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Before it's too late to miss the brief window of opportunity for prognostications about the New Year, here's one more.

But first, let's back up a bit.

By almost anyone's lights, 2009 was dreadful for our beloved industry, even appalling. According to LawShucks, BigLaw laid off (read: fired) 12,196 people, of whom 4,633 were lawyers and 7,563 were staff. This, of course, ignores the reality that layoffs are surely under-reported.

Ugly enough, and the raw statistics don't remotely speak to the genuine, and too often borderline-tragic, realities of defenseless professionals finding themselves "redundant" (as the Brits either charmingly or bureaucratically term it), highly talented and expensively educated one and all. Worse, these people find themselves on the curb for reasons that either had nothing really to do with their performance or, if it was tagged to performance, for demerits that would probably not have had fatal repercussions a year or more ago.

For better or worse, that's not what I want to talk about here.

Adam Smith, Esq. is about the economics of law firms, and that's our topic.

Everyone, I believe, long ago wrote off 2009 in their own minds as far as financial rewards go.

• Associates are inured to salary freezes or even rollbacks.
• Staff expect the same.
• Everyone but everyone expects bonuses to be downsized compared to last year.
• Many non-equity partners, as far as I can tell, count themselves lucky to still be onboard.
• And of course, equity partners expect PPP to be flat to down anywhere from 5% to 25% or more. (You've heard the joke that "flat is the new up?" Chase Bank is rolling out a new campaign that "save is the new spend." Can you say "The End of History-- I don't think so."? This new mantra is foreign matter to the American DNA, and will be rejected by the host if it seriously attempts to implant itself in our expectations.)

Financial results for 2009 are, of course, just beginning to trickle out, and if past disappointing years are any guide--none of course remotely comparable to this--firms will not be rushing to punch the "send" button to announce their figures. Indeed, as is our wont, we will want the aircover of other firms announcing bad or worse numbers before we try to sidle our news into the media slipstream around 5:00 pm on a Friday before a holiday weekend.

But 2009 is not really on the agenda any more. We know about 2009 ad nauseum, we're done and we don't want, frankly, to hear much about it any more.

Which brings us to 2010.

I don't know about you, but I can take one bad year in stride. We all would prefer not to have to face a bad year, but as long as everyone in sight is more or less in the same boat, you can live with yourself, roll with the punch, and wax philosophical about the arc of a 40-year career.  Your spouse, family, friends, and professional colleagues will all understand.

Not so for 2010. People will want to know why 2010 will be different, and better. This is a potentially perilous topic.

A few fortunate firms will be reporting results that are on par or even better with 2008. But I predict the vast majority will be down on year-on-year comparisons, certainly in terms of reported PPP and even more certainly in terms of internally realized and distributed PPP. At too many firms, capital calls are up, distributions are delayed, and the future is unclear.

The most important question as we enter 2010 is very simple: "What now?" And "Why different and better?" This is the question that will be coming from your partners, associates, and staff as we grind out of the repercussions of late 2008 and 2009.

What's your answer?

The answer had best be persuasive, credible, and, perhaps most difficult, consistent with who your firm is and what has gone heretofore. You can't realistically turn the place around if that means making it something it never was, never ought to be, and isn't what your people signed up for.

In other words, the priority for senior management for 2010 is not just "making the numbers"--challenging as that will surely be--it's giving people a reason to believe.

Why will 2010 be better? How, exactly? How does this fit my image and vision of the firm? Not just how does it advance my career, but how is it something I can buy into, hearts and minds? "Trust us" as a response won't cut it.

And if you get this wrong?

I predict 2010, not 2009, will be the big year of shakeouts in the composition of the leading firms--and I mean that across the board, whether you define your peer group of competitive and therefore "leading" firms as the Global 50, the AmLaw 50, the AmLaw 200, or regional firms in your local market.

The dynamics are fairly simple: People wrote off 2009, but they're not prepared to write off 2010.  By "2010" I really mean the foreseeable future of their fortunes at your firm.  If this was the "Great Reset," then you should have re-booted, re-imagined, and re-invigorated your firm by about this time.  If you haven't, "2010" really means "as far as the eye can see."

In turn, people's  faith in how 2010 may turn out at your firm depends on their faith in the strategic vision of the firm. Is it credible? Ownable? Distinctive? Why, again, is 2010 going to be better than 2009?  

If you don't have a compelling answer to that, be prepared for bad news on the people front.  We often say it, but sometimes the obvious is worth repeating:  Within five or ten city blocks of your offices (all of them), there are probably two dozen buildings containing 50 or 60 elevator banks leading to the reception areas of major competitors.  How hard is it, really, for someone to choose another elevator bank?

At the outset, I promised you a prediction for 2010. At the risk of your revisiting this in January 2011 and finding what follows utterly wrong (Adam Smith, Esq., on principle, never deletes anything from our archives), it's simple:

• We will see more firms fail;
• And more "surprising" firms fail;
• More firms merge;
• And more"surprising" mergers

in 2010 than we have in a long long time.  Economics may be the proximate cause, but a failure of vision and belief will be the core cause.

Happy New Year.

Hogan & Hartson/Lovells?

As amply reported (Legal Week, The National Law Journal, The Lawyer), the firms are in merger talks and, since no one is remotely denying the reports, we can only assume it's all quite for real.

We'll get to what we think it means in a moment, but first, to the numbers:

*All figures in US$, using a conversion ratio of 1.594 $/£.

In addition, cities where both firms have offices are:

• New York
• London
• Hong Kong
• Beijing
• Paris
• Tokyo
• Munich
• Moscow

On a pro forma basis, the combined firm--assuming a complete merger--would have these characteristics:

• Revenue: $1.9-billion
• Number of lawyers: >2,500
• Global rank: Neck and neck with Latham & Watkins and Allen & Overy, all in a horse race for Global Firm #7:
  • DLA Piper: $2.26-billion
  • Linklaters: $2.23-billion
  • Freshfields: $2.21-billion
  • Skadden: $2.20-billion
  • Baker & McKenzie: $2.19-billion
  • Clifford Chance: $2.16-billion
  • Latham & Watkins ($1.92-billion), Hogan/Lovells (roughly $1.9-billion), Allen & Overy ($1.88-billion)

Finally, the practice mix would seem at first glance to be highly complementary. Hogan is known especially for its regulatory/government law practices, antitrust, litigation, intellectual property, real estate, and a substantial level of corporate work. Lovells, somewhat unusual for a UK-based firm, also has a relatively robust litigation practice and is less deal-driven than (say) the Magic Circle, as well as having strong real estate, antitrust, and regulatory law capabilities.

