An examination of remuneration in the New Zealand legal system

1. MOTIVATION OF NEW ZEALAND LAWYERS
A CLOSE EXAMINATION OF THE ‘THIRD-THIRD-THIRD’ PRINCIPLE.
Jonny Mirkin, 2011

2. C ONTENTS
Introduction: Third-Third-Third Principle ............................................................................................................... 3
Problems with the TTT Principle ............................................................................................................................. 4
Performance Systems ..................................................................................................................................... 4
Charge-out Rates ............................................................................................................................................ 4
Impact of Legal Aid ......................................................................................................................................... 5
Non recoverable fees ...................................................................................................................................... 5
Unattainable budgets ..................................................................................................................................... 6
Stolen fees – the problems with file sharing .................................................................................................. 6
The junior lawyer ............................................................................................................................................ 7
The firm’s ability to provide quality work ....................................................................................................... 7
Billing practices of the firm ............................................................................................................................. 8
Geography and Nature of the Firm................................................................................................................. 8
Conclusion & Recommendations ............................................................................................................................ 9

3. I NTRODUCTION : T HIRD -T HIRD -T HIRD P RINCIPLE
One of the most significant changes in reward management in the last 20 years has
been the extension of performance-related pay beyond the shop floor to white-
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collar and professional staff, who traditionally were paid straightforward salaries.
It has become common in New Zealand law firms to introduce a performance
related pay scheme known as the “third-third-third principle” (TTT Principle). In this
report I strip off the accepted front of such a scheme and identify who it really
favours and whether it provides adequate motivation to staff solicitors.
Many firms today are tying their solicitors’ performance directly to their salaries. By
sharing the risk with the employees, the firms are in turn offering a chance to earn
more bottom line pay. Legal firms have adopted a payment by results (PBR) system
called ‘piecework’. Typically pure piecework schemes are rare, yet they are common
in Zealand firms.
Under the TTT principle, the firm takes the output of the solicitor, in billable hours,
retains one third as profit for the firm (partners or principle), applies one third
towards overheads and direct costs for the work and then pays the final third to the
lawyer as remuneration. This is illustrated in figure 1 below. It follows logically that
the lawyer now has incentive to bill as much as possible in the year to maximise his
income. If a lawyer puts through $120,000 in fees they might expect a $40,000
salary whereas if they are able to bill $150,000 then their salary could increase to
$50,000.
1/3
Profit to firm
$
1/3
1/3
Payment to
Contribution
empoyee as
to Overheads
salary/bonus
Figure 1: Break-down under TTT Principle
1
I. Henderson (2008). “Human Resource Management for MBA Students.”

4. P ROBLEMS WITH THE TTT P RINCIPLE
The TTT principle often fails to take into account variables that effect an employee’s
ability to benefit from such a system. Often these variables are outside of the
lawyer’s control and if they are not anticipated and dealt with, the motivation that
the scheme is supposed to provide will fail.
Rewards have to be effectively managed to secure the maximum utilisation of
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human assets, and to attract, motivate and retain core employees.
I suggest that these variables fall into 10 the general headings below. My theory is
that to ensure motivation is at its highest, a firm should first identify what variables
are in play for their staff and then secondly find appropriate ways to ensure that
motivation is not reduced as a result of those variables.
Below I will briefly outline each of the variables along with my recommendations for
how firms should address the problems associated with each variable.
P E R FO R MA N CE S YST E M S
Because the purpose of the incentive bonus scheme is to encourage and reward
effort, it is necessary to have some way of linking the rate of work to the level of
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output.
Unless a firm can accurately monitor and record the performance of a lawyer, they
cannot hope to implement this scheme. With performance-related pay,
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remuneration becomes more complex and expensive to administer. If a firm wishes
to adopt this scheme, they need to ensure the appropriate IT systems are in place to
allow a lawyer to record their time and review their work in progress (WIP). Ideally,
the lawyer should be provided with constant updates from the firm showing them
how they are performing for a given month. Modern systems allow for computer
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generated WIP reports and alike which are useful tools for the lawyer.
Recommendation:
The firms need to ensure systems are up-to-(Aitken 2007)date and accurately
recording the hours worked by the staff, the hours billed, and the recoverable fees.
This will result in a transparent measure to assess performance. If firms are not able
to invest in such systems, they should not attempt this scheme unless they are able
to ensure accuracy of records.
C H AR G E - O U T R A T ES
The success of this scheme is going to be highly dependent on what charge-out rate
a particular lawyer is attributed. A lawyer billing at $200 an hour will need to bill 600
hours in a year to make a budget of $120,000 and a salary of $40,000 whereas a
lawyer only billing $150 an hour will need to work an extra 200 hours over the year
to achieve the same salary. Hence this is a vital factor to the success or failure of
2
I. Henderson (2008). “Human Resource Management for MBA Students.”
3
I. Henderson (2008). “Human Resource Management for MBA Students.”
4
I. Henderson (2008). “Human Resource Management for MBA Students.”
5
See examples of such systems at: http://open-tube.com/law-firm-and-case-
management-software-best-legal-software-to-manage-your-cases-easily

