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Global Legal Market: Law Firms Go beyond the Merger

By Norman Clark

An attractive, growing legal market inevitably attracts new competitors. Local law firms, which for purposes of this discussion include law firms that are located in only one jurisdiction, inevitably find themselves having to navigate new currents in a maturing legal market with new competitors, many of which are larger, better-resourced outsiders. The firm in New York or London that used to refer work to the firm now has an office across the street and is competing head-to-head for many of the same clients.

Local law firms have responded to the maturation of the global legal market through a variety of structures to improve their international visibility and, more importantly, their service delivery capabilities: de jure and de facto mergers with other law firms; global networks; joint ventures; strategic alliances; and “best friends” relationships. Each structure, in its many variants, offers substantial opportunities to serve clients better, improve financial performance, and maintain competitiveness in a tightening, much more competitive, legal market.

The recent law firm combinations at the national and regional level activity suggest that, barring any major global economic dislocations, the next five to eight years will be a period of increased consolidation of local legal markets, especially in the practice areas and among the client sectors that traditionally have been the provinces of small and midsize local firms. Maybe, as some have suggested, the momentum and mass of “big firm” cross-border combinations will slow as national markets become saturated with large international firms. Maybe not. But one can expect to see much more merger activity among midsize and small firms, especially within a single country, as well as internationally.

Does this mean that merger will become the preferred strategic option for small and midsize local law firms that want to maintain their market positions or, in some instances, just survive? A merger is not the only answer, or even necessarily the preferred one. Increasingly, more law firms are considering whether a nonmerger option might be a good strategic choice, and, if so, which option will be the best investment for their firms.

Which Local Law Firms Might Benefit from Change?

With internationalization of the legal market, the number-one challenge to small and midsize local firms in a rapidly changing legal market is profitability. Local law firms need to pay close attention not only to protecting the firm’s profitability but also to making it sustainable into the future. Small and midsize law firms should start considering now what strategies will produce the best return on their investment, especially in terms of sustainable financial performance and market position in environments that are likely to be more competitive than ever before. A firm that waits until 2020—or even 2018—might find that the rest of the market has passed it by, and that it will be almost impossible to catch up without profound sacrifices.

At least three categories of local law firms are at potentially higher risk from the impacts of internationalization:

“Leading” national firms in markets that have recently been entered by foreign law firms. In this regard, we believe that national law firms in South Korea, Turkey, and many jurisdictions in Africa are particularly vulnerable. We also see risks for national law firms in the Russian Federation and increasingly in the major markets in Latin America.

Small firms in more mature legal markets, such as the United States, Canada, and the United Kingdom, will find it more difficult to compete unless they radically and innovatively rethink their limited service delivery capabilities and improve how they communicate their competitive advantages to increasingly sophisticated clients.

In markets where the leading law firms are quickly transitioning from “family” firms to “institutional” ones, the “family” firms frequently lack the internal governance and performance management structures that they will need to keep up with their “institutional” local competitors and with foreign firms.

Is a Merger the Only Answer?

There appears to be a “merge or die” or “grow or die” resignation appearing in many small and midsize local law firms. However, a merger—whether by acquisition or through a de facto merger such as a Verein structure—might not be best strategic option for many law firms.

Pay close attention to the recent flurry of merger discussions among midsize law firms. Unlike merger discussions in local firms during the past five years, many of which have tended to be motivated by a defensive strategy—i.e., increase size to protect the firm’s ability to compete—many of the most recent discussions among smaller local law firms appear to be aimed at expanding market share and increasing the client base, rather than just maintaining it, In other words, this is part of a growth strategy, not just a set of improvised responses by which a firm hopes to protect the status quo.

What Are the Nonmerger Options?

It is not a choice of “merge or die” or “grow or die” for most well-managed local law firms. There are other “nonmerger” structures for affiliation, alliance, or association that are available to law firms that want to extend their geographic presence or service capabilities without going into a full merger, for example:

  • law firm networks
  • multidisciplinary networks
  • specialized practice networks
  • highly integrated regional groups of law firms
  • bilateral strategic alliances and joint ventures
  • combinations with other financially autonomous law firms practicing under a common brand

Some law firms also prefer to build their own networks of one-to-one strategic relationships or alliances through nonexclusive and informal relationships. The same principles that govern a consideration of traditional networks also apply to “do it yourself” and “best friends” networks.