So: What does this really mean?

Already the naysayers, of course, are keening about the challenges and the obstacles.  To be fair, the commentary has not been uniformly negative, with (for example) Alex Novarese of Legal Week saying that "at first glance, there appears much to commend this union," but he is quite the exception.

A sampling:

• "Merger-averse Hogan" supposedly reversing field;
• "partner compensation is, of course, a tougher challenge;"
• "transatlantic deals are fiendishly difficult to pull off;" and "transcontinental mergers have a mixed [read: dubious] history;"
• "US/UK deals are notoriously difficult to secure given the challenge of marrying differing partner compensation and accounting models;"
• "it's not clear what a merger would do for the combined firms' profitability;" and, of course, the inevitable
• "there could also be conflict over whether control of the combined firm would reside in Washington or London."

I'm here to tell you that it's time for us all to just get over ourselves.

So far as I can tell (no insider knowledge here, folks, sorry to report), this deal makes superb sense.

For how many years/decades/centuries have major corporations been doing transatlantic business on a routine basis? And somehow they have been managing to smooth out the differences between the pound sterling and the dollar, the differences between compensation expectations in the US and the UK (not to mention New York and London specifically), the differences between driving on the right and on the left, and of course the grain of truth in the famous quip about being "divided by a common language."

As for the New York/London divide specifically, we are informed by a UK legal publication that the architects of this deal should be grateful Hogan doesn't have its roots here in the Empire State: "A conservatively-run practice like Hogan, with a centre of gravity outside the brittle egos of Manhattan, shouldn't be the hardest American firm to align with a UK practice." [Note to visitors to the home office of "Adam Smith, Esq.:" Please check your egos at the door; we do.]

Are there challenges? Of course; there are challenges to running each of the firms today, as they stand alone. Would the challenge of running the combination be twice as great? Perhaps, but I doubt it--at least it would decline over time, and in the meantime there would be double the resources to devote to the challenges. Combinations that have far more moving parts than this one (just to pick a current example, Kraft/Cadbury) are pulled off routinely in CorporateLand. Why do we presume market forces end where legal services begin?

More importantly, do you see what's going on here?

Each of the obligatory reservations stated to the deal--partner compensation, the putative transatlantic "challenge," whether Washington or London would "win"--is at bottom a rather shameless exercise in navel-gazing.

When I said it's time for us to "get over ourselves," this is precisely what I meant. So far, the tenor of discussion about this proposed merger has been--at least when it shifts from pure journalistic reporting to implied or overt opinion--about as sophisticated as sports bar debates. (I am compelled to note one outstanding exception, which I would like to believe serves to prove my rule, namely the thoughtful commentary by Aric Press, "What a Hogan/Lovells Merger Would Mean.")

This is potentially a transaction that will change a conspicuous portion of the BigLaw landscape globally. Prattle as we may about the "globalization" of the profession, the Global 100 law firms are still (for reasons that have understandable, if archaic, roots in history and regulation-by-jurisdiction) almost shockingly insular, domestically rooted institutions. Of those 100--pop quiz--how many have:

• Over 50% of their lawyers outside their home country? Only 10 (yes, including Lovells, and counting DLA worldwide and DLA international as one firm).
• And of those 10, how many are of US origin? Two, namely White & Case and Baker & McKenzie.
• Between 30 and 45% of their lawyers outside the home country? Again, only 10, with a somewhat more respectable 7 of US origin.
• And below the 30% bar, the pickings get slim indeed, including some heavyweight name brands with surprisingly low numbers. For example? I would argue that if at least 3 out of 4 of your lawyers are in your home country, you're not yet seriously international. Here are some candidates (not to single these out, just to make a point):
  • Sullivan & Cromwell: 22% of lawyers non-US based
  • Skadden: 16%
  • Sidley Austin: 16%
  • Davis Polk: 13%
  • Simpson Thacher: 11%
  • &c.

The point is simply this: As an industry, we are not nearly as "internationalized" as our clients, and certainly not remotely as global as the premier clients we all aspire to serve.

It sounds to me as though the leadership of Lovells and of Hogan & Hartson are focusing on genuine strategic objectives and not on "who's on first."

We all need to grow up, snap out of our self-referential and unappealingly self-regarding reveries, and seriously contemplate what this may portend. And from my perspective, it will all be good. Overdue, but good.

A Merry Christmas, Happy Holidays story of the first order:

As noted this morning by The New York Times, Above The Law, and The WSJ Law Blog, Sonnenschein is acquiring about 100 lawyers, including 40 partners, from 160-year-old Thacher Proffitt & Wood—technically, not a merger of the firms but a large lateral group acquisition.  The lawyers come from Thacher's four main practice areas, including Structured Finance, Corporate and Financial Institutions, Real Estate, and Litigation, and include the chairs of each group.. 

The sad news is that this represents the end of the road for Thacher as a firm, but the reason to celebrate is that this extremely talented group of lawyers will have the opportunity to remain together, serving their clients from a broader, more diversified, and financially strengthened platform.

Are there larger lessons in this deal for our industry?  I believe so, but for now I'll leave those for another day.  (Hint:  They have to do with heavy concentration on specific practice areas.) 

For the moment, it's a much-needed vote of confidence in the ultimate recovery of the financial services sector:  Thacher's core clientele included all the biggest banks and investment banks and today a marquee client is the US Treasury Department itself, under the TARP program.  The sector will regain a pulse eventually, and this is a sign that I'm not alone in that faith.

Sad as it is to see a storied firm, bombed out of the World Trade Center twice and still resilient, reach the end of its road, what really matters is not the name of a brand, but the individual lawyers and professionals. No one at Thacher died during the two WTC attacks, and none will "die" professionally today. That's why it's a good news holiday story. They are living to fight another day, and (disclosure) from personal experience and acquaintance, I can testify that they're fighters.

