The Strategy-led Law Firm: Business Models that Work. Nicholas Bruch and John Cussons

Transcription

1 The Strategy-led Law Firm: Business Models that Work Nicholas Bruch and John Cussons Published by In association with

2 The Strategy-led Law Firm: Business Models that Work is published by Ark Group UK/EUROPE OFFICE Ark Conferences Ltd Paulton House 8 Shepherdess Walk London N1 7LB United Kingdom Tel +44 (0) Fax +44 (0) publishing@ark-group.com NORTH AMERICA OFFICE Ark Group Inc 4408 N. Rockwood Drive Suite 150 Peoria IL United States Tel Fax publishingna@ark-group.com ASIA/PACIFIC OFFICE Ark Group Australia Pty Ltd Main Level 83 Walker Street North Sydney NSW 2060 Australia Tel Fax aga@arkgroupasia.com Online bookshop Editor Evie Serventi eserventi@ark-group.com Head of content Anna Shaw ashaw@ark-group.com UK/Europe marketing enquiries Robyn Macé rmace@ark-group.com US marketing enquiries Daniel Smallwood dsmallwood@ark-group.com Asia/Pacific marketing enquiries Steve Oesterreich aga@arkgroupasia.com ISBN: (hard copy) (PDF) Copyright The copyright of all material appearing within this publication is reserved by the author and Ark Conferences It may not be reproduced, duplicated or copied by any means without the prior written consent of the publisher. ARK2137

3 Chapter 1: Globalisation of the legal market The globalisation of the legal services market can be explained through broader macroeconomic trends that have been gaining momentum over the past three decades. Law firms, similar to most service providers, are reliant on a distinct client base. Leading UK and US law firms have focused on a client base that is dominated by large corporate and institutional clients. The group of companies that fit this mould has become increasingly international over the past three decades for two related but distinct reasons. The first reason is that the home market clients of western law firms, which predominantly include Fortune 500 companies for US firms and FTSE 100 companies for UK firms, have been expanding globally into newly developed and developing markets at an increasingly rapid pace over the past two decades. This trend began in the mid-1970s, when Fortune 500 companies and FTSE 100 companies began expanding into Europe. This launched the first phase of globalisation in legal services, which saw US and UK law firms begin increasing their transatlantic capabilities via new office openings and formal alliance relationships with foreign law firms. The offices that opened during this period tended to be in financial centres such as London or major business centres such as Paris or Frankfurt. Brussels was also popular because it gave proximity to the EU s competition authorities. They were relatively small, often with five or fewer lawyers tasked with facilitating their homemarket clients international business. Shortly after the European expansion, multinational corporations began expanding their activity in Asia, seeking access to low cost emerging markets, primarily for costreduction reasons. This in turn led firms to expand into Asian markets. Consequently, throughout the late 1970s and 1980s US and UK firms moved into Hong Kong, Japan and to a lesser extent, Singapore. As with their European market entries, firms opened small offices focused on servicing their home-market clients international business. Until 1995, the average US firm s international office in Europe and Asia employed fewer than ten lawyers. 1 Globalisation gains pace Since 1995, the pace of globalisation has changed significantly. Increasing levels of international trade and the rising importance of cross-border mergers among global 500 companies has greatly increased the size and scope of international business among leading western multinational corporations. Equally important have been rising incomes in emerging markets and the increasing gap between economic growth rates in emerging and mature markets. These two forces have pushed global 500 companies to begin expanding internationally for market-seeking, as well as cost-cutting, reasons. Market-seeking international expansion is typically more complex than expansion for cost-cutting reasons. While cost-cutting 3

4 Chapter 1 expansionary strategies can often be managed via outsourcing contracts, marketseeking international expansion requires asset purchases, ongoing transactions, and engagement with local suppliers, clients and governments. This increase in complexity fundamentally changed the nature of demand for legal services in many emerging markets. While routine contract work can often be based on US or UK law and carried out remotely from home offices, market-seeking operations involves local expertise and an enduring presence. This in turn requires law firms, if they seek to be competitive, to have well-staffed offices of locally qualified experts in key emerging market jurisdictions. Consequently, there was a shift away from small offices in the late 1990s. This shift, which launched a wave of mergers and organic growth strategies, focused primarily at first-tier European and Asian markets, and greatly increased the pace of globalisation in the legal services market. A second shift during this period was an expansion beyond first-tier business centres. As multinational corporations expanded their global operations, US and UK law firms followed with market entries into China, Latin America, Russia, and Eastern Europe. Market entries into these emerging business centres have followed the same path as earlier market entries into first-tier financial centres. Offices have tended to remain small in lawyer terms so long as global corporations have kept their footprint small. Once business expands however, offices increase in size and a war for merger partners, clients and talent ensues. The second phase of globalisation The most recent phase of globalisation has centered on the acquisition of foreign clients, rather than the pursuit of western multinationals. Fast growth in emerging markets has fostered the development of a group of competitive multinational emerging market corporations that have leveraged strong growth in their home markets to become globally recognized leaders in their respective industries. Similar to their mature market peer group, which includes corporate giants such as Microsoft, HSBC, GM, and Apple, these emerging market companies offer law firms a large volume of medium-to-high fee engagements. These companies include China Telecom (China), CEMEX (Mexico), HTC (Taiwan), Tata (India), Petrobras (Brazil), Gazprom (Russia), and a group of similarly sized corporations that fit the client profile of leading US and UK law firms. What separates this group from western multinationals is their relatively high rate of growth over the past decade. Since 2000, emerging market companies have expanded their share of the Financial Times FT Global 500 by 21 percentage points in terms of value, from four per cent in 2000 to 25 per cent in It is for this reason that many leading US and UK firms have and continue to spend significant resources courting these companies, including expanding into new markets and bolstering existing offices with new hires. The result of these trends has been a vast expansion of US and UK law firm operations in foreign markets developed as well as developing. According to the National Law Journal s NLJ 250 database, the top 250 US law firms had over 650 offices and 17,000 lawyers in international markets at the end of This accounted for 34 per cent of total offices and 24 per cent of total lawyers. Between 2000 and 2011, top US firms grew 24 per cent per year in the Middle East (from 40 total lawyers to 418), 11 per cent in Western Europe (3,556 to 11,416), nine per cent in Eastern Europe (491 to 4

