The predicted comeback year for the UK legal elite instead turned industry trends and conventional wisdom on their head. Legal Business jumps down the rabbit hole and tries to make sense of it all.
‘Now, here, you see, it takes all the running you can do, to keep in the same place. If you want to get somewhere else, you must run at least twice as fast as that!’ The Red Queen, Lewis Carroll, Through the Looking-Glass
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A revived economy, booming deal and property markets and healthy levels of contentious work promised to make 2014/15 the year when lean and battle-hardened UK law firms cashed in after seven years in the post-Lehman wilderness.
Except it didn’t happen. The London legal market instead went down the rabbit hole, with the traditional pace-setters and market leaders overtaken by a batch of ambitious mid-tier City firms and rebounding stalwarts.
While revenues and profits per equity partner (PEP) soared at many UK-focused firms, those with global empires by and large suffered amid adverse currencies and trading conditions in the eurozone, intense competition and pricing pressure in Asia and menacing inroads of US advisers in the City.
LB100 total revenue and profits: the past ten years
That, combined with the exit of SJ Berwin from the 100 largest UK law firms since merging with Hong Kong-headquartered King & Wood Mallesons (KWM), has seen the total turnover of the UK’s top 100 law firms fall for the first time since 2009/10.
Their combined income now stands at £20.64bn, a 1% fall on the £20.82bn achieved in 2013/14. The pace of growth generated during 2013/14, when the group recorded a 9% increase in turnover, has disappeared. While that growth was supported by a run of consolidation, even if KWM had stayed in this year’s table, the group would have only eked out a 2% rise.
The number of lawyers employed across the top 100 dipped by 2% last year to 64,024 (it would have marginally risen had KWM still been included).
At no time in recent memory have such benign trading conditions resulted in such indifferent results, at least for law firms that derive much of their business from outside the UK. Underlining the current convention-challenging feel to the world’s second largest legal market, only two firms in the top 25 posted double-digit percentage increases in turnover – Pinsent Masons and Addleshaw Goddard – two firms written off in some circles as also-rans rather than pace-setters.
While DLA Piper has maintained its position as the UK’s largest law firm it can no longer claim to be the world’s largest as revenue dropped by 4% to £1.5bn last year. DLA Piper was not alone, with major City players Clifford Chance (CC), Hogan Lovells and Ashurst also experiencing a fall in income, while Linklaters and Freshfields Bruckhaus Deringer struggled to achieve any meaningful growth.
Such figures underline what was a disappointing year for London’s top firms, with London’s Big Four global firms and the chasing pack treading water as a group.
Aside from Allen & Overy (A&O), which posted by far the best performance of the Big Four and in doing so overtook Linklaters to become the third-largest UK firm, the standout performers came largely from mid-tier practices with a heavy UK focus. Indeed, Simmons & Simmons – the standout chasing pack performer – made up more London partners than Linklaters at the start of 2015.
LB100 headcounts: the past ten years
David Aitman, Freshfields’ outgoing managing partner, says: ‘Europe was up and down at the beginning of the year. Spain had a flurry and then that spike dropped.’
Wim Dejonghe, global managing partner of A&O, adds that ‘the results show competition is increasing’ and puts the firm’s performance down to ‘countercyclical investment through the downturn’. A large part of that investment has gone to the firm’s US law practice, with Dejonghe arguing that UK firms will need to work hard to supply US law across their networks as it becomes more popular with clients. ‘You need to offer clients a diverse portfolio,’ he says. ‘Since 2008 we can offer everything, from high yield to US bonds. US law is becoming more important in Asia now too.’
Down the rabbit hole
The last financial year will stand as one of the very few where the top 100 has undershot the UK economy, with GDP up 2.6% in 2014 and the latest government figures forecasting growth of between 2.3% and 2.5% in 2015.
In contrast, this year’s Global 100, driven by the results of US law firms, found the world’s top 100 firms clocking up 5% growth to $92.87bn, well ahead of the US economy. While the sharp slide in the euro against sterling effectively knocked 2% to 4% off revenue for many of the largest UK-based law firms – it was a subdued performance for leading London firms even in constant currency terms.