Nothing less than a generational transformation of investment banking and the financial services industry at large.  Its implications for, among other things, the economies of New York City and London, the structure of global capital markets, and our own dearly beloved industry, are impossible to predict with any high degree of confidence, but I think we already know a few things.

First, as an AmLaw 50 Chairman I know well put it to me yesterday, "the business model of 35 times assets:equity ratios is over."  That works great in flush times but it kills you (literally) in times like these.

"Lend long and borrow short" was always a game that threatened to turn the tables on you at the worst times in the nastiest of fashions, and it turns out that "invest long and borrow short" is no less so.

Does this mean that the "Masters of the Universe" investment banks will more closely come to resemble--or pair up with--conventional deposit-taking banks? Of course, that's already happening, and we can envision a world where financial services institutions break down into:

• Truly global mega-banks (Bank of America, Candidate A) which take deposits, issue credit cards, offer mortgages, cater to every customer from retail walk-in checking account folks to small businesses, luxury private wealth management, and Fortune 500 underwritings;
• Boutiques offering investment advisory services, M&A counsel, and the like (think Greenhill or Evercore);
• Hedge funds, private equity, and venture capital (Blackstone, SAC, KKR, Kleiner Perkins); and
• Unknown and undefined institutions yet to be invented and unfurled.

The last point is the most important. Investment banking reinvents itself (by opportunity and necessity) every decade or so, and there's no reason to imagine this time will be any different. Where does this innovation come from? At the risk of contradicting my next point, historically it has come from New York. And who does it? Creative and, yes, greedy, investment bankers, but also lawyers at the premiere firms, working hand in glove to imagine, craft, and define the products and services the industry will offer in its new incarnation.

Depressed and demoralized? The sin, we know, in America, is not being knocked down. It's failing to jump right back up. We may have seen the end of investment banking as we've known it for the latter half of the first decade of this century, but we have not seen the end of creative financial engineering.

Second, this cannot be good news for the economy of New York City.

This pains me, as a Manhattan native born and bred, but I value realism over sentiment.

London already has the unspeakable advantage of time zone: If you want to do business with North America and Asia (not to mention the Mid East) in one day, London is a terrific place to be. It also happens to be a very civilized place to live, and it's possible to do so in fine style provided one's pay is denominated in pounds Sterling.

As for New York (the numbers vary), something on the order of 10% of all jobs in the City are/were in financial services, but they account for 25% of total payroll and a "multiplier effect" of 3 jobs per financial services sector job--which produce average annual salaries of $280,000. If you cut substantially into that employment, purchasing power, and tax base, as we're in the process of doing, everything from demand for caterers to jewelry to BMW's and co-op apartments is going to decline. Stemming the pain, we can only hope, will be the "America on sale" psychology, and reality, of the weak dollar, bringing foreigners here to drive demand for everything from, again, iPhones at the Apple Stores to Fifth Avenue apparel to Central Park West co-ops.

In the long run, New York will always be the financial capital of North America, and in some symbolic, enduring, and romantic, gritty, black & white night-time rain-soaked pavement sense, the port of entry to the American dream. But it will have substantial, and ever-stiffening, competition on the global stage.

Third, this is indeed a fundamental de-leveraging of financial institutions worldwide, as nicely captured today in a front-page WSJ article:

The U.S. financial system resembles a patient in intensive care. The body is trying to fight off a disease that is spreading, and as it does so, the body convulses, settles for a time and then convulses again. The illness seems to be overwhelming the self-healing tendencies of markets. The doctors in charge are resorting to ever-more invasive treatment, and are now experimenting with remedies that have never before been applied. Fed Chairman Bernanke and Treasury Secretary Henry Paulson, walking into a hastily arranged meeting with congressional leaders Tuesday night to brief them on the government's unprecedented rescue of AIG, looked like exhausted surgeons delivering grim news to the family.

Fed and Treasury officials have identified the disease. It's called deleveraging, or the unwinding of debt. [...]

At least three things need to happen to bring the deleveraging process to an end, and they're hard to do at once. Financial institutions and others need to fess up to their mistakes by selling or writing down the value of distressed assets they bought with borrowed money. They need to pay off debt. Finally, they need to rebuild their capital cushions, which have been eroded by losses on those distressed assets.

But many of the distressed assets are hard to value and there are few if any buyers. Deleveraging also feeds on itself in a way that can create a downward spiral: Trying to sell assets pushes down the assets' prices, which makes them harder to sell and leads firms to try to sell more assets. That, in turn, suppresses these firms' share prices and makes it harder for them to sell new shares to raise capital. Mr. Bernanke, as an academic, dubbed this self-feeding loop a "financial accelerator."

Now that there appears to be a sort of "Resolution Trust II" on the horizon, we may be out of the immediate woods. But there's no question the financial services landscape is changing before our very eyes, in ways likely to last for the duration of many of our careers.

Fourth, it seems a virtual certainty, regardless of what happens in the US electorally in November, that we will be entering a more highly regulated world. And not just in the US, but in the EU as well.

You can applaud or decry this, ideologically, but everyone I speak to--unanimously--thinks it's a foregone conclusion.

Now, regulation per se is always a good thing for the business of lawyers. Whether it's a good thing for the economy and the vitality of our capital markets is something else altogether. On the whole, the consensus is that "new regulation is going to solve the problems that are already behind us. Just like Sarbox 'solved' the problem of Enron, retroactively, and just like the Transportation Security Department's airport screening procedures 'solve' the problem of 9/11, seven years too late." (This from an AmLaw 25 managing partner I spoke with today.)

His view, and mine, is that regulation is always backward-looking, and tends to be an encrustation on an already-existing structure, rather than a clean-slate, "zero-based budgeting" analysis of what we really need going forward. You read it here first.

Fifth, this type of economic environment will accelerate segmentation and consolidation in our industry.

Among law firms as among financial institutions, there will be winners and losers emerging from this downturn. Among the "losers" we may already count Heller (look for a post-mortem in these pages to come) and Thelen and perhaps one or two others that will outright cease to exist. Short of dissolving, other firms will find their competitive postures impaired, their attractiveness to laterals and law students compromised, and their viability as independent going concerns in question.