5 The Strategy-led Law Firm: Business Models that Work 1,272), and nine per cent in Asia (1,519 to 3,823); this is compared to only three per cent growth in North America (79,918 to 105,913). 3 The impact of globalisation These sweeping changes have had profound impacts on the business of law firm management. The mostly obvious challenge is organisational. In the matter of a decade, many firms have gone from domestic, or even local, to global. Between 2000 and 2011, the number of top 100 US firms with more than 20 per cent of lawyers abroad grew by 230 per cent, from seven to 23. Over the same period, the number of US firms with ten or more international offices grew by 217 per cent, from six to Similar changes have occurred among UK firms, who have been particularly active in European and Asian markets. In 2011, the top 50 UK firms had 545 foreign offices, representing 78 per cent of their total. While a large portion of these offices are in Western Europe, Asia has been an area of recent expansion, with 60 per cent of top 50 UK firms now having offices there. 5 Increased operational complexity While law firms are not the only businesses that are being impacted by globalisation, the speed of change and the partnership model offer unique challenges. Many firms have just begun building organisational structures to support their international businesses. Some firms have opted for regional headquarters and continent-wide managers. Other firms have put greater emphasis on practice area or industry-based structures, with global practice leaders or industry leaders in place of regional managers. Many firms have built complex matrix structures, combining elements of all of these systems. Each structure has its strengths and weaknesses, and the decision to choose one organisational structure over another can have important implications for how firms develop and how they service their clients. The next section provides a summary of the strengths and weaknesses of each approach. Practice area-focused structure Strengths Organisational structures built around practice areas allow firms to build consistency in their practice area offerings across the globe, ensuring greater similarity in quality and processes, and greater crossborder engagement management. These structures can be particularly important in practice areas where cross-border engagements are common and clients expect a high level of quality, such as energy, M&A, and financial services. These structures are best suited to specialist firms or full service firms that rely on a group of practice areas for a disproportionate share of revenue. They can also be used as a method to foster the development of a particular practice area helping share expertise across jurisdictions, increasingly efficiency by standardising reporting systems, increasingly consistency though standardised processes, and helping signal to clients that the firm is aiming to build a global practice. Weaknesses These structures can reduce cohesion between practice areas, thereby creating practice area silos with large differences in service quality and processes between service lines. This can result in less cross-selling and a general weakening of the firm s brand, as clients receive different signals from each service line. Investment in new practice areas and offices can also suffer, as leaders of successful practice areas are often hesitant to divert investment funds away from their service lines. 5

6 Chapter 1 Geographic structure Strengths Organisational structures built around geographies can be particularly useful for full service firms with expansionary strategic goals. Geographic organisational structures, as opposed to practice areas structures, put greater emphasis on building a cohesive firm-wide brand, and therefore are best suited for firms that service clients across a broad range of practice areas. Furthermore these structures can be particularly useful for firms whose strategic goals include international expansion. Regional manager roles tasked with particular targets and endowed with the requisite level of autonomy and resources have proven useful for firms expanding into Asia and Europe. This is partially due to the fact that these managers are based within the region and therefore typically understand their markets better. Equally important is their location within the organisational structure of the firm. Regional managers are able to lobby firm-wide leaders for investment funds for expansion into new markets or the development of a practice area within a specific market. Weaknesses Organisational structures built around geographies can result in geographic silos with large differences in quality and processes across regions and particularly within practice areas across borders. This weakness can be exacerbated by acquisitionbased market entries, such as mergers or raids. By their nature, acquisition-based market entries tend to create regional differences between firms due to the historical strengths, weaknesses, and processes of the acquired firm. Regional managers, which are often sourced from the newly acquired firm, are ill-poised to resolve these differences. Conflicts of this sort can be particularly important for firms whose clients require a significant amount of crossborder engagements and expect a high level of consistency between regions. Hybrid structure Strengths Hybrid structures, which use both geographic and service line designations in the organisational structure of the firm, can be highly effective at resolving the weaknesses inherent in the two structures described in the previous section. Hybrid structures typically come in two general forms. The first is an organisation structure that exhibits the basic characteristics of one of the purest forms but uses elements of the other form to advance certain firm-wide aims. This form is exemplified by some firms strategy in Asia. In a reflection of the strategic importance of the Asian market, many firms who use practice area organisational structures have created geographic regional managers in Asia to help shape the development of their services on that continent. These regional managers, similar to the firm s global practice area managers, report directly to the managing partner or the firm s executive committee. Regional managers are typically tasked with expansionary targets and often have the explicit goal of ensuring brand consistency across service lines in their respective geographic zones. This form also been used in domestic settings with firms who are expanding their offerings in new cities or regions. Similarly some firms using geographic organisational structures have created global practice area leaders to help develop a specific practice area or ensure consistency across borders within a particular service line. These roles have been particularly common in high value practice areas that are global in nature such as energy, M&A and financial services. 6

