It's not the associate salaries, it's the human skills that challenge law firms
Earlier this month, New York-based Milbank, Tweed, Hadley & McCloy announced it will increase its associate salaries across the board by $10,000 to $15,000—a starting salary of $190,000 for those fresh out of law school. What followed was an outcry in the legal media and reports that unhappy clients are saying they won’t pay for it.
Other legal markets have reported steep increases in associate salaries by the big international firms. JUVE, the German legal weekly, reported competition for talent with some international firms paying up to 130,000 euros ($153,000) for a first-year associate—a development that has left many German law firms worried.
A WAR FOR TALENT
With so many emotional reactions, I will try to put things in perspective. As explained on my blog, being an excellent lawyer will revolve less and less around legal knowledge. In the future, clients will not primarily be looking for knowledge of the law, but will increasingly engage lawyers because of their knowledge of “best market practice,” their ability to negotiate a good deal, their ability to come up with innovative solutions, and so on. In other words: human skills.
So law firms need to start hiring a different breed of associate to meet changing client demands. As law schools still focus on legal knowledge, the best grades will no longer automatically reflect the best lawyers. Forward-thinking law firms need to try to find those graduates that are smart and possess these extraordinary human skills. With the present system of education, this is a bit like looking for a needle in a hay stack.
SALARIES AS INVESTMENT
If offering extravagant salaries is needed to attract the most talented, then this is what it takes. No law firm will expect to make a profit or perhaps even break even. These high salaries must be seen as an investment where return will only come with time.
It is reasonable to expect these talented individuals to be above-average profitable after five years or so, when human skill can be paired with substantial experience. By then, these individuals will be in high demand by clients.
“In-house leaders didn’t pull punches in their evaluation of Milbank’s big associate raises” according to The American Lawyer. But, in order to understand the magnitude of the pay rise, we need to do the math.
Milbank globally has 531 associates. On average, each associate gets a raise of $12,500. So the total cost associated with the raise is $6,637,500.
Milbank’s gross revenue over 2017 was $916,538,000. With a profit margin of 55 percent, total costs are $412,442,100. This means that the total cost effect of the pay raise would be only 1.6 percent. Even if clients would have to pay for it, it will hardly be noticed.
The surprising thing is how much attention an investment in human talent gets compared to any other investment. If a law firm the size of Milbank would invest $6.6 million in IT, I doubt if this would draw the same amount of negative headlines. Substantial investment in other areas hardly draws any attention, and it still has the same effect on costs.
THE HUMAN FACTOR
It might be that we relate these salaries primarily to our own income or to the salaries of other professions. A lot of the attention seems focused on the starting salaries that are seen as extravagant. We think no one coming fresh out of university could be worth so much money. When focusing only on the immediate market value, this is probably true. But if the talent that clients are looking for is rare, then the rarity rather than the ratio will establish the market value. It is the same with classic cars and with professional athletes.
In my opinion, the legal world, including clients, should stop complaining. In-house attorneys have become very smart and well educated. If an in-house team decides to seek outside counsel, they are looking for extraordinary skills to provide the value they seek. To provide this value, law firms need to invest in human skills. This inevitably starts with attracting rare and extraordinary talent. Rarity has its price. This is an investment by the law firm hoping that in the future this will enable them to serve their clients better.
And other law firms should stop complaining as well. As demonstrated in the financial calculation, raising the salaries by 5 percent will have a limited effect on overall costs. Law firms need to define their strategy and think about what they will have to offer clients in five years. In order to stay competitive investments will be required.
From a financial point of view, it does not make a difference where this money goes. Just put it to the best possible resource. This might very well be humans.
Jaap Bosman is a leading strategy consultant, investor and one of the founding partners of TGO Consulting, a boutique consultancy focusing on the legal sector operating from New York, The Hague and Hong Kong. In 2015 he published Death of a Law Firm. Bosman is a regular speaker on the future of the legal sector.
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