The use of business intelligence ideas for calculating cost margins looks set to grow among law firms. Justin Farmer and Shane Zindel explain

Gaining business intelligence (BI) can be likened to lifting the lid off your business and seeing its internal mechanics. It is not a new idea – BI has its roots in decision support systems (DSS), which began in the mid-1990s. However, the legal sector has been relatively slow to absorb such techniques.

Business intelligence is an umbrella term used to describe a set of concepts and methods designed to improve business decision-making. It uses fact-based support systems that provide law firms with a higher quality of information than they can get from their standard financial systems. Gaining business intelligence enables a law firm to access, interact with and analyse data to manage their operations, improve performance and generally function more efficiently.

The traditional 'cash cow' adage – the idea that law firms will always have clients and that they will remain profitable simply by putting a premium on each hour spent – is rapidly becoming a thing of the past. As the legal landscape becomes increasingly globalised, and clients become ever more demanding and sophisticated in their requirements, it is tempting for law firms to obsess over profit per equity partner (PEP) as the ultimate indicator of success. This approach can hide more than it reveals. Never before has it been more important for law firms to drill down into their operations and find out how they work as a business and not just as a law firm.

Where do the new critical business metrics lie? Benchmarking PEP is easy, but it is more difficult to establish what actually makes law firms productive.

For example, most firms have a practice of hiring a group of new associates every year – but are they aware of what the profit margins for each associate should be? BI allows a firm to quickly understand the training costs and factor in lower realisations because of inexperience. This hiring practice may be the right answer for the firm's culture, but understanding its cost implications is crucial to determining longer term strategic objectives. Before BI, this was a long and tedious financial exercise.

Increasingly billed as a kind of business crystal ball, BI also allows firms to 'futurescape' by providing a concise analysis of past trends that could influence future practices. Will a firm continue getting the same results? Or is it at the tip of a downward slope? Alongside analysing the inner workings of firms, BI looks at their clients. Law firms, especially larger ones, often have two or three major clients who, despite bringing in large amounts of work, might in reality be providing very low profit margins. BI allows firms to accurately profile clients – providing management with a 'heat map' showing which clients are profitable, which are profit-sapping and how and where the firm can build on more profitable areas.

BI software takes large amounts of vital transactional data and feeds it into concise packages that can then be analysed to create market-leading intelligence. People at all levels of an organisation can access this information. Without this, firms often end up paying financial analysts to run around frantically synthesising data and then finding they still do not have the right tools to interpret whatever results have been obtained. BI systems compile and summarise all the important information from disparate systems, allowing users to report and analyse by dragging and dropping metrics into a reporting system. Knowledge of complicated programming language is not required.

BI reports provide actionable information, allowing partners to make decisions and take action based on clear results and trends. The reports will, for example, look at a firm's key performance indicators (KPIs) and help identify the direction it needs to go; while at the same time pooling information from an entirely separate human resources or customer relationship management system.

BI models are also easily adaptable to suit different practice areas. As head of a litigation practice group, the business practices and KPIs that make your group successful will be very different to those of a corporate team. You can tell the system what metrics you need to analyse your data and it will allow you to come up with practice group-specific results.

So, how does a BI system affect a law firm's bottom line? The answer is primarily by allowing management to make more informed decisions, based on enhanced financial and non-financial information.

As an example, a firm Elite worked with recently used BI to analyse a client for whom they conducted a large amount of transactional work. The firm had been planning to expand, both in terms of office space and headcount, in order to accommodate the needs of this particular client. Using BI they realised that the potential profit would never match up to the investment they needed to make. Their choice became instantly clear – refuse the additional work, or raise their fees.

In a nutshell, BI provides the right information, to the right people, at the right time. If a firm's management team fails to gather this information from its internal sources, then it cannot properly analyse how its organisation is performing, nor make informed business development decisions.

Justin Farmer is a manager of strategic consulting, business intelligence and Shane Zindel a strategic business consultant of business intelligence at Elite, a Thomson Reuters business.