David Morley, new senior partner of Allen & Overy, announced last week in conjunction with release of their Annual Report:

I see us becoming the most successful of the emerging global elite of law firms. Those firms are beginning to set themselves apart when defined by scale, geographic reach, quality of people and concentration on high end, premium work for the largest clients. As each year passes the members of that emerging group, and what it takes to succeed in it, become clearer.

This throws down the gauntlet, does it not?

Yet I for one believe David has it precisely right. There may be six, there may be 12, but there will not be an AmLaw 100 or a UK 50 of firms that are truly viewed as the most global of players catering to the most global of financial institutions and corporations as we move on down the road into the second decade of the 21st Century.

If you believe that the tectonic shifts in our financial services industry going on this week mean that the world will be comprised of fewer and larger institutions, will they not indeed look to commensurately globally capable law firms? I believe they shall and must.

Sixth, what do you do now?

I believe you ramp up your competitive efforts. This is not the hour of the timid or the paralyzed.

If you haven't already figured out who you are and what you want to be, it is all but too late. Not "TOO late," but getting close. (And if you're on the fence about where you are, can we talk?)

If you have it figured out, but aren't there yet, this is the time to put your convictions to the test. Economic troughs like this don't cement the status quo, as I've said before, they tend to disrupt it. Now's the time for you to make your disruptive move. Incumbents may not like it, but there is no hereditary right of incumbency.

Above all, do not lose heart, be optimistic, believe in the value your firm and your partners can provide.

• Corporations' demand for financing, for credit, for leverage, and for capital is not going to diminish.
• Globalization is here to stay.
• Regulation is not shrinking, it's growing.
• Wall Street reinvents itself every decade or so; financial services are going to come back, securitization most prominently included.

Watch your costs.

Be opportunistic about the real estate landscape if you need to relocate or expand.

Hire and recruit prudently.

Ask probing questions about people and other assets who are on the street; it may be through no fault of their own, but then again.

Most of all:

Be bold. Fortunes are never made by buying at the top.

I've never seen so much opportunity as now.

Best of times or worst of times to make some acquisitions?

This is one area where the head/heart divergence may be more radical than usual—and where it could really cost you.

Here's how McKinsey poses the dilemma:

"As the credit crunch threatens to become a global downturn, corporate leaders have a choice: pull in their horns and ride out the storm or look for opportunities to pick up bargain-basement assets that will help them grow and create future value for shareholders. If past is prologue, more will follow the first course—which is a mistake."

The head/heart opposition is simple to understand:  While your head tells you that one of the best times to invest is in a downturn, that's precisely when your heart quails.  "Buy low, sell high" is advice so impeccable as to achieve the truly advanced state of tautological, but "buy high, sell low" is more descriptive of the way people actually behave across economic cycles. 

I may not be able to change your heart—only you in league with your spouse or your shrink can do that—but I can at least hope to arm you with the intellectual fortitude to mount a stalwart case for exploring some acquisitions now, in the teeth of the fretful and querulous naysayers.

Based on a survey of over 200 global companies, the authors (who also collaborated on the May 2008 book The Granularity of Growth), derive two pivotal conclusions:  The most powerful way to position one's firm for growth coming out of a downturn is through selective acquisitions during that downturn, and, conversely and with wonderfully rewarding and symmetric logic, during an upturn selective divestitures create slightly more value than acquisitions.

If only people behaved that way:

This shows the actual behavior across a sample of 537 product/service lines (from 187 companies) between 2001 and 2004, in reaction to a "major" (> 10%) upturn (top blue bars) or downturn (bottom green bars).  Essentially, the lessons are:

• Companies are more likely to divest during a downturn;
• And more likely to acquire during an upturn;
• While the reality remains that during both upturns and downturns the most likely course of action of all is simply to do nothing.

Again, this is understandable.  But that, I would argue, is less an excuse than an indictment of conventional wisdom. 

Do you want to "protect your balance sheet" during a downturn?  Sounds logical.  (And, to be sure, some firms simply aren't in a position to do otherwise.)  And as revenues flag and margins are compressed, you may focus on cutting costs and trying to at least match previous periods' earnings levels.

But the savviest growth companies do otherwise.  Famously (as even the usually somnolent business coverage of The New York Times realized in 1999), GE Capital immediately went on a capital spending binge following the Asian financial meltdown in 1997:

The last two years alone, [GE Capital] has made at least eight major investments in four Asian countries, expanding its assets to about $20 billion in the region. Acquisitions included two consumer-credit businesses, a life insurance company and a $5 billion leasing company in Japan, a consumer-credit business and a portfolio of car loans in Thailand and a life insurance unit in the Philippines. It also has its sights on a stake in a South Korean bank.

[...]

[T]he 1997 Asian financial meltdown and resulting recession turned the area into a vast bargain basement. Here was GE Capital's chance to buy up distressed companies and establish itself in the one part of the world where it lacked a strong presence.

''There's no question that financial turmoil has resulted in an environment that facilitates deal creation,'' Denis J. Nayden, president of GE Capital, said in a telephone interview from the company's headquarters in Stamford, Conn. ''Yes, we have moved into that opportunity.''

In other words, countercyclical growth works. 

If you're in a position to do so, think about trying some for yourself.  You may like where you'll end up on the other side of this credit markets lockdown.

We have our first comprehensive report on how 2008 is shaping up financially, courtesy of The American Lawyer, and Dan DiPietro of Citi's Private Bank, and it paints a picture of what are soon going to be, if they aren't already, vastly diminished expectations.

Let's set the scene.

Since 2001, we've enjoyed overall consecutive year over year growth rates at almost double digit levels in practically every metric that counts. Here are the CAGR (compound annual growth rate) figures for the 2001 to 2007 time span:

• Revenue: 10.6%
  • YTD 2008: 4.8%
• Gross billable hour demand: 3.9%
  • YTD 2008: -0.3%
• PEP: 9.3%
  • YTD 2008: -9.1%
• Growth in the ranks of equity partners: 2.9%
  • YTD 2008: 1.7%
• Associate compensation (roughly 23% of total firm revenues): 10.1%
  • YTD 2008: 15.2%

Now all of these trends have turned negative:

• Revenue growth has reversed, with demand the weakest since 2001
• Since firms have continued to add lawyers, there's "profit margin compression"--lower revenues hit higher expenses

And, fascinatingly:

The slowdown is hitting the most profitable firms the hardest. In the first half of 2008, demand dropped off even more dramatically and expenses increased at a more rapid pace at the top firms, resulting in even greater margin compression and a steeper drop in productivity than experienced by their less profitable rivals. The practice areas that normally provide a lift in a downturn -- restructuring, bankruptcy and litigation -- have not helped cushion the drop-off in transactional work.

