The Outlook for Small, Large, and Mid-Sized Firms After 2020

The 2021 Report on the State of the Legal Market, published by Thomson Reuters and Georgetown Law’s Center on Ethics and the Legal Profession, suggests that 2020 may over time be seen as a “tipping point” for the legal services industry. The authors reference Malcolm Gladwell as they adopt the term, explaining that this phrase captures the moment when a build-up of momentum in a certain direction makes it such that “the acceleration [of a trend] can be influenced by little changes that have big effects.” Focusing primarily on large law firms, the report identifies the rise of alternative business structures, changes in hiring, and, of course, the COVID-19 pandemic as catalysts for a potential tipping point.

First, let’s touch on a few specific findings included in the report. According to a survey by Acritas, 2020 saw a decrease in demand for outside counsel concurrent with a spike in workload for in-house legal departments. This, the report explains, has to do with the specificity of issues that came up last year, which tended to require deeper knowledge of the particular businesses being served than outside firms could provide. A level of urgency may have also played a role in more legal work being handled in-house.

During this time, profits per equity partner (PPEP) at large and mid-sized firms increased significantly, especially among the very biggest firms in the country. Law firms raised their rates prior to the pandemic and engaged in drastic cost cutting and better billing discipline once it began. Thus, comparing year-to-date figures as of November 2019 and November 2020, PPEP growth more than doubled for the Am Law 100 to over 20%, leapt from less than 3% in 2019 to about 20% in 2020 for the Second Hundred, and increased from again less than 3% growth to more than 10% for mid-sized firms.

Other market changes noted in the document are likely to be short-lived. For example, merger activity slowed with only 44 mergers reported through the third quarter of 2020 after over 100 in each of the three preceding years. Additionally, 79% of small firms and 48% of large law firms received government support in 2020 through programs that almost certainly will not be available in the future.

It is unclear whether firms will continue to shed partners and senior counsel as they did last year. As you can see on page 7 of the report, the replenishment ratio fell below zero (meaning firms lost more lawyers than they hired) for partners and senior counsel, while the ratio for associates dropped from over 1.5 to nearly an even 1.0, signifying that more associates were brought on than lost but at a much lower rate than seen in prior years. This change is certainly notable but probably does not indicate a lasting trend.

So which changes are most likely to be permanent? As law firm consultants, we predict those with the most potential to last may be the shifts in workplace culture. The report cites survey findings that 76% of attorneys would now prefer to work remotely at least part-time, compared to 37% before last year. Likewise, law firms have been forced to face issues of work-life balance to a new degree since the pandemic began, and those conversations around lawyer mental health and familial responsibilities may carry over into whatever becomes the “new normal.” Issues of diversity and inclusion have also been brought to the forefront and are unlikely to return to their pre-COVID states.

Overall, the report paints a picture of a legal market with fewer but potentially bigger winners. The move in this direction will place a premium on law firm leadership and branding. More than ever, boutique firms and small law firms in 2021 will need to make strategic decisions about where they want to position themselves in the market. Small firms that choose to ignore these trends are especially likely to struggle.