getting into trouble for over-running the budget. Then, too, every individual tends to see only his or her own time contribution to a project, not the overall pattern of the work.
One ratio in particular deserves closer attention than it usually gets: the ratio, in any job, of the time spent doing the work (gathering the data, analysing the results, and weighing the recommendations) to the time spent preparing it for presentation back to the client (drafting the report and/or slides, editing, checking and reviewing).
Most professionals, asked for their initial feel, will suggest about 60:40 60 per cent of the time spent doing the work, 40 per cent writing it up. Professionals we've persuaded to calculate the ratio more closely are staggered to find that when you include all the reviewing (including partner time) the true figures are at best the other way round.
In one international firm which had invested heavily in quality-assurance mechanisms, the ratio averaged 30:70 and in extreme cases hit 20:80.
Effects of cutting production time by a third
( million)
BEFORE
AFTER
Revenue
Less costs associated with
Fieldwork and analysis
Document production
Total costs
Profit
(30%) 2.55
(70%) 5.95
10.00
8.50
1.50
(30%) 2.55
(47%) 3.99
10.00
6.54
3.46
Trimming production time by a third has the effect of cutting costs by less than that. But in a firm which earns 1.5m on 10m, it can lift profits by 130 per cent.
Devoting only 20-30 per cent of a project's total effort to fieldwork must enlarge the risk of gathering incomplete or mistaken data and thus undermining all conclusions built upon it. In addition, if such a ratio was revealed in court, it would be bound seriously to weaken any defence to a negligence claim from a client. But quite apart from these risks (paradoxically created by a desire to limit risk), the potential efficiency gains from rethinking the process are sizeable.
Stay with our hypothetical professional firm. Since its experience is typical, its people spend 70 per cent of a project's time on documents. Now suppose the firm could cut this time by a third (not at all impossible; some have cut it by close to two-thirds). Then on any given job, the project team will free up a little over 23 per cent of its time.
That saving could be devoted to improving the quality of the fieldwork, so as to reduce the firm's risks. Or it could be diverted to winning more work via more marketing activity or by undercutting rival firms. Or, on fixed-price jobs, it could be used on other chargeable work thereby lifting the firm's effective charge-out rate and turnover by almost 30 per cent.
Of course, these crude calculations do not take all the possible factors into account the real availability of extra work, for instance, fee pressures, office-space requirements, differential charge-out rates and so on. But none of these vitiates the thrust of the argument. Nor do they change except at the margins the effects of tackling successfully either or both ends of a typical project.
Can the changes be made?
We've worked at both ends of the project process with professional-service firms, and not only matched but beaten these targets. Success takes thoughtfulness and continuing attention from senior management as well as direct intervention and coaching from the consultants but it is eminently achievable.
At the front end, our personal hit rate over the past eight years across a total of more than 200 proposals on behalf of ourselves and 50 clients is two out of three. In the past two years, the average has risen to four out of five.
At the back end, two examples may serve to make the point about the prospects for both cutting costs and swelling sales.
For a training project about letter-writing in a large tax practice, we persuaded the client's senior managers to record for a day how much time they spent reviewing each letter, and what proportion they returned for rewriting. They collected the figures twice: once before the course; once three weeks afterwards. Average reviewing time went from 4 to 1.5 minutes, saving each manager more than 1.5 hours a day. Rejection rates went from 50 per cent to zero.
There was a bonus. The confidence and morale of staff members continued to improve as they saw their work leave the office in recognisable form, which meant that they put more effort into doing even better next time.
As for top-line improvements, one project involved devising for a Big Four insolvency practice a new technical report model which was received with acclaim by four UK clearing banks.
We went on to teach all 30 of the practice's partners and 150 of its senior managers how to use the model to attract new work (the model also allowed reports to be completed in hours rather than days or weeks). In the following twelve months, the practice reported a rise in revenues of 175 per cent.
Tony Scott, a director of Oliver Scott Consulting Ltd (http://www.oliverscottconsulting.com), specialises in business communication issues. Brian Chandler, an independent consultant, specialises in strategic management.