It's not just a failure of the classic countercyclical practice areas to kick in; there appears to be a structural component involved as well.

When firms are broken out by profitability, our data produced an interesting finding. The firms that soared in 2002 through 2007 were harder hit in the first half of 2008 than their less profitable peers. From our sample of 165 firms, we broke out 63 top-tier firms (defined as those with profits per equity partner above $650,000 in the year 2000). Over the past six years, this group has consistently produced higher growth in revenues and PPEP than other firms.

That changed dramatically in the first half of 2008. Growth in PPEP for 51 of the 63 top-tier firms that reported their results to us plummeted from an 11.7 percent increase in 2007 to an 11.8 percent drop in the first six months of 2008. In contrast, their less profitable rivals experienced a 5.3 percent drop in PPEP in the first half of 2008. After reaching a seven-year peak of 7.4 percent growth in 2007, demand at top-tier firms actually dropped 1.6 percent in the first half of 2008. Again, this decline compares unfavorably with the 1.1 percent rise in gross billable hours at the other firms in our sample.

Top-tier firms experienced even greater profit margin compression than their peers, with revenue growth of 4.3 percent and an increase in expenses of 10.9 percent. In contrast, the other firms we surveyed had revenue growth of 5.5 percent and a rise in expenses of 9.1 percent. Demand at top-tier firms declined in both the first and second quarters of 2008, in contrast to their less profitable competitors, for whom demand dipped in the first three months but increased in the second three months.

The posited explanation is that since firms with the highest profitability tend to concentrate on serving the financial services industry's demand for transactional work, they are suffering disproportionately from the freeze gripping that sector. This rings convincingly true to me. And the data support it: Hours per lawyer have dropped 8% at these top-tier firms compared to a decline of 2.9% elsewhere.

One last observation from the report and then some commentary.

What Citi defines as "international" firms, with between 10 and 25% of their lawyers abroad, "experienced greater profit margin compression than any other group of firms." By contrast, "global" firms, with more than 25% of their lawyers abroad, have experienced the least profit margin compression.

If you assume that firms just beginning, or in the early stages, of international expansion are focused on the UK and the EU, this makes some sense: Those geographies are experiencing a similar, though not as sharp, a slowdown as we here in the US. So their geographic diversity hasn't helped much. By contrast, if you think Citi's definition of "global" firm identifies firms farther down the globalization path, they're likely to have substantial presences in Asia and the MidEast--areas anything but suffering from the Western economies' downturn.

More importantly, this speaks to the power of a diversified portfolio of practices--both by specialty and by geography.

So: What's to be done?

Since you can't create a truly compelling international platform by yourself overnight, you have one aggressive and one passive option. The aggressive one is to carefully, thoughtfully, and thoroughly explore a potential merger with a firm that, together with yours, would provide that international platform.

Globalization is here to stay, and the notion of a powerhouse firm based primarily in one country--no matter how large the domestic economy--will increasingly become a mark of irrelevance.

The more passive, or perhaps I should say more cautious, response is simply to do what you can to cut costs.

There's just one problem with cutting costs: Your biggest costs are (a) people and (b) office space.

You can't cut corners on either one. And, as many firms learned to their lasting chagrin after the dot-com bust, if you cut associate ranks drastically to improve short-term results, you have no mid-level bench strength when the good times return. Neither your clients nor people in your recruiting pipeline--nor partners who have to turn down work or over-stress their colleagues--forget this soon.

Which brings me to the real point.

Firms that are "suffering" (down 10% in profits?--let's get a grip, people) are probably in that situation because they made bets--hopefully calculated--to concentrate on practice areas that were hot. That's all well and good, if they were consciously chosen bets placed with an understanding of the odds of their coming up snake-eyes.

Managing a sophisticated law firm is not remotely a quarter by quarter exercise, and it's also not a year by year one. It requires explicit, considered, hard thought through choices about what your firm is, what it's capable of, and what it can credibly and realistically aspire to given your client base, your recruiting pipeline, and a clear-eyed view of your partners' and associates' appetite for change.

And then it requires a consistent communications effort, forceful, undeviating, adapted to different audiences at different times but indistinguishable in thrust. You need to be shockingly clear about the vision, able to crisply articulate it, relentless in communicating, and prepared to reinforce it all with carrots and sticks.

Come to think of it, maybe it's easier just to cut costs.

I recently had the chance to sit down with Jay Zimmerman, Chairman of Bingham, to discuss the changes he's seen over his career, and to talk about the future of the legal industry and Bingham. Herewith a synopsis.

Jay (Harvard, Harvard Law) started his career in New York at Debevoise, but within a couple of years moved to Boston and joined what was then Bingham, Dana, and Gould. Making partner in 1986, he relocated with his family the following year to London to manage what was just about then the tiniest office imaginable for Bingham--one partner and one associate--and ended up staying seven years. (Since Jay's transatlantic stint, the London office has grown to 45 lawyers, focused on financial restructuring and financial regulatory practices.) Enjoying the quintessential ex-pat experience, Jay got to the point where he never expected to return. But of course he did, to lasting effect.

"Are you sorry in any way that you left London? Obviously there's a school of thought that London has or will overtake New York as a financial capital."

"Well, I wouldn't write New York's obituary quite yet!" Nor, he volunteers, would he worry about the "New York elite" firms who haven't yet invaded London to a material degree. They have the resources and the will to do so when they see fit, he opines. "It's a problem lots of firms would like to have."

The firm he returned to relied on Bank of Boston (founded in 1784) for fully one-third of its business, and the comfortable relationship engendered complacency (my reading, although Jay would probably be more politic). Sure enough, in the recession of the early 1990's the Bank was challenged: Its share price hit a low of $3. In 1996 (we now know) it was to merge with BayBanks, then to be acquired in short order by Fleet (1999) and finally by Bank of America (2005).

