The bloodletting at large law firms in 2008 and 2009 was seen as a course correction, meant to right-size the industry for a client base holding tighter to its legal spending. That process may now be playing out again, albeit on a different scale.
This week Reed Smith laid off 45 lawyers and additional staff as part of what the firm called a “restructuring” of its operations. The move comes as firms across the country are struggling to balance attorney head count with flat or declining client demand, consultants said.
“Firms have more lawyers than work right now,” said Altman Weil consultant Eric Seeger.
Layoffs at other firms are inevitable, Seeger said, thanks to anemic demand for legal services. But Seeger and other consultants also said underperforming nonequity partner tiers, declining core practices for individual firms and continued price pressures are forcing firms to ask hard questions about their staffing levels.
But wasn’t that done seven or eight years ago?
“Yes, cuts were made, but no, the cuts were not sufficient,” Seeger said of layoffs during the height of the recession. “The cuts were not deep enough to align with a reality that is more persistent than a lot of people expected at the time.”
Altman Weil’s Law Firms in Transition Survey found that larger firms were more pessimistic about demand levels returning to near prerecession levels, Seeger said.
According to results from the 2015 survey, 65 percent of respondents said that their equity partners were not sufficiently busy, while 79 percent said that their nonequity partners were not sufficiently busy.
To be sure, many of these firms continue to hire. Seeger said that hiring might only be up 1 or 2 percent, but coupled with demand being down, it doesn’t add up well for firm profits. Seeger said that 74 percent of firms said overcapacity was diluting their profits.
While Reed Smith’s cuts received a lot of attention, Peter Zeughauser of the Zeughauser Group said that firms have been laying off or quietly counseling out partners for about 18 months.
“I do expect it to continue,” Zeughauser said in an email. “There is excess capacity, and hours are and have been chronically low for years. [That’s] not perceived as changing in the near future. So, perception has become reality, and reality is setting in.”
The Zeughauser Group’s Kent Zimmerman described Reed Smith layoffs as part of a national trend by high-performing firms to deal with overcapacity. Some firms have closed entire offices, Zimmerman noted.
“Addressing overcapacity is a sign of strong management,” Zimmerman said, adding that the highest-performing firms have the least tolerance for chronic underperformance.
Gretta Rusanow, head of advisory services for Citi Private Bank’s Law Firm Group, said that head count grew faster than demand in the first nine months of 2015, and pricing pressures continue with growth in rates expected to be lower in 2015 than they were in 2014.
“Clients are changing the way they purchase legal services,” Rusanow said. “There is a lot of focus around price, and it’s also around value. A huge part of that is the staffing model.”
Rusanow also noted the role that underperforming nonequity partner tiers have played in dragging down firm profitability. And firms are starting to address that, data on changing leverage ratios shows.
After years of decline during the recession, law firm leverage, when looked at as a ratio between equity partners and all other lawyers, is actually increasing despite shrinking associate head counts, Rusanow said. But it’s the composition of that leverage that is perhaps most telling.
Firms are hiring fewer nonequity partners and senior counsel and are hiring more contract lawyers and nonpartner-track staff associates, Rusanow said.
“In an environment where demand growth is hard to come by … we are likely to see firms look very closely at whether they have the right leverage models,” Rusanow said.
According to Reed Smith managing partner Sandy Thomas, the 45 attorneys let go encompassed all levels of timekeepers, including partners. Thursday’s layoffs were designed to retool the firm’s leverage, leaving it with leaner teams to staff individual client matters, Thomas said.
An attorney at the firm said that the layoffs specifically affected senior associates, counsel and fixed-share partners.
Mark Jungers, of national recruiting firm Lippman Jungers, said that all firms with two partner tiers must manage nonequity partners who may be billing as low as 1,400 hours a year or less. As a group, he said, that tier is the least profitable.
Firms rarely resort to mass layoffs in response to changes in the way clients are buying legal services, Jungers said. Instead, significant layoffs usually signal a slowdown in work, he said.
Jungers said that he expects to see more cuts in the industry, driven by a slowdown in demand and clients’ interest in shifting work to fewer law firms.
Not everyone agrees, however, that layoffs will become more prevalent.
Michael Grohman, head of the New York office of another Pennsylvania-founded firm, Duane Morris, said that the Reed Smith layoffs appear to be more of a “one-off” move, and he doesn’t see any new developments in the market that would affect other firms.
“I don’t think this is going to start a trend,” he said of the Reed Smith layoffs.
“We’ve all been reminded that the demand for legal services has been down for quite some time, and we are all competitive with rates,” Grohman said. “There are other firms that have probably done the same thing, but you probably don’t know about,” because they trimmed over months, not all at once, he said.
Brad Hildebrandt of Hildebrandt Consulting has advised Reed Smith for several years. He said that there is a lot of downsizing going on in the profession right now, given a lack of demand in various practice areas, such as litigation. He said that Reed Smith was being proactive in addressing the challenge, announcing simultaneous layoffs rather than letting the firm “bleed to death” by cutting small groups over a long period of time and spooking partners and associates.
“There is some point where you have to size the firm to your client base,” said Hildebrandt, who also predicted more layoffs at other firms in the near future.
Reed Smith’s Thomas said that despite the layoffs, the firm will continue to hire new lawyers. And Rusanow pointed out that adjusting leverage and hiring new lawyers is not inconsistent.
“It’s not as simple as cutting heads,” Rusanow said. “There is more of a nuance around matching your leverage model to the way the market is moving.”