Venture capital investment in LegalTech renewed in 2017 and 2019 is on track to be a record year for both investments and exits. Past ebbs notwithstanding, the confluence of a large total addressable market, increasing demand, a growing value proposition and favorable venture markets provide powerful tailwinds to support the sustainability of LegalTech investment.
First, LegalTech has the potential to disrupt significant parts of a large and profitable space, thus far largely untouched by technology. In 2016, U.S. legal service revenues totaled $437 billion; average AMLaw100 margins typically exceed 40%. At the same time, the sector chronically underinvests in technology – spending, by some measures, ten times less than financial firms – thus remaining “persistently stuck in the 90s.” Together, these conditions suggest a particularly target-rich environment for disrupters across large parts of the legal value chain.
Second, LegalTech is benefitting from a robust, secular shift in demand. This has been particularly notable in the B2B space, with forward-thinking law firms embracing technology as a logical competitive advantage. The pressure to maintain margins in a highly competitive environment is also likely to encourage investment in efficiency enhancements. Correspondingly, law firms have started LegalTech innovation labs, venture capital arms and development partnerships.
Third, technological innovation and business model maturation have increased LegalTech’s value proposition in both the B2B and B2C spaces. For instance, on the B2C side, innovative companies like Atrium provide viable substitutes for legal services; on the B2B end, platforms like Clio help optimize firm operations. This maturation has benefitted considerably from a growing legal innovation ecosystem, which includes law firms, along with in-house legal departments – e.g., Liberty Mutual’s “legal tech transformation” – and research hubs, like Georgia State’s Legal Analytics and Innovation Initiative.
Finally, venture market dynamics appear favorable for continued LegalTech investment. VC firms have raised increasingly large funds and as a result have record ‘dry powder’ available. At the same time, perception of the LegalTech space has been materially ‘de-risked’ following high-profile transactions by blue-chip investors, like Andreessen and Y-Combinator. Furthermore, the final chart below illustrates that LegalTech is still very much in its early innings, with 85% of investments at the seed or Series A stages and over 50% under $1 million. This nascency highlights LegalTech’s largely untapped potential for disruptive impact as well as outsized returns.