Although Jay and his partners had no inkling of that subsequent history, it was clear that with such extraordinary over-reliance on one key client, and with essentially all of its 200 lawyers based in Boston, Bingham had what was not exactly a business model for durability in a world of change.

In 1994, Jay was elected Chairman and embarked on nothing less than a concerted transformation of Bingham, with no fewer than nine mergers since 1997, and the following results:

Increasing the number of offices from one with three small satellites to 13, across the globe;

• Quadrupling its size and then some to nearly 1,000 lawyers;
• Growing revenue eight-fold; and
• Increasing revenue per lawyer from about a third of a million dollars per year to nearly $1-million.

Last year was Bingham's best on the financial front. As for 2008, Jay reports that the firm is experiencing an even stronger first half compared to last.

How did Jay do this? As he observed drily, "fear is a great motivator."

Other firms have tried to move from a metropolitan or regional base to a national and even international platform, with varying degrees of success. How has Bingham done it?

"Well, for starters, Boston was, second to New York, perhaps the most sophisticated and highest-rate legal market in the domestic US. If you want to try to build a global firm, it helps to begin in what's a relatively high-end home market.

"LA has produced some absolutely terrific firms, Latham, Gibson Dunn, etc., but when you think about it the LA market itself is an uncommon place for very high-end law firms to come from: It's not a powerful financial capital, it doesn't have a lot of Fortune 500 headquarters, and its industries are widely dispersed. But then again, when you look at where other nationally prominent firms have come from (the Midwest, for example, and I say that as a St. Louis native), Boston wasn't the worst place to start."

It's clear to me, I observe, that Jay personally has been a large part of the driving force behind Bingham's decade of expansion. "How do you deal with the challenge of leading notoriously autonomous and independent-minded lawyers? Obviously this is a challenge for any managing partner or Chairman, but when you embark on a course of, essentially, transformation of the firm--not a 'steady as she goes' strategy--you've really upped the ante."

"It's probably a cliché, but it's communicate, communicate, communicate. I'm constantly traveling--in fact I just got back from London and Tokyo--and I meet and talk with as many partners, associates, and staff as I possibly can. I do videotapes. [There's a nice sampling on the firm's website--Bruce] In fact I just did a videotape for the summer associates, who are just starting. But there's no question it's a challenge. You need to be out in front of your partners, but not too far out in front."

And the message is?

"The message is two-fold:

"Number one, this firm is ambitious, and our lawyers need to be ambitious. They need to understand that. When I talk to people we're thinking of recruiting, I try to get a sense of their level of ambition. People want to fit in, and we as a firm want them to fit in. So ambition is part of what we're all about.

"Number two, we love change. You don't hear that often from a law firm, but the fact is that the status quo is good for incumbents, and we're not an incumbent. In change we have opportunity; in stasis we don't. So people here need to be prepared to embrace change."

I observe that law firms can be fragile institutions. Is that something he worries about?

"Of course. We're all here voluntarily. And when you're in the business of assembling a bunch of highly talented people, one of the consequences is that those people have options. The only reason they come back up in the elevator in the morning is because you've presented them with, and continue to present them with, an attractive career proposition. But yes, I pay a huge amount of attention to that. It goes back to communication, and to having people here who fit in and want to fit in."

Is "work-life balance" part of that equation? Part of the task of retaining talent? And how different is "Gen Y?"

"Well, they're really hugely different. The original IBM PC was introduced in 1981 and our new associates were born after that. They've grown up digital; it's not news. But I don't think the term 'work-life balance' is helpful, descriptive, or informative. If you're going to make it here, you need to be committed. What has changed is that commitment takes a different form. When I started at Debevoise, it was all about 'face time.' You needed to be seen in your office at 7 or 8 or 10 pm, and the same on Saturday mornings. But today of course you can work from pretty much anywhere--so long as you do the work.

"But again, the commitment hasn't changed. Look at young investment bankers starting out. They get told, 'Look, you're going to make a lot of money, but you need to be on call 24/7. We're not going to need you 24/7, but you need to be on call.' For our associates, what I tell them is that it's all about realism. If they're realistic about the commitment this profession demands--as well as the rewards, intellectual, professional, and otherwise, that it can provide--then they'll be fine. If they're not realistic, they're in for a rude awakening."

I ask if he's familiar with the industry structure I call the "hollow middle," where consumers gravitate toward either the high-end, high-quality providers, or the mass market, value providers, but not in meaningful numbers to any middle-market providers. This industry structure is remarkably common and seems to be stable--an "equilibrium," as economists would put it. For example (think about whether these don't represent your own buying patterns):

• Apparel (you want Armani or Gap)
• Cars (BMW, Lexus, Mercedes, or Toyota and Honda)
• Alcoholic beverages: Beer, wine, and liquor (fill in the blank)
• Groceries (Roquefort or a dozen eggs)
• Financial services (free checking for life or Bessemer Trust)
• Etc.

Jay thinks it may hold lessons for the legal industry. And we know where he wants Bingham to be.

I realize that I don't have a firm grasp on Bingham's international strategy, so I pose the question bluntly: "Tell me what it is."

Jay says he likes to use the phrase "global relevance." By that he means Bingham attempts to offer a practice focused on one of their core strengths, which is global restructuring and financial regulatory work. They strive to offer this in London, in Tokyo, and increasingly in Hong Kong. "There are a lot of opportunities out there which are very real--they're just not opportunities for us." In other words, Bingham doesn't need to have a dozen offices across the EU, or any offices in mainland China until the financial systems there mature a bit more.

"What makes this strategy work for you?"

"Well, first of all, there are spinoff benefits to other practice areas, including litigation, corporate, and finance work itself. But secondly, we're benefitting--as we have in other areas--from changes and even relative turmoil in the markets. I'll give you an example. Ten years ago in London everything having to do with restructuring distressed companies or distressed assets primarily involved banks: They had extended the credit, their covenants that were being violated, and they were in the driver's seat. Since we didn't have old-line relationships with those banks, we didn't have the connections necessary to attract that kind of work.
"But today lenders are all over the lot: They're hedge funds, maybe private equity, other sources of capital, and bondholders are no longer passive--they're aggressive. This gives us many points of entry, and they're not all the traditional institutional players. As I've said before, it's a different world, and that creates opportunity for us."