True, there were challenges in the market. Despite a revived domestic market in the UK, the 2014 Scottish referendum and this year’s general election have both acted as a break on deals, while a bigger challenge came in the latest round of fraught talks over Greece’s membership of the eurozone.
The division of wealth: 2005 and 2015
Still, such concerns were, according to most managing partners, offset by a broad-based revival of confidence in the UK and a renaissance in London’s property market. Indeed, 2014/15 was the first year since 2006 when the UK appeared to be outpacing many major global economies.
Across the Legal Business 100, revenue per lawyer rose by 1% to £322,000, while a stronger rise in PEP by 4% to £667,000 came at the expense of some partners as 14 of the 25 largest UK firms cut the size of their equity ranks. This is around half the pace of growth achieved by the 100 biggest UK law firms in 2013/14.
On most measures the Magic Circle had a poor year, despite robust levels of transactional and regulatory work benefiting their core financial services and corporate practices. Collectively, London’s Big Four have had revenue growth of just under 13% over the last five years, barely tracking inflation. Comparable US rivals have generally posted growth over that period of between 25% and 50%.
Although their combined revenues moved up by 1% to £5.14bn, average PEP across CC, A&O, Linklaters and Freshfields stayed at £1.27m.
Perhaps the most surprisingly subdued performance has come from Freshfields, given that the firm has proved resilient to losing key partners and has been relatively successful in building its US practice.
An 8% fall in PEP to £1.37m leaves the average equity partner just £2,000 better off than their peer at Linklaters. Five years ago Freshfields stood head and shoulders above its Magic Circle rivals in the salary stakes, with equity partners typically averaging around £250,000 more than those at Linklaters and £300,000 more than those at A&O. Now it is the only Magic Circle firm to have a lower level of PEP in 2015 than in 2010 and its closest City rivals have caught up.
Aitman responds: ‘We’ve developed very strong transactional, regulatory and contentious practices over the years, which have helped deliver a very solid financial performance against strong currency headwinds. We believe we are well placed in the year ahead to build on our position as the leading integrated international law firm providing high-value advice to clients.’
Linklaters managing partner Simon Davies, meanwhile, highlighted the impact of currency movements and continued problems in the eurozone, arguing that his firm had performed strongly after winning a range of big-ticket mandates and achieving strong growth in Asia.
Davies added: ‘We’re supplying about 1% of the legal services market so the scope to grow is significant. I accept that growth will be at the cost of someone else, but that was more true three years ago than it is today. Even though we’re not seeing growth of the same level as we experienced pre-financial crisis there is still growth in the market. We feel we’re doing well in client wins, which should result in market share growth, and we will enjoy that together with taking some of the growth in the legal sector at large. We enter this new year with good momentum.’
The relatively downbeat picture was reflected across the top 25. There are still only seven UK law firms with income of more than £1bn, the last addition to the club being Norton Rose Fulbright (NRF) following a 2013 tie-up between Norton Rose and Fulbright & Jaworski.
This understated performance was most evident among the UK top 25, which constitutes well over half the revenue generated by the UK top 100.
Ten of the top 25 firms had zero or negative growth in the last financial year, compared to just one in 2013/14 when Squire Patton Boggs saw its revenues dip 1%.
The falling revenue at DLA Piper, which has been making strenuous efforts to push its practice upmarket at the expense of turnover growth, was matched in percentage terms by Ashurst in taking the biggest fall among the top 25 firms.
Ashurst, which reduced its lawyer headcount by 7%, suffered a £25m fall to its topline as it saw dealflow ebb away during the second half of the year.
The firm was affected by slowing activity in its large Australian practice, contributing to its PEP falling below rivals Herbert Smith Freehills, Hogan Lovells and Eversheds.
Underlining the reversal in fortune between the once more dominant top 15 City firms and smaller rivals – Ashurst’s profitability is now considerably trailing that of UK-focused rivals in the private equity and mid-market corporate space – such as Macfarlanes and Travers Smith.
Like Ashurst, NRF has struggled to sustain growth in the wake of a major international tie-up. The firm saw revenues dip 3% to £1.12bn, while PEP slipped below £400,000, well beneath its peers.
