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Cost Recovery vs. Cost Tracking: Two Sides of the Same Coin

August 08, 2022

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Cost Recovery has certainly turned into an unattractive phrase for many law firms. Increasing pressure on hourly attorney rates applied primarily by corporate General Counsels has forced both large and small firms to look at new approaches to remain competitive and retain clients.

Two approaches are common: 1) flat-rate case costs that are increasingly replacing the historically standard hourly rate model; 2) the elimination of the explicit billing of "ancillary costs", such as imaging (copy/scan/print), mailing and other in-house production resources.

Cost Recovery has Come Under Pressure for Good Reasons

With many years of my own Cost Recovery experience and a deep understanding of its importance, I am seeing data-driven pricing reshape the management of a firm. Data driven fees are forcing the re-definition of value – away from the old-school determinants of reputation, branding and some sort of proprietary legal methodology mystique equal to dowsing or voodoo.

Insurance companies are leading the way. They generate a lot of gravitational force in the legal universe, and are increasingly refusing to reimburse document copying and printing as legal costs. Firms are responding by writing off those expenses or folding them into the cost of a case bid. Again, there is no problem with either approach, but the costs associated with that production don't magically disappear.

Production work resource requirements vary widely from case-to-case. It’s important to track those costs so a firm can objectively evaluate the true cost of varying types of cases. Tracking allows a clearer understanding of how work should be performed and priced for those clients choosing non-hourly pricing options. It also creates a truer understanding of the profitability of cases in which the production costs are simply subsumed within an hourly-based rate.

There is no clear way to know what a case costs a firm in internal resources if it isn't tracked, along with its associated printing and scanning volumes (typically estimated by applying a standard cost per page of imaging). And that's where "cost recovery" comes into play. If we change the term “cost recovery” to "cost tracking”, the basic process doesn't change, but it does change the intent.

Change the Label, Change the Perspective, Improve the Process, but in All Cases: Track!

Traditionally, tracking copy/print cost in the legal industry had one purpose: to charge the client. So, it follows that if you aren't charging the client, there is no reason to track that particular output. And that would be incorrect.

Production costs don't disappear. They must be tracked, accounted for, controlled and obsessively driven down - especially if you are working on thin margins on a particular type of case work.

Bite the Bullet: Invest in a Cost Tracking System

Tracking software doesn't need to be used to directly bill a client. It has much broader benefits:

Revealing Absolute and Differentiated Value 

At the very least tracked production costs can be used to subtly illustrate to a client in invoices (along with a “No Charge” label) the added value delivered in the form of "freebies" afforded the client. If the client can see the value of non-billed service provided as part of their agreement, it can ease the impact of a bill.

Without a cost tracking system, it becomes a difficult task to understand how a firm delivers differentiated value to clients and where to invest to reinforce that value - and the firm doesn't get the requisite acknowledgement of it from the client.

At minimum, such systems pay for themselves as an internal marketing device. Considering how much firms pay for marketing these days, adding cost tracking to provide marketing via billing can justify some of the cost.

Vary Your Case-Type Pricing 

A cost management system can be justified in the value of the data outlining just what production costs are incurred to a particular case. If a firm tracks those costs over time it will have a bevy of data on what a particular kind of case costs and, thus, a better understanding of what to charge a client for that particular kind of case. There are a number of companies providing that kind of "Big Data" pricing analyzation that is sourced from many places - which is great. But if you could gather that data internally and know what those cases cost your firm specifically vs. national or regional averages, then your firm will have better data than your competitor that isn't monitoring and analyzing that data internally.

Most firms, both in and outside of the AmLaw 200, have not firmly established the position of a Pricing Director. Yet the need increasingly exists to know what a type of case, or a particular client, will cost the firm.

If you have a Pricing Director, or equivalent, then it behooves you to have cost tracking software as a primary tool to produce prima facia evidence to use in decision making. Such systems can track just about everything that can be associated with servicing a client - especially the "soft costs" that can eat away at profitability.

Reduce Costs by Optimizing Internal Processes 

One of the first Laws of Quality is to act based on data. A cost tracking system can help determine where processes are inefficient and where to invest in automation outsourcing or technology.

Add a Layer of Document Security 

Tracking systems can provide an audited trail for when and by whom a firm document has been accessed and what they may have done with it. Another valuable selling point to provide to prospective and existing clients: your data is safe with us.

A Final Word

Years ago, I managed a production center in a firm and witnessed two attorneys bill at nearly the same rate over the course of a year. One clearly had much higher production costs than the other and, thus, was not as profitable to the firm. At that time, there was no tracking of that cost component.

The unjust result was both attorneys were provided equal year-end compensation, regardless of their profitability. In the modern legal industry, such haphazard measurement is a competitive disadvantage that will continue to grow and become a sea anchor on a firm as the market continues to tighten.

Don't get caught up on the term Cost Recovery. It’s Data Tracking. Use it to your advantage.

(Article originally published on LinkedIn)

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