Yesterday, the AmLaw 100 Annual Financial Survey came out, and it offers an interesting picture of where the bigs are and perhaps where the industry is going.
I also listened to an ALM webinar yesterday in which there was a fascinating discussion about the findings among Nick Bruch, am ALM analyst, Dan Packel, an ALM reporter and Gina Passarella, Editor-in-Chief of The American Lawyer. One of the big topics of discussion by the panel: what happens if and when there is a recession.
Here are some takeaways from the data and the discussion and then some of my predictions.
First, the glass is half full: the AmLaw 100 saw another year of growth both in revenue (8%), profit (6.5%) and the all-important profits per equity partner (PPP) (6.5%). All of these numbers were better than last year. The top 10 of the AmLaw 100 had even better years.
The glass is half empty: the data may mean hard times if or when we have an economic recession.
The glass is half empty: the data may mean hard times if or when we have an economic recession. Law firm financials to some extent follow the overall economy, and when the economy goes sour, change happens: the most significant downturn and, I daresay, change maker in the legal profession that we have ever known occurred with the Great Recession in 2008. So what do the numbers tell us, if anything, about what could happen in the next recession?
The Next Recession
First, as Nick Bruch, one of the more astute observers of the legal marketplace, put it, 2018 could have been and should have been a better year than what it was. Nick’s view is that we may be close to the peak of economic expansion and that a recession is on the horizon. If that assumption is correct and you compare the state of the AmLaw 100 at the time of the last economic peak in 2007, the picture is not so rosy. In 2007, for example, there was more significant growth by more firms than there is today. Another troubling sign: PPP of the AmLaw 100 firms, in general, grew less than the year before and only barely kept ahead of inflation.
And a lot of the growth in many of the AmLaw 100 in 2018 was international, not domestically. Dan Packel noted that this work is, by and large, less profitable than domestic work. If and when a recession hits, this fact will create chasms within firms as financial pressures will cause domestic partners who see their profits shrink be much less willing to subsidize international practices.
Another interesting finding: the ranks of nonequity partners in AmLaw 100 firms continued to swell as firms try to place marginal partners in the nonequity categories to make the overall financial picture look better and also perhaps to avoid making hard decisions. These chickens too could come home to roost in a recession: these nonequity partners would be the first to be jettisoned.
They are either hiding their heads in the sand, or they are scared shitless and believe that even acknowledging the risk might make it more likely to happen.
One other point the panelists mentioned: most of the members of firm leadership they talked to deny any concern whatsoever about encroachment on their business by the big 4 or other alternative legal service providers. They are either hiding their heads in the sand, or they are scared shitless and believe that even acknowledging the risk might make it more likely to happen. Based on what I’ve seen and heard, I tend to think it’s the former not the latter. If a recession hits, the big 4 with better organization, automated processes and improved client service could be poised to strike.
Perhaps one of the most telling signs for the future, though, is the fact that there was a greater disparity between the super-rich, (the top 10 to top 25 of the AmLaw 100) and the rest of the pack. These super-rich firms grew faster than the rest of the AmLaw 100 and had continued better performance. They also tended not to discount fees, are still able to routinely raise their rates and by and large had fewer, if any, write-downs. The rest of the pack have generally had just the opposite experience.
Another interesting observation by Nick: the rest of the pack seems more likely to seek out and engage in mergers hopes of better competing with the super-rich, although the evidence is by and large that financially these mergers are not particularly effective. Thinking merger will make you bigger and bigger is all you need to compete with the top 10 is folly.
What does all this mean? Assuming that a recession is coming and that, as in 2008, it will be a cataclysmic type event that enhances the changes already slowly occurring, here are some of my predictions.
The gap between the super-rich and the rest of the pack will widen. The firms that are global and top of mind will not only survive but will get stronger as the really bespoke work flocks to them. (Geography will continue to be less and less important). And these firms will likely more and more seek to automate and reduce the time spent on commodity work to meet client cost pressures and retain the bespoke work.
The gap between the super-rich and the rest of the pack will widen. The firms that are global and top of mind will not only survive but will get stronger as the really bespoke work flocks to them
The legal work mix that used to be a pyramid:
with the skill and ability to command high prices being a sliding scale as you worked your way down, will start to look more like this:
The work in the square under the pyramid is commodity work which will be done by ALSPs, the big 4 and will be more and more automated.
What this means is that the firms with less well known and less subject matter expert lawyers will find more and more of their work falling within the square and not the pyramid. The work in the square is that work that can be better automated and done by alsps, including the big 4 or by ancillary businesses of the top tier law firms. Midsize firms that depend on this work could be in for a very tough time.
I think we will see in the not so distant recessionary future some sort of formal combination between one of the top 10 super-rich firms and a big 4 accounting firm.
One more prediction: I think we will see in the not so distant recessionary future some sort of combination-merger, alliance, most favored nation, etc.—between one of the top 10 super-rich firms and a big 4 accounting firm.
Why? It makes too much sense. It would enable both entities to reach more clients than ever before and better provide the one-stop, frictionless experience their clients want and need. Moreover, it will let both entities do what they do best without trying to do what the other does. Certainly, there are logistical, but with less profitable international practice sitting out there and a more profitable but declining domestic base, these roadblocks are not insurmountable particularly if we have a recession and necessity demands it.
Experience shows us that good economic times masks many problems and feeds inertia. The AmLaw 100 data seems to fit squarely within this matrix. Times look good despite some long-festering problems and challenges for which change is not yet demanded. But when things go south? All bets are off,
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