In David Maister’s article "Are Law Firms Manageable?" on the seemingly intractable challenges to law firm management, he points out only half facetiously that firms may get away with perpetuating these inefficiencies because there is no competitive fallout: "The greatest advantage that lawyers have is that they compete only with other lawyers."
The time may be fast arriving when that is no longer true.
Australia’s Slater & Gordon is the world’s first publicly traded law firm. S&G went public in May 2007, the first IPO for a law firm after new legislation went into effect Down Under permitting investment by non-lawyers. Last February, the firm reported net profit of $8.46 million for the six months ending Dec. 31, 2008, a 22.4% increase over $6.9 million the prior year. S&G’s revenue increased 35% to $50.5 million over the same time frame. The firm expects earnings to rise into the second half of 2009.
At the time of its listing, the Melbourne-based plaintiffs firm, known for its contingency fee personal injury work and securities class actions, had a market capitalization of $89.7 million and gave stakes worth between $2 million and $8.5 million to seven equity partners.
Meanwhile, on the other side of the Pond, Lyceum Capital became the first investment house to openly target legal services, positioning itself ahead of a law similar to the one in Australia–the 2007 Legal Services Act–which comes into full force in the UK in 2011. This act also authorizes the investment in and management of law firms by non-lawyers, and could produce what some have termed the most liberal legal market in the world.
Lyceum Capital has raised over $500 million and intends to take minority and controlling stakes primarily in midtier midmarket firms with revenues of 20 million pounds plus who are doing bulk work and who would benefit from outside investment for purposes of carrying out a merger, developing a new practice area, and funding expanded IT systems.
According to Lyceum Capital’s Managing Partner Jeremy Hand: "Law firms are businesses. We are not pretending we are lawyers but we can help businesses develop — whether through giving advice, overhauling IT systems or allowing them to grow with new hires."
He added that lawyers "think they are in a competitive industry but they do not appreciate how different it is in other sectors. This will change the entire business landscape. There is no doubt in my mind there will be winners and losers in this situation: Firms cannot be complacent. There is no guaranteeing firms at the top of their game now will be there in a few years’ time."
To some, it is clear that the outside investor revolution is not coming to the U.S.–"It’s a perpetual conflict, at least potentially, with non- lawyers controlling a law firm,” says Steven Krane, the chair of the American Bar Association’s ethics committee and a partner at New York’s Proskauer Rose. "There’s very little interest in changing the rules.” That said, in response to another change in the market–the avalanche of lateral hiring–the ABA has not balked at changing the ethics, and specifically the conflicts, rules to clear the way for laterals to move in and out more easily.
Law firms, which could use capital to expand and fund cases, are grappling with the arrival of public offerings in the same way as did the old guard investment banks. Another industry once dominated by private partnerships, it began the transition to public ownership 30 years ago. Financial pressures on other banks mounted after Merrill Lynch & Co. listed its shares in 1971 in what became increasingly obvious as a competitive advantage, culminating in Goldman Sachs Group Inc. becoming the last major investment bank to make the change in 1999.
"If the English firms can sell stakes in their law firms publicly, that will then give them an advantage,” said Ralph Baxter, the chief executive officer of the 924-attorney San Francisco-based firm Orrick, Herrington & Sutcliffe. And off to the races we go.
For purposes of comparison at the time of S&G’s listing, an American Lawyer article attempted to attach capitalization values to several Wall Street law firms, grouping them into "blue chips"–Cravath, Swaine & Moore, and Wachtell, Lipton, Rosen & Katz, "multinationals"–Skadden, Arps, Slate, Meagher & Flom and Latham & Watkins, "growth stocks"–Dechert and DLA Piper, and "small caps"–Pepper Hamilton and Womble Carlyle, and arriving at equity market capitalizations of from $552 million (Womble Carlyle) to $2.9 billion (Skadden, Arps).
Those numbers look mighty healthy to the partners who have seen not only a slowing in profit growth but even decreases in profits over this past year. With no quick rebound in sight, there will be increasing pressure from partners of U.S. law firms on management to explore, and if required, work to legitimize the option of obtaining public investors.
And if non-lawyers are not yet investing here in the U.S. in law firms, they are already investing in litigation.
A $100 Million Wager
Juridica is a publicly traded UK fund that invests in plaintiffs commercial litigation in the United States. This spring the company announced that it had completed a second round of financing, raising 33.2 million pounds (about $47 million) on London’s secondary exchange, the Alternative Investment Market, after an IPO in December 2007 of 74 million pounds, making a total of over $100 million available for investment.
Juridica is not the only hedge fund betting on litigation. There are several such investors in U.K. litigation, including a fund under the auspices of Allianz, the insurance company. In the U.S., according to Juridica CEO Richard Fields, Credit Suisse is a major player in the commercial litigation funding market as well.
Evidently Juridica has already taken an equity interest in 17 large commercial cases, most of them in the U.S. One case and one law firm loan paid off by the end of the year, so Juridica offered investors a 4.6% dividend.
Fields says general counsel seeking alternative billing arrangements with law firms have
created opportunities for Juridica. "Having an outside investor that takes an equity piece is not that big a leap," he said. "In a way, our timing was fortunate. The recession created more interest in spreading risk."
Who Needs the Money Anyway?
Lyceum Capital is only one of three private equity funds that have sprung up in anticipation of the implementation of the Legal Services Act of 2007 and there are several litigation investment firms already.
With the tightening of credit, says Simon Johnston, senior partner of the 550-lawyer London firm Nabarro, "people will be thinking about their options."
The major Magic Circle firms have said they are not interested because they don’t need the money. "Why would we need the money?" Allen & Overy managing partner Wim Dejonghe asked.
Why indeed?