With Hogan Lovells experiencing a fall in revenues and Herbert Smith Freehills posting relatively flat results – the chasing pack failed to take the opportunity of a soft performance by the Magic Circle to make up ground.
NRF chief executive Peter Martyr comments: ‘Our figures are funny to understand, I accept that, but not bad considering what we’re doing. We’ve had a massive spurt of growth and we need more adjustment and alignment to make the business uniform across the world. We’ve set ourselves a five-year period to do that. When Coward Chance and Clifford Turner merged the world was simple. If you multiply that by the speed at which everything happens now, it’s more difficult.’
Humpty dumpy back together
Aside from another confident showing from global insurance pioneer Clyde & Co, which reaffirmed its position as one of the most consistently strong performers with revenues up 8%, the most notable performances in the top 25 came from a group of firms that had suffered major reverses in recent years or been dismissed as losing their relevance.
The four UK-focused pace-setters made up of Pinsents, Simmons, Berwin Leighton Paisner (BLP) and Addleshaw Goddard all generated respectable revenue growth, with Pinsents and Addleshaws putting in 12% increases.
Lisa Mayhew, BLP’s newly appointed managing partner, puts the result down to ‘financial discipline’ and a ‘strong run in real estate, corporate and disputes’.
The annual change in partner profits across the LB100
While Pinsents and Addleshaws have also benefited from a booming UK real estate market, the biggest contribution to their steep rises in revenue came from their strong ties to London’s financial services hub. Pinsents managing partner John Cleland comments: ‘We have outperformed the market and it is quite a staggering performance. It reflects a general improvement in the UK economy and firms with a strong imprint in the UK market have seen the benefit of that. Financial services was the standout sector and within practice areas planning and real estate have been particularly strong.’
This group of firms also benefited from the high volume of litigation in the City. Jeremy Hoyland, managing partner at Simmons, says his firm ‘has yet to see any reduction in litigation work’ and ‘continues to benefit from a long pipeline of financial services disputes and government investigations’.
Clyde & Co, whose strategy has been shaped around its core shipping practice, disputes and careful expansion in emerging markets, put in another strong year in 2014/15 on the back of this business plan. Senior partner James Burns says ‘the decision to form an international arbitration group to target commercial disputes has seen the practice grow significantly, with 40% growth in the UK alone to make us one of the biggest users of the London Court of International Arbitration’.
The wider question remains now as to whether these trends will continue in the years ahead – and what the impact on the legal market will be if the mid-tier continue to overturn the well-established hierarchy of the legal profession.
Larger UK law firms are increasingly moving away from revenue growth to a focus on quality, profitability and cross-selling across borders. As DLA Piper’s co-chief executive Simon Levine puts it: ‘It’s no longer about revenue; it’s about profitability and making you focus on your strengths to win high-quality work in those areas.’
Martyr picks up the theme, warning that NRF ‘needs to be in the places we are effective but not get too big’. He argues: ‘One of the reasons for being global is being able to handle the globalisation of the product and to do it in a modern and different way based on efficiency and smart technology – throwing away a lot of our conventions. We’re entering a phase as a profession where we focus our attention on quality control and focus of core practices and sectors and that’s a difficult job’.
However, it is beyond doubt that the ability to sustain medium-term organic growth is a huge asset to a commercial law firm – greatly bolstering its resources for strategic investments, helping to retain key partners and boosting firm morale.
Neither is it sustainable in the long-term for the UK’s largest 15 firms to be comprehensively outclassed on this measure not just by US rivals above, but mid-pack rivals below. That flies in the face of the story the profession’s leaders have been telling their own partnerships for years.
All the signs are that the UK legal economy is growing at a substantial rate – firing the expansion of an increasingly sizeable in-house profession, profitable foreign outposts for foreign firms and a small but emerging band of alternative providers. But a surprising number of the UK’s legal elite aren’t tapping into that growth.
The way Simmons chief Hoyland sees the next chapter going? ‘There’s no reason why we can’t become as big in London as a City office of a Magic Circle firm. I see no barrier to our growth.’ LB
tom.moore@legalease.co.uk; jaishree.kalia@legalease.co.uk
Legal Business would like to thank Al Tamimi & Company for its sponsorship of the Legal Business 100.
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