5. such a scheme. Budgets need to be both achievable and motivational. For example
if a lawyer is required to record 8 billable hours a day to meet a salary of $40,000,
the lawyer’s motivation may be diminished.
Typically, charge-out rates are determined on a ‘pay for skills or competence’ basis
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whereby pay is based on defined, recognised blocks or modules of skills , which is
effectively legal experience of the lawyers.
Recommendation:
Firms will need to carry out evaluations of their local markets to identify what rates
are appropriate for their solicitors. Next a conversation should take place between
the firm and the staff to discuss the rate. Once a rate is decided, they need to
decided what budget reflects a fair work-load at that rate – both in terms of realistic
milestones and realistic market pressures.
I MP AC T OF L E GA L A I D
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Lawyers working on legal aid files at $105 an hour are faced with a problem. If a
firm is relying on a solicitor to work on a large number of legal aid files, then
budgets should account for this. If other lawyers in similar positions are working on
mostly private files, there will be an inequality in pay unless adjustments are made.
Lawyers’ lack of motivation towards legal aid files has been confirmed in a recent
study in the United Kingdom. It was found that when presented with remuneration
that did not reward the application of extra inputs, solicitors reduced their supply of
such inputs in comparison with previous practice. In contrast, where fee-for-service
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continued to be in place, solicitors raised the levels of inputs supplied.
Recommendation:
If a staff member is working on legal aid files, the firm should have systems to
measure what amount of work is at the lower rate. Once this information is on
hand, an exercise similar to that with the rates should be done to determine what
budget accurately reflects a fair workload at the lower rate. One method could be to
set a budget based on an average charge-out rate – for example if 50% is private
and 50% is legal aid, an average charge-out rate could be used for setting a budget.
If there is a possibility to spread legal aid work amongst staff equally, that would
promote a sense of equality and fairness, further enhancing the motivation of staff.
NON R E CO V ER A BL E F E E S
Often fess may be unrecoverable. Whatever the reason, it is an on-going problem
for New Zealand law firms. In the situation where a bill is written-off, the question
arises to who should take the hit?
There are three different figures a firm can chose to peg the salary on: recorded
hours, billed hours, and fees recovered.
6
I. Henderson (2008). “Human Resource Management for MBA Students.”
7
http://www.lsa.govt.nz/documents/LegalAidRatesandFees.pdf
8
Fenn, P., A. Gray, et al. (2007). "Standard fees for legal aid: an empirical analysis of
incentives and contracts.(Report)." Oxford Economic Papers 59(4): 662-681.