So, if you are part of a small or midsize law firm looking for opportunity, think about your new foreign competitors not just as competitors, who can make you more competitive; but also consider them as potential collaborators, referring to you sophisticated legal work requiring a level of experience and expertise in the local business and regulatory environment that they cannot deliver onsite.

Is a Network a Good Strategic Choice for My Law Firm?

First, have clear goals before joining a law firm network. Consider network membership as a strategic tactic, rather than a strategy by itself. In other words, how would participation in a network materially support the achievement of a specific strategic goal for your firm? If your firm has not defined strategic objectives that are specific, measurable, realistic, agreed by all the partners, and defined by time limits, then the decision to join a network will be little more than wishful thinking, and the selection of a network will be little more than guesswork.

The direction and extent of the investigation and analysis will vary according to the nature of the proposed affiliation and the strategic position and priorities of the firm. Nonetheless, law firms should invest the time and resources necessary to ensure that they make well-informed, intelligent decisions. Taking intellectual short cuts to quick decisions increases the probability of disappointing results or, worse yet, actual harm to the firm’s business performance and strategic position.

What Is the Strategic Business Case?

Adopt a “merger mentality” even when it’s not a merger. Although the opportunities and risks presented by these forms can be significantly different, law firms should use substantially the same methodology that they would use for a traditional merger. As with a formal merger, the first question to be considered in any combination or affiliation with another law firm is “Why should we do this?” This involves three basic actions, each of which should be undertaken with clarity and intellectual discipline: identify and quantify the synergies, identify and define the risks, and estimate the probable return on investment.

Questions to consider as part of your assessment include:

  1. What are the tangible and intangible investments that the partners must make—especially the investment of their time—to produce the best results for their firm?
  2. What external and internal value will each relationship deliver?
  3. What makes you different from other law firms?
  4. What specifically do you do better than your competitors?
  5. What will your law firm bring to the relationship?

Conduct Cultural Due Diligence

Most law firms do an excellent job of conducting due diligence into the financial performance and client base of a prospective partner for a merger or other strategic alliance. Few firms, however, conduct an adequate cultural due diligence. Cultural due diligence is not just whether the partners of the two firms like each other. Instead, it examines a range of issues with respect to decision making, planning, practice management, and group performance to identify potential incompatibilities that, unless adequately managed, would prevent the combination, affiliation, or merger from achieving its full potential. It is probably the most important risk management tool in any combination of two or more firms and is particularly important for cooperating with other firms across countries, legal systems, and cultural and societal practices.

How Can My Law Firm Leverage Networks for Growth?

Network membership should be linked to significant, articulated, and measurable strategic objectives. Law firm partners should be able to anticipate, with reasonable specificity—even if not with clairvoyance—the nature, quantity, quality, and value of the opportunities that a network will provide.

Look for Real Synergy with Other Network Members

In the legal profession, and in maturing markets for other professional services as well, networks of groups of members should be able credibly to propose and efficiently execute projects together that none of them could perform individually. Synergy among network members can produce substantial financial benefits for smaller law firms, and can enable them to compete successfully against their much larger, better-resourced rivals, especially on a regional basis. This is one area in which multi-disciplinary networks that cut across professional boundaries might have an advantage over general law firm networks or ones that specialize in a single practice area. Thus, synergy is emerging as a force that often can level the playing field between the global giants and local firms.

However, real synergy must be embedded in the way that a network operates and manages the risks of competitive disloyalty. Do members feel that the network understands and supports their strategic and business goals? Does the network understand the member’s competitive context and strategic objectives, and take every reasonable opportunity to support the member? Do the actions of the network demonstrate that it has the interests of each member at heart?

Pursue Expanded Referral Potential

Most law firms join networks to gain referrals that they might not be able to obtain on their own. It is useful to conduct a little due diligence about the practices and client bases of other law firms in the network. Are they compatible? Realistically, how probable is it that they will actually send us work? One of the most important things that professional services networks should do for their members is to demonstrate, by simple and unequivocal metrics, the specific value of the referral potential of membership – practice area by practice area and jurisdiction by jurisdiction, if possible. This allows law firm partners to evaluate for themselves the probable return on investment.