And what of the future?

"We believe that as globalization accelerates and the world becomes a more complex place, there will be increasing demand--both in absolute terms and across geographical regions--for sophisticated restructuring capabilities, again, with all the financial regulatory authority interfacing that goes with it. We don't think this practice focus is at any risk of obsolescence."

Regular readers will know that one of the "evergreen" topics here at "Adam Smith, Esq." is what can possibly explain the fact that for the past 30 years essentially 50% of law school graduates have been women and for almost the same period of time only about 15% of BigLaw partners have been women. Neither number is budging. Why, I ask Jay, is this?

"As a father of two grown daughters, I think about this often, so I'd like to take some time to share my thoughts on this. The unfortunate reality of today is that you can't defy gravity, but I am optimistic things will change.   By 'you can't defy gravity' I mean that graduates of our elite law schools, for the most part, marry people with equally promising career prospects. So you have all these couples composed of a pair of high-achieving people starting off.

"When it comes time to have a family, it often makes economic sense--putting aside any emotional issues--for one spouse -- and it is usually the woman -- to focus on raising the kids. If you assume that many of these couples are in a position to live on one income, it's probably not so surprising what we see happening in the workplace.

"This scenario is not unique to law firms. We need to do a better job as a society to ensure that there are equal opportunities for women to pursue their career ambitions -- and not be automatically placed in a position of choosing between starting a family or building a successful career. Ultimately what we can do, and I do believe that we do this at Bingham, is to provide the opportunity for all our lawyers -- men and women -- to succeed.

"For women, we encourage flex- and part-time schedules. It is not uncommon for us to elect women partners who are or have been part-time. We provide an environment where women are encouraged and are given every opportunity to succeed. Our efforts have not gone unnoticed internally as well as externally. We're consistently noted for our positive and supportive work environment by FORTUNE in its '100 Best Places to Work For' issue (for five straight years), and by Working Mother and several regional publications where we have offices."

As we're preparing to adjourn, Jay recommends to me a Harvard Business Review article that has been influential in his thinking, "Strategy as Active Waiting" [only available for a fee, but I've bought it and look for a column about it here soon]. The concept is essentially:

• Keep your priorities clear, but your roadmap fuzzy;
• Test the future; examine your assumptions; keep an eye on the horizon;
• While you're watching, keep the pressure on your day to day competitiveness; don't let up; and
• When you see an opportunity opening up, focus on it with urgency.

As I'm about to get up, Jay asks abruptly if I think leaders can be made.

"No, I don't," I say. "You can 'make' managers, and you can expose people with leadership potential to career-broadening environments (say, sending them to Hong Kong for 3 years), but no, I don't believe you can 'make' a leader out of whole cloth."
"I agree; nope, you can't." (I'm relieved to have provided the right answer.)

There's little doubt Jay has managed Bingham with urgency and focus. The challenge--scarcely unique to Bingham--is now maintaining their strategic focus as they expand internationally. And besting the hollow middle.

I'm at the Georgetown Law Conference on the "Future of the Global Law Firm" for the next couple of days.

I'll try to report in as close to real time as I can, but whether or not I achieve that objective, look here on "Adam Smith, Esq." for the most complete coverage of this promising and unprecedented conference.

The Times (UK) asks today, "Slaughter & May v Clifford Chance:  Who is pursuing the best route?"

The article puts head-to-head two concepts of what makes for a great and powerful law firm:  World-leading profits per partner, on one hand, vs. a truly global footprint and powerful international capability, on the other.  At over £2-million/year in partner profits, Slaughters is up where the air is very thin indeed—indeed, if you believe The Lawyer's latest rankings of the Top 50 US firms, one and only one firm is in that same troposphere, the usual suspect, Wachtell. 

But if what you care about is multinational local law capability, Clifford Chance is your horse.  In fact, in the past ten years Slaughters closed offices in New York and Singapore, leaving outside London only Hong Kong and Brussels.  It serves clients abroad through the familiar network of "best friends," and its friends are not only that but are highly ranked firms each in their own right:

• Bredin Prat in France,
• Hengeler Mueller in Germany,
• Bonelli Erede Pappalardo in Italy, and
• Uria Menendez in Spain.

We'll get back to Slaughters vs. CC in a moment, but first let's juxtapose that network of friends with thoughts from this piece courtesy of The Lawyer about "European unions." Citing Eversheds, Pinsent Masons, and CMS Cameron McKenna, the article posits that "With networks, national firms have found they can leapfrog City rivals with their own European offices, only without the hassle and expense of launching on the continent." Sounds a bit too glib to me, but let's entertain the hypothesis for moment.

Because, you see, we actually have not two models but three: Slaughters, CC, and the Networks. (You object that Slaughters is actually a Network, albeit perhaps a granddaddy of them all? I demur. Slaughters is Slaughters with or without its network: Eversheds, Pinsents, and CMS are far less interesting without their networks--and none of them is Slaughters.)

Slaughters would and does argue that its ability to provide absolutely top-notch service (advising 29 of the FTSE 100, more than any other City firm) is its trump card, and that having local law capability elsewhere is irrelevant in terms of why clients initially come to it--or, if relevant, that the top-quality "best friends" serves that need. CC would argue that corporate clients expect a seamless service delivery experience across all offices of their chosen law firms, and that only its footprint realistically matches that of its global clients.

Here's the issue as described by those on the front lines:

"The one-stop shops have a very powerful weapon, [Tim] Clark [retiring as senior partner at Slaughters] suggests: their brand. “This helps them to appear to the outside world as having a uniformity of approach and quality that is the same as their London office. Because that’s not necessarily the case, it allows us to compete very effectively.”

"[Guy] Morton [joint senior partner of Freshfields] counters by arguing that “the disadvantages of relying on a non-integrated network will become more pressing as clients become more truly international and more used to going to a single firm for multijurisdictional work”. There will not be a sudden implosion of the Slaughter and May model, he suggests, but the Freshfields model will gradually gain competitive advantage."

