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Revenue Predictors - Workload Inventory

Any company that sells time has what amounts to an inventory of future hours that its clients have committed to buy from it at an agreed rate. This commitment may either be firm or contingent on future events, but it is important to find a way to calculate the size of the inventory on hand at any point as this is an important measurement of workload and ultimately of future revenues.

This may be done by an IT service company selling either blocks of hours or projects, by a consulting company entering into a commitment to deliver a specific block of time or a time and materials engagement, by an accounting firm entering into an audit of project engagement or by a law firm being retained.

In all these instances, it is possible to forecast the time needed to be spent to meet the needs of the client and deliver the commitment that has been made. The way to do it, however, may not always be immediately clear and it will vary depending on the specifics of each different firm.  

As with all KPIs, the difficult part is figuring out what needs to be measured and then identifying how to get the information delivered to the CEO without any senior management time being expended. It sounds challenging, but in reality can be accomplished quite easily.  

Example

I went through this exercise with a law firm that defends insurance carriers in the law courts. In the insurance defense business, the insurance carrier receiving a claim that it wishes to defend will retain counsel and send them a file with the details. The law firm thus retained will represent the insured, but the insurance carrier will approve the strategy to be followed and determine whether to settle the claim or go to trial.

From the perspective of the law firm, each file received represents a future income stream. It is possible to forecast the minimum revenue will be derived from a file at the time that it is first received, but as the case develops the file goes through different stages, and at each stage there is a different potential for revenue.

While this looks like a complex exercise, through the relatively simple process of categorizing the stages, estimating the likely revenue for files in each stage and identifying how many files are in each stage, an “inventory” can be created.

If it is measured regularly and updated for changes in experience, it becomes a very accurate forecast of future revenues, and a Key Performance Indicator that will help lawyers run their business like a business.       

Installing the process involves five simple steps:

1.   Determine the stages.

Depending on the type of business, case files may go through clearly identifiable stages that, on average, involve a specific amount of work for each file. Without going into too much detail, the various stages for a defense Law Firm might look like this:

Stage Determination

   

Stage

Description

 

 

1

Answer and Pleadings

2

Discovery

3

Examination Before Trial

4

Pre Trial / Settlement / ADR

5

Trial

2.   Identify the billing value in each distinct stage.

The next step is to identify how much is typically billed in each stage to take the file to a point where it moves to the next stage. This is a relatively easy exercise, and in most organizations data either exists or past invoices can be looked at to establish the billing in each different stage. For an organization with five stages the template looks like this:

Stage Billing Value

 
     

Stage

Description

Billing

 

 

 

1

Answer and Pleadings

$5,000

2

Discovery

$6,000

3

Examination Before Trial

$7,000

4

Pre Trial / Settlement / ADR

$5,000

5

Trial

$15,000

 

 

 

 

Maximum Possible

$38,000

What this indicates is that all files are going to go through the first stage and deliver at least $5,000 of billings. Files that go all the way through the second stage will deliver on average a further $6,000 of billing and so on through each phase. A file that goes all the way through to trial will deliver $33,000 of billings.

The truth lies somewhere in between and can be fairly easily established by developing the probability for how far a file in each phase will progress.

At any given point in time, the files in each stage will have already generated some billing and this needs to be taken into account in determining the stage billing value. Simply taking the gross number for billing for each stage will overstate the value of the “inventory” and an adjustment needs to be made.

In some stages, there may only be one bill generated and then the file moves on to the next stage, while other stages may be longer and generate multiple bills. Each stage needs to be examined and a determination made as to the average billing already done on each case and hence the net remaining billing (NRB) to be done in that stage.  

Amended Stage Billing Value

     
         

Stage

Description

Billing

% Billed

NRB

 

     

 

1

Answer and Pleadings

$5,000

25%

$3,750

2

Discovery

$6,000

50%

$3,000

3

Examination Before Trial

$7,000

60%

$2,800

4

Pre Trial / Settlement / ADR

$5,000

30%

$3,500

5

Trial

$15,000

20%

$12,000

 

     

 

 

Maximum Possible

$38,000

 

 

A new file coming in to stage one will obviously have $5,000 of billing that will be generated, while older files in that stage will already have been billed some of the revenue generated from that stage. Systems can be set up to determine the average remaining billing in each stage on an ongoing basis, but as a starting point an assumption is generally valid.   

3.   Identify Probabilities 

The principle here is that you need to establish the likely amount of work that you are going to get out of each phase of the engagement and use that value as part of your inventory calculation. To do this, the next element in the exercise is to look at each stage and identify what percentage of cases in that stage are likely to close out there and, therefore, what percentage are likely to go to the next stage.

