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After a high-flying 2018, two snapshots of the first quarter of 2019 should give law firms pause.

The Thomson Reuters’ Peer Monitor Index found that demand and productivity had stalled in the first four months of 2019, while higher associate salaries contributed to surging expenses. But large firms both inside and outside of the Am Law 50 saw growth in another area: billing rates.

While the largest firms were the likeliest to benefit from significant rate hikes over 2017 and 2018, their smaller peers are now sharing in the bounty. According to Thomson Reuters, worked rates grew 3.8% over the last quarter, the strongest quarterly growth since 2012.

“The Am Law Second Hundred firms are now coming to that rate growth table,” said Brent Turner, manager at Peer Monitor.

While the Am Law 50 again led rate growth, with an increase of 5.5%, the Second Hundred raised rated a significant 4.1%, outpacing the AmLaw 51-100 (with growth of 3.9%) and midsize firms (3.3%).

A report released Monday by Citi Private Bank’s law firm group also highlighted industry rate hikes, finding that lawyer billing rates grew 4.4% in the first quarter. But its breakdown differed: 5% growth for the top 50 firms, 4.1% for the second fifty, and 3% for the second hundred.

But both Citi and Thomson Reuters found that these rate increases were accompanied by softening demand. According to Thomson Reuters, demand dipped by 0.1%. Citi detected a drop of 0.3%—though revenues still grew faster than in the first quarter last year.

Turner drew a parallel to 2018, where demand slipped in the first quarter, before rebounding over the final three quarters of the year. That broke from the pattern of the previous years, where first quarter growth was followed by progressively decelerating demand.

He noted that litigation has been lagging, particularly in the midsize firm segment. Transactional work was mixed, with corporate work up 0.2%, while real estate dropped 0.8% and tax fell 2.1%.

The question for firms, according to Turner, is whether “2019 going to be like years before, or is it going to be like 2018.”

Expenses and Productivity

Diminished demand isn’t the only worry. Both Thomson Reuters and Citi highlighted rising expenses in the first quarter.

One key piece of the puzzle was the impact of last year’s associate salary increases.

Citi identified expense growth of 6.5%, driven by a 7.2% increase in lawyer compensation expenses. Thomson Reuters, meanwhile, said that direct expenses grew by 4.9%. Associate salaries account for 35% of that category, according to Turner.

Citi analyst David Altuna said that the salary increases suggested that firms were beginning to budge from the expense discipline they employed during the recession and post recession years.

We do find that there’s quite a push coming through from lawyer compensation,” he said. “We know that the associate compensation increases at midpoint last year are pushing that up higher, particularly for large firms.”

Turner, meanwhile, suggested that these increasing expenses exacerbated the challenge posed by growing head counts amid flat demand. The combination of the latter two factors led to a productivity decline of 1.8%, the worst dip since the third quarter of 2017.

While head counts grew at 1.6% in the first quarter of 2017, the increase dipped to 0.6% in the first quarter of 2018.

“We finally saw firms reigning in hiring practices, because of so many years of flat demand,” he said.

But head counts were up again in the last quarter, rebounding to 1.8%. That same rebound was not evident in the international markets that Thomson Reuters tracks.

“In other jurisdictions, we’ve seen them be much more disciplined,” Turner said. “U.S. firms were, at least from one quarter’s worth of data, much quicker to get back to their historic hiring patterns.”

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