Both of course ignore the Network model. The truth is that there is no unitary "Network model:" There's a spectrum. At one end is CMS, where the firms are tightly integrated on virtually every dimension short of sharing profits. At the other end is a Nabarro, an Addleshaws, or a Berwin Leighton Paisner where relations are diplomatic and friendly but not exclusive or necessarily oriented towards closer and closer integration down the road.

Even Eversheds noted that its network partners wouldn't always jump when clients called until Eversheds landed Tyco as a major client and got the troops' attention. And other affiliations are at even more developmental stages: Addleshaws recently added the ability to do joint billing, and the service was considered noteworthy enough to merit coverage in the article. Other astonishing developments? Co-branded websites and integrated marketing materials! What next? A common currency?

Seriously, the point of a network is nothing other than seamless client service. The goal is not to create an organizational superstructure worthy of study in a business school case, but simply to deliver impeccable legal advice to clients who need cross-border integrated service and are indifferent to the letterhead of the person they're dealing with at the moment--provided only the prerequisite baselines of quality, timeliness, and consistency. Ideally, the client should see no difference whatsoever between the responsiveness of a "network" office and the responsiveness of one of the UK firm's own domestic branch offices.

Are these sustainable equilibria?

At fear of inspiring emails from those begging to differ (actually, bring it on), I believe loose, permeable, and utterly flexible networks are not much stronger than the tissuepaper uniting them. It seems less than dating, much less going steady and much much less than living together or getting married (merging). Not be flip about it, but more akin to what today's young adults categorize as "friends with benefits." Eminently flexible, eminently exit-able.

With commitments should come consequences, and without consequences there seems no real commitment.

Are there, still, "benefits?" Surely so, to clients and to the firms involved on both sides. The "referring" or hub firms gain needed expertise on the ground without the requirement to invest over a period of years or decades with uncertain results. The "referred" or spoke firms gain business they wouldn't necessarily otherwise obtain, and the hope of more in future. That, after all, is why these networks are so common. If they were pure and simple examples of market failure, they would cease to exist.

But we're not about whether they can or do work; we're about whether they're optimal, and I cannot believe in the long run they are. There are too many countervailing incentives, too much room for co-opting competition, too many reasons (economic and cultural) for impromptu alliances to fade away and disintegrate. A temporary solution, and an understandable ad hoc response to global clients and non-global law firms, but a response for the ages? I doubt it.

But this brings us back to the Slaughters vs. CC debate.

Building either firm is an astonishing achievement. With Slaughters, the ££ speak for themselves. With CC, the shockingly powerful network on the ground speaks for itself.

My question is whether in the next 10 years we shall see emergence of a firm that combines both: World-beating profitability, which reflects superb quality of talent and corresponding high-end premium work entrusted by the world's top clients; and a global network second to none, with robust Anglo-Saxon and local law capability worldwide.

Now that would be a firm to be part of—or to envy.

Today Altman Weil announced its release of The Legal Transformation Study:   Your 2020 Vision of the Future, published by Decision Strategies International:

“The comprehensive industry assessment identified 11 key global trends and uncertainties shaping the future of the legal industry, then developed four possible planning scenarios that the legal industry may face in the next decade,” said Paul Schoemaker, Ph.D., research director of the Mack Center for Technological Innovation at Wharton Business School, and the founder and executive chairman of Decision Strategies International.  “These four scenarios can be used as a framework for challenging current service models within the industry, answering key strategic questions, and helping stakeholders, including corporate law departments, law firms and legal service suppliers, identify proactive strategies to ensure future success.”

"According to Dr. Schoemaker, four possible scenarios for the delivery of legal services between now and 2020 are summarized as follows:

- Blue-Chip Mega-Mania: A model that emphasizes the global consolidation of legal service providers and the dominance of giant law firms with vast global presence and offerings spanning all legal areas.

- Expertopia: A scenario that envisions the increasing complexity of the law and challenges of corporations operating in multiple environments worldwide, thereby placing a premium on specialization and expert-driven cultures at legal services organizations.

- E-Marketplace: A model built on the premise that technology will be a catalyst, but not the core, for an industry transformation in which an array of Web-based technologies will make information more available and expert judgment more valuable.

- Techno-Law: A scenario that contemplates rising corporate investment in automation capabilities throughout the legal services industry, leaving only the high-end services to be delivered by legal professionals and potentially requiring a complete reconstruction of the traditional business models in the legal services industry.

“In the past, law firms and corporate law departments have frequently been taken by surprise by unexpected forces that directly influenced the practice of law,” said Jim Seidl, president of Legal Research Center and co-developer of the Study.  “The findings of this Study will empower legal service providers to proactively compete more successfully in the global legal marketplace, reduce the risk of unexpected business surprises and threats, and identify new opportunities for business growth in the next decade.”

“As a provider of services within the dynamic electronic discovery services arena, we closely monitor current trends and anticipate the future of our profession to help our clients make well-informed decisions and achieve favorable results,” said Greg Mazares, president and CEO of Encore Legal Solutions.  “The Legal Transformation Study is an important tool we can all use to prepare for any number of potential business scenarios.  We are pleased to have been a primary developer of the Study and look forward to sharing the results with our clients and other legal professionals across the nation.”

“This Study is a tool to test the resiliency of law firm strategic plans across a range of possible futures, or to develop new plans more likely to assure their success,” said Ward Bower, strategy consultant at Altman Weil.  “This is critical stuff for law firms.  If they get their basic direction wrong, they’re toast.”
 
“There can be no doubt that we are poised for significant change between now and 2020, with a wide range of business, technological and regulatory forces sure to have a major impact on the way that legal services are delivered to corporations worldwide,” said Mark Chandler, general counsel of Cisco Systems, and a Study contributor.  “This groundbreaking Study identifies the likely components of these industry changes and prescribes important guidelines for how corporate law departments, law firms and other legal service providers can start planning now to seize these emerging opportunities while protecting against competitive threats.”

Sponsors include of course Altman Weil, and Jomati, but also Encore Legal Solutions, Bridgeway Software, Inc., Deloitte Financial Advisory Services LLP, DuPont Legal, Eversheds, Intellevate, Meritas and Solomon Page Group LLC. 

You can order a copy here.