Few may sympathise with British law firms’ growing difficulties in managing their costs and profit margins. In fact, some would likely cheer.
After all, lawyers come in for as much opprobrium at dinner parties as estate agents and journalists. Generally, the best advice to anyone contemplating legal action is: “Lie down in a dark room until you have come to your senses”.
However, crocodile tears aside, things are tough for the country’s legal profession and the situation is getting more difficult as costs rise.
Legal Business reported in September that Britain’s “magic circle” of elite law firms, many of which occupy prime offices in London, had reported a 1% drop in combined earnings to £20.6bn last year.
Deloitte said in its quarterly legal survey that although most firms had enjoyed a “reasonable start” to the financial year since May, many were “concerned that rising costs could make it difficult to maintain and increase their profitability this year”.
Fee income has generally started to improve this year, helped by the current boom in mergers and acquisitions, but some of the capital’s biggest law firms are still losing ground, and often to more competitive US rivals.
Many of the best-known law firms in London such as Clifford Change, Allen & Overy, Freshfields, DLA Piper and Hogan Lovells are coming under increasing pressure. Other firms that have carved out a niche, such as the independent Slaughter & May, are faring better.
With US and English law accounting for at least 80% of all global legal spend, it is not hard to see why all these firms are jostling for position and advantage.
One of the outcomes of this competitive squeeze has been increasing consolidation among law firms, particularly within the mid-market sector. Buying or merging with a rival can create both cost-saving synergies and forge new fee income streams.
Data from Thomson Reuters shows that the total value of dealmaking in the global legal services sector rose from $42.6m (£30.8m) in 2005 to a high of $728.3m last year. This year deal volumes have hit $198.6m with more expected next year. This significant increase in annual activity has helped push total deal volumes to more than $3bn during the past decade.
Thomson Reuters added that the top “target nation” was the UK, where in the past 10 years $1.5bn of legal M&A transactions have taken place. Law firms in the UK and US have also been the most aggressive acquirers, carrying out 808 of a total 1,224 deals since 200 5.
This consolidation is only likely to continue, not least because the recent rapid growth of US law firms in London is having a significant impact on the market.
At a time when a range of British companies, notably banks and the wider financial services, are facing intense scrutiny from US regulators, it is sometimes the case that only US firms can advise credibly on access to the all-important US capital markets and the country’s regulatory system.
This added advantage plus the greater profitability of the US firms, which were far more nimble in restructuring after the banking crisis, is putting even more pressure on English law firms to reduce their cost base while at the same time enhancing their skills and usefulness to clients.
Charlie Geffen, chair of the London corporate practice at Gibson Dunn & Crutcher, which is advising Marriott Hotels in its $12.2bn takeover of Starwood Hotels & Resorts Worldwide, said that not only would consolidation continue but that the law firm’s real estate strategies would have to adapt also as the sector underwent structural change.
He told me that, for example, higher fee-earning advisory work required a much smaller number of associates per partner, so that clients were guaranteed “face time” with senior partners. However, lower-margin “execution work” on deals involved many more associates than partners.
Geffen said: “There is clearly a trend for the big law firms, aided by technology, to shift more execution work and therefore more people out of London to places such as Belfast, Glasgow and Manchester. I would expect this to continue.”
Deirdre Hipwell is mergers and acquisitions correspondent, The Times
