US law firms see revenue and demand up but sagging productivity squeezes profits

Law firms undergo ‘sorting out’ as transactional work declines and clients shift work down market, according to new research by Thomson Reuters and Georgetown Law
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Revenue generation across the US law firm sector grow 7.3% in 2023 amid an increase in rates and demand, according to new research by Thomson Reuters and Georgetown Law.  

Despite the increase the 2024 Report on the State of the US Legal Market described last year as “encouraging but not outstanding” and noted that fundamental shifts in the legal market that gathered pace after the 2008 financial crisis threaten to upend traditional law firm business models, with firms more able to adapt performing “significantly better”. 

The report divided firms into Am Law 100, Am Law second hundred and midsize groups and found that all three had made aggressive increases to their negotiated fees in 2023 at a pace not seen since 2009.

However profitability was tempered by ongoing productivity losses – fuelled by lawyer headcount growth routinely outpacing growth in demand. 

It also pointed to the dampening effect of elevated expenses and law firms’ faltering ability to collect on all their bills, with firms collecting 90.5% of their worked rates on average. It noted this was not because of client pushback but rather firms “proactively adjusting bills downward before they were sent to clients”.

Am Law 100 firms returned to positive profitability in 2023, with a modest 2% growth in profit per lawyer. Am Law second hundred and midsize firms saw negative profitability for the second consecutive year, though both segments saw improvements (-6.7% from -8.2% and -5.4% from -11.0% in 2022, respectively). 

Demand for legal services grew by an average of 1.1% across the industry, though the distribution of growth is somewhat telling – flat for the Am Law 100, 0.6% for the Am Law second hundred and 2.4% for midsize firms.  

The report pointed to the trend of clients moving work down-market towards smaller firms as they seek greater efficiency and better value-to-cost balance as a contributing factor to higher demand growth among midsize firms.  

This ‘demand mobility’ was one consequence of a shift in power from law firm to client that gathered pace after the 2008 financial crisis, the report said, and had also seen clients increasingly enforcing budget caps and Outside Counsel Guidelines to reduce costs.  

“Firms, unfortunately for them, were slow to respond to these new client pressures, doing so mostly reactively,” the report noted, adding that the full impact of the market changes were “at least partially cushioned by strong transactional demand growth”. 

However the decline of the strong transactions market of the 2010s has seen demand in law firms’ transactional practices slow in favour of ‘counter-cyclical’ practices such as litigation, bankruptcy and labour and employment, which tend to perform better in difficult economic conditions and drove most of the growth in demand for law firm services in 2023. Demand for litigation, the report noted, was up 3.2% through to the end of November, reaching a 15-year high. 

“Significant changes in the legal market have been under way since 2007, but many of these effects were masked by the strong demand for transactional services during the decade from 2011 through 2019, a period marked by sustained low interest rates that encouraged commercial activity,” said James Jones, a senior fellow at the Center on Ethics and the Legal Profession at Georgetown Law and the report’s lead author.  

“The challenge facing law firm leaders in today’s more volatile market is that many of these changes are now accelerating and may require fundamental changes to how legal work is conducted, how legal services are delivered, and how law firms conduct their business operations.” 

The shift in power from law firm to client could be exacerbated by generative AI, with the report citing a hypothetical scenario in which clients derive a disproportionate share of its benefits by getting greater leverage in competitive pricing and an increased ability to bring work in-house. 

But it noted that most law firms are already working toward a way of using generative AI that enhances both client value and law firm profits by increasing efficiency and reducing costs for firms, while enabling higher-quality advice and faster service.  

The report pointed to a “sorting out” occurring in the legal market, with firms more able to read the market and shift their practice mix accordingly unsurprisingly performing better. It also highlighted a firm’s ability to balance demand growth and staffing projections better than other firms, as well as its willingness to expand roles for non-lawyer professionals and more robust investment in technology, marketing and business development and high-level support staff, as crucial to success. 

Different segments of law firms have taken notably different approaches to staffing strategies, with the largest firms actively cutting back on associate headcount, which continues to become more expensive due to repeated rounds of salary increases. Meanwhile midsize law firms have grown associate ranks aggressively – up 11.8% over the course of the year. 

It concluded that the outlook for 2024 is positive, as corporate work is expected to rebound slightly. Among corporate general counsel, 40% expect to increase outside legal spend, while only 18% expect it to decrease.  

The report was based on data from 179 US-based law firms, including 48 Am Law 100 firms, 49 Am Law second hundred firms, and 82 midsize firms. 

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