Yesterday, ALM released its financial summary for the AmLaw 200. (The AmLaw 200 consists of firms whose gross revenue is lower than that of the top 100 firms but above that of firms 200 and down. I previously discussed ALM’s findings concerning the financial picture of the AmLaw 100). ALM summarized the results yesterday in a webinar held by Gina Passarella, Editor in Chief of the American Lawyer, Ben Seal, an ALM Managing Editor, and Nick Bruch, ALM analyst.
The results: like Sergio Leone’s old spaghetti western film, the financial status of the AmLaw 200 can best be described as some good, some bad and some really ugly. First, as Passarella, Seal, and Bruch were quick to point out, the AmLaw 200 is a really diverse group of firms. It includes smaller boutique type firms, lots of general corporate practice firms, some local firms, and some regional firms. (My old law firm, Frost Brown Todd, is in the AmLaw 200 and was a regional firm with offices in eight states).
So, generalizations and sweeping statements are hard. But, Passarella, Seal, and Bruch were able to find patterns that suggest that the general practice, “be all things to all persons” firms many of whom are in the AmLaw 200 may face some particular challenges in the near term. I would add in my view there are challenges across the board for mid-sized AmLaw 200 firms.
The good news is that the AmLaw 200 showed the best growth overall since the great recession. 3.1% growth in revenue, for example, was the best since 2012. 2.9% growth in net income. 2.6% growth in revenue per lawyer more than kept pace with inflation. Some of the AmLaw 200 did very, very well indeed in 2018. On the surface, the picture looks pretty good. But underneath the numbers are some statistics that are, frankly, alarming.
3% growth is better than nothing, but the webinar panel yesterday correctly wondered whether entities that are growing at this rate are frankly sustainable on a long-term basis.
Technology and innovation will more and more be table stakes to compete for business, and that costs a lot of money. When those costs can be spread among 1000 lawyers, it’s one thing. When they have to be spread among 200 partners, that’s another.
Why? First is scale. The cost to play in today’s legal market is significant and growing. Technology and innovation will more and more be table stakes to compete for business, and both cost a lot of money. When those costs can be spread among 1000 lawyers, it’s one thing. When they have to be spread among 200 partners, that’s another. And it’s a catch 22: it’s harder to convince 200 partners to agree to incur significant firm costs because the personal financial hit will be so much greater on them than their brethren in a 1000 partner firm. But if they don’t do it, they get further and further behind. As they get further and further behind, their clients become easy pickings for larger, national firms and alternative service providers like the Big 4 accounting firms. Indeed, as previously discussed, the Big 4 are already circling like sharks eyeing this business.
And there is some evidence this is already happening. One-quarter of the AmLaw 200 actually shrank in size according to the Survey. One half was less profitable this year than last. If you took out the top 10 revenue growing firms, the actual growth of the remaining firms was a paltry 1.7%, a percentage which definitely did not keep pace with inflation. In the pre downtown times, the AmLaw 200 revenue grew at about twice that of the general economy, now it’s only one third. And compared to the AmLaw 100, the 200 were clearly outperformed. All of this with a recession looming somewhere in the background.
Now to get to the ugly news: much of the AmLaw 200 is facing uphill and perhaps insurmountable challenges. First, as pointed out above, its really hard for them to put in place the systems they will need to compete. You have partner reluctance based on the real financial hit and, honestly, a general reluctance to want to do things differently. (According to the 2018 Altman Weil 2018 Law Firms In Transition Study, 69% of law firm leaders say their partners resist most efforts to change and 56% say their partners are blissfully ignorant of how they could do things differently). Since most of the “new” increases efficiency in the delivery of service, i.e., less billable hours, adoption of the “new” not only costs but also adversely impacts revenue in a direct way. This can quickly spin out of control: more pressure to get billable hours up, work done inefficiently, clients become unhappy, and the firm falls further and further behind.
And this then leads to the destruction of the one cost advantage mid-level firms can offer: the ability to do specialized work at lower rates than the AmLaw 100 firms.
And this then leads to the destruction of the one cost advantage mid-level firms can offer: the ability to do specialized work at lower rates than the AmLaw 100 firms. Some clients might be happy to have overall legal costs increase (i.e., more time spend on the matter) just to get a lower rate, more more clients will see through this (Sound ridiculous that a client would take a lower rate knowing that the time spent might be more than it would be otherwise? Isn’t this precisely what happens with most rate discounts? The hourly rate is low, but the time spent, and overall cost is often more). And as legal expenses and fees of outside lawyers become more transparent, the inefficiencies will become glaringly apparent. (Based on my recent attendance at CLOC, the number of vendors offering more and more sophisticated tools for gauging lawyer performance and efficiencies is growing, a subject of a future post.)
The webinar panel did offer some solutions: Passarella wondered whether there might always be room for a local firm: the best law firm in Louisville, for example, could mine an extensive referral network and appeal to local businesses. Certainly, there will always be a place for a local lawyer. But here’s the problem: geography and place matter less and less in the doing of legal work. And if there is a substantial amount of referral work and local business, those “best in the city” firms risk being gobbled up by large firms with national practices who are interested now more than ever interested in growing domestic work, a point made by a similar ALM panel when discussing where the AmLaw 100 results.
Another idea floated by Bruch and Seal: AmLaw 200 firms should take a careful look at who they are, where they want to go and grow, how to give their clients what they need and then purposely pursue work that falls into defined categories. Sounds great but the corollary to this is that it requires jettisoning work that doesn’t fit the plan. Makes sense but: jettisoning work is not easy.
Law firms, because of their structure (consensus based) find it hard to make strategic decisions like jettisoning business or even partners. These decisions become even harder when and if business starts contracting
Law firms, because of their structure (consensus based) find it hard to make strategic decisions like jettisoning business or even partners. These decisions become even harder when and if business starts contracting: you want to get rid of business that produces revenue in a downturn? Try selling that one to a room full of lawyers who think they are master business people.
And even if you are successful in becoming more focused as a firm, the net result may be acquisition anyway by a large firm seeking to grow and seeing an opportunity. Not to mention the fact that raiding of profitable practice groups within smaller firms is becoming more prevalent. Acquisition is attractive because it not only grows domestic business, but it also gets you toehold in a locale that a bigger firm may want. After all, profitable business is profitable business no matter where it is.
Where’s all this headed? Based on the cost and scale issues alone, I think we are headed toward more and more consolidation. Combined with a shrinking world where geography is less important, we may be headed toward a Big 10 or so of law firms with national brands dominating the market. As this develops the gap between the haves and have nots will obviously grow significantly—we are already seeing this in the stark financial, statistical differences the 2018 numbers paint.
My advice for AmLaw 200: find your strength, brand it, and focus on it. Make the hard decisions, and when the time is right, and opportunity comes knocking, be ready to grasp it if you want to stay in business. Be strategic about technology: look carefully at your strengths and then invest where it furthers those strengths not just generally. Focus on client service: if you can offer a more efficient cheaper process that gets just as good a result, you still have an advantage. But you have to be able to stand out in a competitive field. Lower rates alone won’t get you there, particularly in the future: you will have also have to be more efficient.
I’m afraid not many law firms, especially mid-size ones, will be able to make these kinds of hard decisions. It could be a long cold winter for them.