6. The first reflects a lawyer’s actual recorded hours and time spent on a file, the
second is what was actually billed for that work (after any reduction or uplift of
fees), and the third of these is what the firm actually receives in cash.
Depending on the nature of the firm and the clients they service, this will vary. If the
reason for the non-payment was obvious to the lawyer before working on the file
then perhaps, it would be fair to withhold the fee from his budget. However if the
client unexpectedly entered bankruptcy for example, then it may be more
appropriate for the fee to be carried onto the lawyer’s budget.
Recommendation:
The Partners or Principle of a firm enter into ownership because, in most instances,
they wish to pursue a higher return based on a higher level of risk and responsibility.
Part of that risk included bad debts and unpaid fees. Employers should sit down
early with their employees and negotiate what level of risk the employees want to
take on. The higher the level of risk , the higher the salary one would expect.
U N AT T AI N A B L E B UD G E T S
Current legislation prevents commissions being paid if it results in an employee
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being paid less than minimum wage. In law firms the tradition is to agree on a
budget for a set salary which does not change even if performance drops below that
figure. The firm want this figure as low as possible (to avoid over-payment for low
performance) and the employee as high as possible (for higher guaranteed income).
The problem here overlaps with charge-out rates. If an employee is forced into a
lower charge-out rate with a high budget, then it is highly unlikely they will ever
achieve a bonus. Therefore motivation to exceed the budget will be diminished and
ineffective. A firm should be cautious when setting a budget to ensure it is fair and
achievable.
Recommendation:
Budgets needs to be set at a level where they can be reached by the staff. This is
why the earlier steps of setting clear budgets is so important. The motivation of the
budget is so that anything above the budget target – the employee shares the extra
profit, thus adding to their base salary. If the bonus is within a realistic reach,
employees should feel more motivated to exceed their targets. If the targets are too
high and unrealistic they will not serve their task of motivation and in fact may
dampen the lawyer’s morale.
S T O L EN F E ES – T H E P R O B LE M S W I T H FI L E SH A RI N G
When there is more than one fee-author working on a particular file, the problem
often arises over how the fee should be split. Both authors have something to gain
from a higher portion and debate can ensue over how it should be divided. This is
more common where there is a supervisor relationship in which the supervisor or
partner takes the fees and applies only a small portion back to the lawyer doing the
work.
9
See: Minimum Wages Act 1983 and Employment Relations Act 2000

7. Recommendation:
This is essentially an exercise that needs to be taken by the firm. Clear boundaries
should be put in place so that lawyers working on files together have clear systems
in place for how files are to be shared. By having fee-author meetings on a regular
basis, the lawyers should have good opportunities to raise any concerns about how
bills are to be split. Another possibility would be to have a default system where,
unless there is prior agreement to the contrary, bills are automatically split
according to the time spent by each author on the file. This is common place in
some firms already.
THE JUN I O R LA W Y ER
The junior lawyer is particularly vulnerable for all the reasons above. They have no
existing client relationships, legal experience or ability to produce high fees.
Traditionally a firm will make a loss or break-even on a junior lawyer in the first
year. It is particularly important for a new lawyer to be aware of how the TTT
principle works and how it should benefit them more as time progresses.
Recommendation:
The nature of the industry means that junior lawyers are always going to have less
bargaining position and lower remuneration packages. However, it is important that
these junior lawyers feel valued in their work. There is currently a large problem
with retention rates of young layers and one possible solution is to treat them fairly
from day one. In my experience, there is a lack of career discussion within a firm
and this needs to be addressed. By opening communication early with the young
lawyer – particularly before beginning work, the lawyer is able to feel involved with
the plan and valuable even if the pay does not reflect it.
THE FI R M ’ S ABI LI T Y T O P RO V I D E Q UA LI T Y W O R K
A lawyer is placed under added pressure when there is not enough work for them.
This is usually outside of the lawyer’s control. As a result of the dropped work, often
a lawyer’s budget will be negatively impacted.
This can be particularly de-motivational when a lawyer exceeds budget for a period
of time, only to have the bonus eaten away over another period where work dries
up. This is where negotiation is important and monthly or quarterly bonuses can be
explored to give short term goals for the lawyers which are less susceptible to this
problem.
Recommendation:
This will also be a constant threat to any lawyer working inside a firm. Like the
unrecoverable fees, this would be another area where discussions could take place
between the firm and the staff to see what level of risk they are willing to assume.
The detriment of having reduced work could be compensated by the bonuses that
come with brining new work into the firm off the lawyer’s own back.
However the firm organises this, there needs to be a compromise between the
lawyer’s bonus for hard work and the need of the firm to make a profit. By
introducing a quarterly bonus – employees are less exposed to the market risks and

