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Am Law 200 Managing Partners Issue Fog Advisory for 2008Managing partners are nervous about what next year will bring. But they're still planning to raise billing rates
Each fall, when The American Lawyer surveys the leaders of The Am Law 200 about the state of their firms, the responses are awash in sunny optimism -- at least, they have been until now. This year, for the first time since the magazine began polling them in 2003, a substantial number of firm leaders admit to being uneasy about the future. More than a quarter reported that they were uncertain about their firm's prospects next year, and a few said they felt downright pessimistic. What's going on?
The American Lawyer2007-12-03 12:00:00 AM
Each fall, when this magazine surveys the leaders of The Am Law 200 about the state of their firms, the responses are awash in sunny optimism -- at least, they have been until now. This year, for the first time since we began polling them in 2003, a substantial number of firm leaders admit to being uneasy about the future. More than a quarter reported that they were uncertain about their firm's prospects next year, and a few said they felt downright pessimistic. What's going on?
Follow-up interviews with more than a dozen survey respondents from all segments of The Am Law 200 offered some clues. Worries about the current state of the U.S. economy topped the list of concerns. Leaders of transactional firms say they remain unsure of how deeply the credit meltdown will penetrate the M&A and financial markets. Even managing partners who expect their firms to stay busy are hedging their bets, building up bankruptcy and restructuring practices ahead of a potentially long-lasting economic downturn. "People just have a general sense that the pace of activity on the transaction side of the practice is going to crest," says Orrick, Herrington & Sutcliffe chair and CEO Ralph Baxter Jr. -- although he adds that he is not among the pessimists.
Litigation has traditionally helped many firms weather economic storms, but managing partners at litigation-heavy firms say they're looking over their shoulders, too. Several mentioned an October Fulbright & Jaworski survey of in-house lawyers showing a drop-off in new litigation,, and some wondered whether a faltering economy could make clients tighten their purse strings. They also worry about balancing partner expectations with the pressures of rising associate salaries and client demand for discounts. "My partners are going to expect a very good 2008 regardless of what's happening outside the four walls of this law firm," says Shook, Hardy & Bacon chair John Murphy.
From the survey and the interviews, the overall message is clear. For the first time in five years, growth is not a given. "There are lots of spots in The Am Law 200 where firms are in peril," says Keith Wetmore, chairman of Morrison & Foerster (though he is quick to add that MoFo is not one of them). "What's on the eight ball when you turn it over? I think it says: 'The future is cloudy.'"
Some of the anxiety about the future -- 32 of 123 firm leaders said they were "uncertain" and three said they were "pessimistic" -- is a factor of the survey's timing. Answers to our survey came back to us in September and October, in the midst of the collapse of the subprime mortgage market and plummeting faith in the value of securitized debt. Firms whose profits depend, directly or indirectly, on the continued strength of the corporate credit market were still nervously judging the extent of the damage.
But the credit crunch is only part of the story, several managing partners say. The current market worries are exacerbating a more general sense that firms' resources have already been stretched to the limit. As the chair of one firm put it: "We can't beat the donkeys any harder." A six-year economic boom created an intense struggle for talent, caused associate salaries to skyrocket and raised profitability expectations ever higher. If there's a real downturn, firms accustomed to revving their engines harder and harder may need to learn to shift into lower gear. Presiding over a boom is one thing. Guiding a firm through rough times is another.
Numbers from the survey provide a window into firm leaders' troubled minds. Just 58 percent of them expect the economy to grow at all in 2008, compared with 81 percent last year. Roughly 10 percent expect the economy to decline.
Also, for the first time in five years, the majority of managing partners we polled believe the flow of deals will stay flat or decrease. Fewer than a quarter thought so last year, and only 5 percent in 2003. The past few years saw a climate of low interest rates, easy credit and a strong stock market that pumped up the private equity and mergers markets. Now that environment is changing. "I've been around long enough to know that kind of perfect storm of variables can't last forever," says Cravath, Swaine & Moore presiding partner Evan Chesler, who remains optimistic about his own firm. "That's just a fact of life."