7 The Strategy-led Law Firm: Business Models that Work The second hybrid organisational structure differs from the first in that it is truly hybrid. These structures typically have regional managers for all major regions and practice area heads for all major practices. An importantly characteristic of this form of hybrid structure is that both regional and practice area heads are visible at senior executive level roles. This ensures that regional and practice area concerns are heard by senior management, and both have equal opportunity to lobby for investment funds and key positions in the firm s short and long-term strategy. Weaknesses The benefits of a hybrid organisational structure come at a cost and have proved elusive for many firms. Hybrid structures are costly due to the fact that they add additional layers of management, absorbing time from high performing partners and slowing down the rate of decision making. Furthermore, many firms have found it difficult to create truly hybrid structures. Simple questions over the number of regional managers and practice area managers to add to the firm s executive committee can be vitally important, as this mix will determine how decisions are made and therefore what benefits and weaknesses the organisational structure will exhibit. These questions can be particularly difficult when put into the context of a partnership, where partner politics can add additional levels of complexity to executive level appointments. Despite the importance of these decisions, private conversations with firm leaders often reveal that the choice of which organisational structure to choose is often left to internal partner politics rather than decided in line with the firm s long-term strategy. This has created vast differences between firms. US firms often opt for highly centralised management systems with small teams supporting the firm s managing partner or chairman. UK firms on the hand often opt for more complex management structures with clearly defined hierarchies which devolve power to regional management teams. Increased financial complexity An equally important implication of geographic expansion is the increased financial complexity of managing a global business. Firms that were largely domestic are now being required to manage businesses across multiple continents. This shift has implications for the firm s billing procedures, remuneration structures, investment strategies, and nearly every other aspect of internal and external operations. For example, decisions such as what currency to bill clients in, which were nonexistent in domestic operational settings, have broad implications when a large portion of a firm s revenue is non-domestic. Billing in foreign currency, as foreign clients often demand, can expose a firm to fluctuations in currency markets; affecting profit pools and partner remuneration. Questions on how to allocate this risk was a major topic for international firms during the economic downturn, which saw many domestic currencies plunge due to economic instability resulting from the global banking crises. The fundamental question is whether individual partners should have to bear financial responsibility for currency fluctuations in their home market. Resolving these issues is particularly complex for lockstep firms that share a single profit pool across international borders. Merit-based remuneration systems, which have been adopted by many firms in the past decade as a way to resolve intra- 7

8 Chapter 1 firm performance differences, help resolve some of the issues created by globalisation. These systems allow greater flexibility in partner rewards and thereby allow firms to incorporate issues such as currency fluctuations or differences in regional profitably by into remuneration models. One complexity of globalisation that many firms had not fully appreciated prior to expanding abroad was the immense financial differences between regions. Profit margins differ hugely between regions due to labour costs, real estate costs, and differences in realisable hourly rates. Rates can vary significantly between regions due to differences in client profile and demand of services. The Middle East, for example, is considered a high-rate region due to the importance of energy and transactionrelated services and due to the role of sovereign wealth fund clients. Latin America, on the other hand, has relatively low rates due to the prevalence of local firms and local clients. Labour and real estate costs are equally uneven between regions. Even minor issues such as the number of holidays employees expect, can have an impact on the number of available hours for billing and, in turn, on profitability. In lockstep financial systems these differences have resulted in tensions between partners of high-profit regions and lowprofit regions. While hybrid merit-based remuneration systems can help address these issues, many firms have gone a step further by creating distinct geographic profit pools. These separated pools often help resolve strains within a remuneration system by remunerating partners based on the profitability of the regions in which they operate. In these remuneration models, regions typically distribute their profits back to the global headquarters. These funds are first used for central costs and firm-wide investment plans and then distributed back to the regions based on preset performance goals. These goals should include firm-wide objectives such as business development and cross-selling between practice areas and regions. Importantly, they should also be adjusted to reflect local rather than global operational conditions. Annual goals should therefore incorporate local hourly rates and purchasing power parity issues such as labour prices, rental rates, and other region specific costs. References 1. NLJ 250, for further information see: 2. FT Global 500, for further information see: 3. NLJ NLJ Various law firm websites. 8