8. are able to receive guaranteed rewards for their hard work across busy periods.
There is an element of risk here to the employer so again early communication and
negotiation is going to be key.
B I L LI N G P R A CT I C E S O F T H E FI R M
If a firm has chosen to compete solely on price in a local market then there will be
high fee-reductions for work. A lawyer may work 5 hours on a house purchase only
to find they can only bill the client $200. A common example is the firm who offers
clients a free will. The lawyer doing this work often suffers at the hands of these
policies. In comparison, some firms allow and in fact encourage uplifts of fees to
which employees benefit from the policies.
Firms need to be clear how they will compensate staff for reduced work. Firms
should limit this kind of work and spread it evenly across all staff to maintain
fairness and a good level of motivation for the employees.
Recommendation:
A firm should always be looking at ways to increase revenue for its services. If bills
are constantly being discounted, it perhaps offers an opportunity for the firm to
self-evaluate why that is the case. Employees need to know that their hard work will
be rewarded in some manner, so a reduction is a serious blow to their esteem.
If the firm wants to reduce a bill, it is supposedly for some strategic benefit to the
firm – not a result of lack of quality of the lawyer’s work. For that reason, like the
recoverability of fees it should be a cost that goes with owning the firm. If the firm
insists on reducing some fees without remuneration, then they must at least allow
the lawyer to increase their fees when appropriate to balance out the exercise.
G EO G R A P H Y AN D N AT U RE OF THE FIRM
Finally the remuneration will need to be dependent on the firm itself. A study of
Indiana Law graduates showed that job satisfaction was not necessarily linked to
salary as the author’s hypothesised. Noting that both income and job satisfaction
were desirable, they hypothesized that those lawyers in the types of practice with
higher average income were trading job satisfaction for higher income, while those
in the types of practice with lower average income were trading income for higher
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job satisfaction. The results were inconclusive and it was found that both salary
and job satisfaction were important and generally employees would not be happy to
sacrifice one for the other. There is an important lesson here for firms – that to truly
motivate an employee there needs to be a balance of both job satisfaction and pay.
Firms particularly in cities are also more vulnerable to lose junior lawyers to rural
firms. An Australian study looked at motivating factors for lawyers who moved to
rural firms (the majority of which were junior lawyers). The chief among these
reasons were the nature of the work and professional development opportunities
10
Stake, J. E., K. G. Dau-Schmidt, et al. (2007). "Income and Career Satisfaction in
the Legal Profession: Survey Data from Indiana Law School Graduates." Journal of
Empirical Legal Studies 4(4): 939-981.

9. offered, the opportunity to save money, lifestyle, including social and community
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networks and distance from ‘home’.
Given the various benefits for moving to a rural firm, city based firms particularly
need to ensure they strike the right motivation for their junior lawyers to ensure
retention.
Recommendation:
Whatever the size of the firm, there needs to be transparency and open
communication between the staff and the firm. The TTT principle is used to
motivate staff, so firms need to keep in mind the principles already discussed above.
Realistic budgets and fair workloads need to be set, no matter the location or size of
the business. If an employee is constantly underperforming compared to their
budget, the firm needs to evaluate whether that is due to performance or the
nature of the budget and the work being asked of the lawyer. If it is not a matter of
performance, then the budget and workload should be adapted so that it accurately
reflects a fair load.
C ONCLUSION & R ECOMMENDATIONS
Given the above, it seems that the risks for the employee significantly outweigh
those for the firm. The presence of any of the variables above will impact on the
motivation levels of an employee. The default benefit is with the firm and it is only if
some negotiation is made to deal with these variables that the employee begins to
benefit from the scheme.
A firm should undertake an evaluation of staff to see what variables are in play. The
firm then needs to look at how it can accommodate those to ensure that the
employee remains motivated.
If the firm balance things right, they should hopefully end up with happy, motivated
staff that will stay with the firm for years to come.
11
S. Forell, M. Cain and A. Gray (2010). “Recruitment and retention of lawyers
in regional, rural and remote New South Wales.”