Overhead cost is anything you pay for that doesn’t generate income. This may include but is not limited to phone, internet and light bills, office supplies and even non-lawyer salaries.
Law Crossing estimates that law firms spend between 45% and 50% of their earnings on overhead costs such as office space and technology.
Therefore, for the positive growth of your law firm, you need to cut overhead costs that literally drain out your legal business. This article explains the best practices to reduce overhead costs at a law firm while maintaining high productivity levels.
How to Reduce Law Firm Overhead Costs
Here are several things you can do to reduce law firm overhead and increase the profit margins:
Office rent is one of the highest overheads for many law firms. To reduce office space costs, consider:
- Renting out a portion of your office and utilizing the current office space at maximum efficiency.
- Moving to smaller office space if it still meets the needs of the firm, clients and prospects.
- Renegotiating a lower lease rate with your landlord.
Before moving to a larger or more costly office space, consider the following:
- Is the location competitive enough to land you higher-paying cases?
- Can you afford the place, or will it increase the overall ratio of income spent on office space costs?
Alternatively, you can decide to do away with a physical office altogether and opt for a virtual office (like many firms have done during the COVID-19 pandemic.) If your firm is small or just starting out, you can set up a home office and have your staff work from home rather than renting an expensive downtown office. For more information on running a remote law firm, download a free copy of our Rocket Guide to Working Remotely as a Lawyer.
High staff turnover can negatively impact a law firm’s finances. Interviewing, onboarding, and training employees can cause serious financial losses to any law firm. Here are some tips on reducing the employee turnover rate:
- Hire the right people willing to stay loyal to the firm.
- Provide competitive wages to increase employee retention.
- Provide growth opportunities within the law firm.
- Introduce incentives for certain achievements.
These are some of the costs involved in hiring new employees:
- Recruitment and interviewing costs.
- Training costs.
- Direct termination costs.
Legacy technology refers to outdated computing software or hardware that is still in use. In most cases, legacy technology allows the system to achieve its intended purpose but does not allow room for growth.
Outdated technology can cause huge losses to a law firm. For example, crashes and system downtimes can increase costs and decrease revenue.
Keep in mind that most of these technologies are no longer being supported by their developers, making it even more difficult to find help when needed. For this reason, eliminating obsolete technology and replacing it with modern technology is always a great idea. A great example of this is to switch from your old on-premise practice management system to a cloud-based solution such as Rocket Matter.
Law firms can run more efficiently by reducing redundancies such as unnecessary layers of technology. New technology may provide greater efficiencies and short-term savings but can be costly to maintain.
For example, law firms can outsource services such as legal writing, IT services, document record review, IT support, among others.
Time vampires are basically time-sucking tasks. These are the kinds of tasks that are not productive but consume a lot of your time.
Lawyers ought to maximize their time to achieve higher profit margins. For instance, consider reducing non-billable hours and delegating extra work to paralegal assistants. Legal practice management systems can also help maximize time through such features as document automation, matter templates, and online payments.
Benefits of Reducing Your Firm’s Overhead Costs
At first, it may seem stressful to make all those changes, but you’ll need to reduce overhead costs if you’re looking to increase revenue. This approach saves you money and makes the law firm more efficient.
A good metric to help understand the effectiveness of your firm is your Utilization Rate. You can calculate your utilization rate by dividing billable hours by the total number of hours you record in a given period, e.g. a week. For instance, if you work 3120 hours annually and your total billable hours are 2340, your utilization rate is 75%.
However, the best way to measure the utilization rate is by calculating it monthly, quarterly, and annually. For maximum productivity, a firm’s utilization rate should be close to 100%. Thus, the utilization rate is one of the best ways to determine a firm’s financial performance and operational health.
Consider developing a financial plan to reduce the overall costs if you don’t have a firm budget. When coming up with a budget, find ways to eliminate wasteful spending and increase revenue. Creating a budget will help the firm cut unnecessary costs and improve its financial performance.
Additional revenue will always go to the bottom line, positively impacting partner profits. Note that you’ll need to review the firm’s budget at least once per year to achieve lasting results.
Here’s what you need to do for this to work:
Create a Budget
You can use a simple spreadsheet or automated budgeting software to break down your list of expenses and revenue each month. Research industry standards to determine service pricing, fixed and variable expenses, and items to include in your budget. Below is a simple overview of the budget creation process:
- Determine the realistic revenue.
- Gather income sources.
- Analyze your law firm’s profit margin.
- Analyze the costs, expenses and spending.
Schedule a Review and Follow-Up Meeting
Schedule a review of the budget with your partners and a follow-up meeting every quarter to help them understand the firm’s financial position.
After documenting and discussing the budget with your partners, you’ll need to implement the changes discussed and outline the available resources.
Stay realistic by accurately projecting your expected revenue. Set your legal fees carefully, factoring in the average rates in your location and practice area.
Data analysis helps your firm stay on budget. Even though it might be time-consuming, data analysis helps overcome the problem of outdated budgets before the end of a financial year. Rocket Matter and other legal practice management platforms can offer you built-in reporting that can help with this important step.
How Budgeting Benefits Your Law Firm
Budgeting helps you save money and generate more revenue. It also helps improve delegation, workflow management, and above all, accountability. Lastly, budgeting and forecasting can significantly help improve your hiring practices and reset job descriptions and expectations within your law firm.