Consider the Network’s Brand

Most of the largest professional services networks work hard to develop a distinctive brand, often promoting that brand as a kind of “seal of approval” for their members. Although branding is not unimportant, being a member of a well-known network does not, by itself, transfer competitive advantage to a law firm. Sophisticated purchasers of legal services, especially in-house counsel, base their decisions on factors that are more directly related to expertise and service quality. The most that the network affiliation does is to get a firm onto the list of candidates – and often not even on the “short list.” For this reason, any marketing reference to a law firm’s network membership must describe specific, tangible benefits that are important to the client and that are a result of network membership. An area in which network branding clearly can create competitive advantages for members is in the synergy that a network can generate, which in turn produces tangible client benefits, which a competitor might not be able to deliver as well, or at all.

Leverage Networks to Bring Internal Value

Most professional services networks and their members overlook the internal value of joining a network. Internal value, however, could soon rival and, in some instances, surpass the traditional assumption that the primary purpose of a professional services network is to produce more and better fees. Membership in a network has the potential to bring positive impacts on a law firm’s bottom line by reducing overhead, improving the efficiency of core business and technical activities, and decreasing capital expenditures. For some firms, the benefits for internal value could be the compelling reason to join a network. This is especially true for three types of networks: (1) general practice networks with a regional focus; (2) general practice networks consisting predominantly of small or midsize members; and (3) specialized networks in areas such as tax or labor and employment.

Although internal value currently is a largely unknown concept for most networks and their members, law firms should consider to what extent professional services networks could help them to increase the productivity and profitability of their internal operations. Some examples of how shared infrastructures provided through networks could support substantial improvements in fee earner productivity, internal operating efficiency, and reduced operating costs include:

  • knowledge management
  • specialized information technology applications
  • client relations management
  • quality assurance
  • financial management and reporting
  • human resources administration
  • information security
  • premises security

Possibilities such as these imply a substantial shift in paradigms that have traditionally governed the perceptions of the purpose and value of professional services networks. The paradigm of external value is shifting from being focused primarily on referral potential to the possibly decisive importance of synergy. Thus, networks and their members need to expand their thinking about internal value as they move forward together in this era of unprecedented change in the legal profession.

How Can My Law Firm Succeed? Compete More Intelligently!

So, what should a local law firm do when an international giant comes to town? Compete more intelligently. What does competing more intelligently mean? It means understanding what will be the successful competitive strategy for your local firm in a legal market that is internationalizing. Understand your firm’s strategic path to profitable sustainability, its strengths, its differentiation in the marketplace, its specific value to clients, its business culture, and the drivers underpinning why and how you would change within the firm and externally.

Also, if you are a small or midsize firm, don’t let the big guys scare you. From all the attention that “Big Law” is getting in the legal press and at legal conferences, one might erroneously assume that a relatively small number of large firms are destined to rule the legal world and that those smaller, local firms are irrelevant to the future of the legal profession. Don’t believe it. Although being large can sometimes be an advantage, many small and midsize local firms are competing successfully, and will continue to compete successfully, for high-value legal work. The entry of large foreign law firms into a legal market is a challenge, but it also offers great opportunities. Merging with a larger international firm, or with another local firm, can be a good strategy for some law firms; but successful independence remains a financially viable option for others.

Merger or affiliation with an international firm will undoubtedly be a wise choice for some local and national law firms. However, there is, and will continue to be, a role for independent law firms in emerging and recently-emerged legal markets. The best strategic course is highly firm-specific, requiring a realistic analysis of a firm’s current strengths, the changing needs and expectations of its client base, and a well-informed analysis of the options.

Regardless of whether you merge, join a network, create your own informal network, or collect a group of “best friends,” be sure that you can continue to deliver the highest levels of local commercial and regulatory expertise to foreign clients and national ones. Small and midsize local firms that are successful at this sometimes describe themselves as “reliable guides” to the jurisdiction, or as offering “turnkey” services for clients investing in their countries. This is how, even when large, highly-capable, international firms enter a legal market, much of the best international legal work can continue to go to the best national and local law firms.

Norman Clark

Norman Clark is one of the founders of Walker Clark LLC and is co-chair of the Transnational Practice Management Committee.