Probability to Next Stage (PNS)

 
     

Stage

Description

Probability

 

 

 

1

Answer and Pleadings

90%

2

Discovery

80%

3

Examination Before Trial

50%

4

Pre Trial / Settlement / ADR

20%

5

Trial

 

In looking at this, it is important to focus only on what percentage will go to the next stage and not worry about where they will eventually reach. It takes a little time to figure out and needs to be constantly reviewed, but it is well worth the effort.

To use this information in the caseload inventory calculation, it needs to be expressed as the probability that business will come from the prior stage rather than go to the next stage. It is a simple matter to convert the way the probability is expressed to reflect that.   

Probability from Prior Stage (PPS)

 
     

Stage

Description

Probability

 

 

 

1

Answer and Pleadings

 

2

Discovery

90%

3

Examination Before Trial

80%

4

Pre Trial / Settlement / ADR

50%

5

Trial

20%

4.   Identify Potential Revenue in Each Stage

Once the Stage Billing Value and the Probability have been determined, the additional potential future revenue can be established. This is done on a stage by stage basis by taking the Probability from Prior Stage (PPS) and calculating how much revenue will be earned in future stages.    

Additional Potential Revenue (APR) Per Stage 

   
           

Stage

Description

Billing

PPS

Stage 1

Revenue

 

   

 

 

 

1

Answer and Pleadings

$5,000

 

75%

$3,750

2

Discovery

$6,000

90%

90%

$5,400

3

Examination Before Trial

$7,000

80%

72%

$5,040

4

Pre Trial / Settlement / ADR

$5,000

50%

36%

$1,800

5

Trial

$15,000

20%

7%

$1,080

 

   

 

 

 

 

Total Additional Potential Revenue

 

 

$17,070

Each file in Stage One will generate the Net Remaining Billing identified in the Amended Stage Billing Value calculation. In this case that was 75% of the value for the whole of Stage One indicating that files in Stage One will, on average, bill a further $3,750.

90% of files in Stage One continue on to Stage Two, meaning that each file in Stage One will potentially generate 90% of the total Stage Two revenue, indicating that files in Stage One will, on average, generate $5,400 in Stage Two. 

80% of files in Stage Two continue on to Stage Three, meaning that each file in Stage One will potentially generate 72% (90% X 80%) of the total Stage Three revenue, indicating that files in Stage One will, on average, generate $5,040 in Stage Three. 

50% of files in Stage Three continue on to Stage Four, meaning that each file in Stage One will potentially generate 36% (90% x 80% x 50%) of the total Stage Four revenue, indicating that files in Stage One will, on average, generate $1,800 in Stage Four. 

20% of files in Stage Four continue on to Stage Five, meaning that each file in Stage One will potentially generate 7% (90% x 80% x 50% x 20%) of the total Stage Five revenue, indicating that files in Stage One will, on average, generate $1,080 in Stage Five. 

This exercise has to be repeated for each Stage. Based on the assumptions developed in this example, the Average Total Additional Potential Revenue for files in each Stage are:

Additional Potential Revenue (APR) Per Stage 

     

Stage

Description

Billing

 

 

 

1

Answer and Pleadings

$17,070

2

Discovery

$11,800

3

Examination Before Trial

$6,800

4

Pre Trial / Settlement / ADR

$6,500

5

Trial

$12,000

5.   Create Measurement Metrics.

Having identified the stages and calculated the value of a file at each stage, the monthly activity is simply to put a procedure in place to get a report of the number of files in each stage. The result can be dropped into a spreadsheet that multiplies the number of files in each stage by the expected revenue for each stage and produces an inventory value of hours contracted but not yet delivered.

Potential Revenue Backlog

     
         

Stage

Description

# Files

$ Per File

Total

 

     

 

1

Answer and Pleadings

100

$17,070

$1,707,000

2

Discovery

70

$11,800

$826,000

3

Examination Before Trial

45

$6,800

$306,000

4

Pre Trial / Settlement / ADR

20

$6,500

$130,000

5

Trial

7

$12,000

$84,000

 

     

 

Total Potential Revenue Backlog

242

 

$3,053,000

The beauty of this approach is that it only needs to be determined once and then monitored and updated to refine it in the light of experience. 

If the calculation is done monthly and recorded as a Revenue Performance Indicator, it can be a very powerful measure. It will provide an excellent early warning of a reduction in potential future revenue and indicate whether work is being performed at a faster rate than it is coming in.

There is a suite of four Key Performance Indicators that a company with this kind of revenue backlog might look at each month:

·         New files received

·         Hours Billed

·         Revenue

·         Potential Revenue Backlog

The combination of all four will give an excellent snapshot of the business and provide some highly relevant management information.