“Stunning Profitability,” Rates, and Real Estate

Despite Covid, profits per equity partner (PEP) among the AmLaw 100 grew  22% for the 12 months ending November 2020, according to law firm data collected by Thomson Reuter’s Peer Monitor and included in its recent State of the Legal Market Report.  To analysts Hugh Simons and Joe Blackwood, AmLaw’s surprising performance “reinforces the view that the value clients derive from legal services is, at root, assurance in the face of risk and uncertainty” (The Lessons and Implications of Big Law’s Stunning 2020 Profitability, Hugh Simons & Joe Blackwood, 1/25/21, The American Lawyer).  Despite the contraction in the economy, hours billed will likely be only 1-2% lower than 2019 (Stunning Profitability).

Simons and Blackwood explain that PEP growth was not due primarily to overhead cost reduction of 5-6% across AmLaw.  Since overhead represents 25-30% of revenue and since profit pools equate to roughly half of revenue, a 5-6% decline in overhead only yields a roughly 3% increase in PEP (Stunning Profitability).

Simons and Blackwood argue that the biggest driver of PEP growth was the largest billing rate increase in a decade (5-6%) that went into effect at the beginning of 2020, accounting for 10-12% of PEP growth.  Additionally, they credit increased leverage (highest in a decade) for another 6-8% of PEP growth.  Simons and Blackwood conclude that rate increases and leverage not only drive long-term profitability, but also help firms weather storms (Stunning Profitability).

Simons and Blackwood predict double digit PEP growth in 2021, explaining that only “3% increases in volume, rates and realizations, and 2-3% declines in headcount and overhead, would deliver over 10% PEP growth” (Stunning Profitability).

Rates
Other commentators have suggested that raising rates will be more difficult in 2021.   In a June 2020 survey by Thomson Reuters of 223 legal departments, 89% said controlling costs was a high priority, and 79% saw an increase in workload due to the pandemic (In-house Leaders Want More Efficiency. This Time Their Law Firms Are Ready, Dan Clark, 1/13/21, Corporate Counsel).

Now that much of the uncertainty that drove legal spend and required partner hours over associate hours has subsided, legal departments may have more leverage in enforcing billing guidelines and requesting discounts. According to a survey of 108 legal operations professionals in late 2020 by the Blickstein Group, 74% of respondents indicated they are actively trying to cut costs by bringing work in-house (Legal Departments' Concern: Law Firms Are Stingy When It Comes to Innovation, Frank Ready, 12/16/20, LegalTech News).  Moreover, the number of corporations employing personnel whose duties include overseeing outside counsel agreements increased from 57% in 2019 to 81% in 2020 (2021 Could See Law Firms Ratchet Up Profitability Pressure on Partners, Zack Needles, 1/18/21, Law.com Trendspotter, citing Thompson Reuter’s Legal Department Operations Index).

Overhead (Real Estate)
According to a survey of 700 lawyers, 54% prefer working remotely, with 24% of those selecting remote as “much more preferred” (The Hefty Cost of Post-Covid Real Estate Decisions…Beyond the Rent, Gina Passarella and Patrick Fuller, 1/25/21, Law.com, citing ALM Intelligence Survey of NLJ 500 firms).  The preference for remote work held across all age groups, except 60+ (The Hefty Cost).

ALM Intelligence’s Passarella and Fuller explained the potential impact on real estate cost per lawyer of 24% of attorneys working remotely.  Average square footage per lawyer is roughly the same between the AmLaw 100 (1059 sqft) and the AmLaw 200 (1073 sqft); however, real estate cost per lawyer is substantially greater among AmLaw 100 firms ($59,357 vs. $42,029 among AmLaw 200 firms).  Applying a 24% head count reduction for remote working would balloon real estate cost per lawyer to $78,078 for the AmLaw 100 and $55,230 for the AmLaw 200 (The Hefty Cost).  Firms in long-term leases cannot immediately reduce their footprint, even if firm leadership decides to offer remote-working post-pandemic. But they could add headcount and increase leverage, without incurring additional real estate costs.

Speaking of headcount growth not affecting real estate cost, firms may increasingly dip into secondary markets for remote lateral partner hires (Remote Partner Hiring Will Be a Broad, but Limited Strategy in Big Law, Dylan Jackson, 12/16/20, The American Lawyer).  Quinn Emanuel is the most profitable (PEP $4.56M) large law firm to date to openly commit to such a strategy, noting in a recent interview that the firm was in conversations with remote partner candidates in Atlanta, Austin, and Minneapolis (Learning From the Pandemic, Quinn Emanuel Will Now Hire Attorneys Outside Its Footprint, Dylan Jackson, 12/10/20, The American Lawyer).