Firm leaders' predictions about which practice areas will fare best next year are also telling. A quarter of those in our survey believe that bankruptcy and restructuring will see the greatest growth in revenue, five times more than last year. Only 13 percent expect to see the most growth in their corporate departments next year, down from a third in 2006.
In the event of a downturn, law firm leaders say, some firms will be hit harder than others. But which ones? The only agreement was that it's going to be the other guy. At relatively small 319-lawyer Fox Rothschild, No. 148 on The Am Law 200, co-chairman Phillip Griffin predicts that the losers will be those firms that have abandoned the middle market but have not yet established themselves as high-end transactional and litigation firms. "Depending on their practice, smaller firms may be more nimble," says Griffin's co-chairman, Abraham Reich, pointing to his own firm. But one managing partner at a small midwestern firm reported a noticeable slowdown in the last two years. And Francis Burch Jr., joint CEO of DLA Piper -- a firm so big it has three CEOs -- predicts that smaller firms with no international footprint (unlike DLA Piper) will suffer most. "Any firm that's not well positioned globally, I would be concerned about the future," he says.
Paradoxically, there is nearly universal agreement on one count: Even in a slowdown, firms expect to make piles of money. No matter their size, location or leading practices, nearly all of the firm leaders we polled -- 92 percent -- forecast that profits per partner will increase next year. When so many of them are nervous about the economy, how can they be so confident about profits?
One answer is that managing partners are preparing for some reorganizing and belt-tightening to protect their firms' profitability. The lead partners we surveyed overwhelmingly predicted that they will make structural changes at their firms to stay competitive in the long term. Eighty percent expect to hire fewer partner-track associates or to bring in a higher percentage of contract and staff lawyers over the next 10 years. Two-thirds plan to shift the partnership balance at their firms even farther away from equity partnerships, either by de-equitizing current partners or by building up the ratio of nonequity partners among future hires. And 61 percent expect to experiment with alternative billing arrangements.
But these changes have been under way for years, and several firm leaders said they doubted they would implement structural change more aggressively now than in the past, regardless of the economy. Despite what the survey numbers suggest, many interviewees -- especially in the largest firms -- were particularly cynical on the issue of alternative billing arrangements. Experiments in risk-sharing and "creative" billing are often just code for volume discounts or price caps, they say. A number admit that both they and their clients pay lip service to new pricing arrangements without pushing them in practice. "We've all been programmed to say we want to do it, but the alternative billing thing is going nowhere," says one managing partner at a leading West Coast firm who asked not to be named.
In fact, the only concrete change that virtually every managing partner we polled -- 99 percent -- plans to make next year, whatever the firm's economic concerns or hiring plans, is to raise billing rates. Almost two-thirds plan to raise rates by more than 5 percent, the largest proportion since we first asked the question in 2003.
Will clients continue to pay? Managers at top national firms say yes, because their services are indispensable. "There are only so many lawyers that the market trusts to do the high-value engagements," says Orrick's Baxter. Heads of smaller firms say that they'll keep raising fees as long as expenses keep growing and lawyers at the top 50 firms keep raising their rates -- and as long as clients will pay. "You pinch yourself and say, my God, the clients will never pay it," says the chief of one smaller Philadelphia firm. The reality, he says, is that they usually do.
It may be that firm managers, facing a slowing economy, are charging higher rates to ease the pain. Yet a 10 percent hike in hourly rates for a firm that bills 1 million hours is serious money, as one chair of a midwestern firm points out. "[Raising rates] has been a fairly easy way for a lot of the firms to increase revenues and profits," he says. More and more, he adds, "clients are pushing back, and that period may be at an end."
Firm leaders can only hope that's not the case. "We've got a bunch of hungry partners out there expecting us to deliver more money every year," says the chair of an Am Law 50 firm. "There's not much in the system to wring out if anything goes wrong."
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