Talk is cheap unless it is with a lawyer. Or when two large law firms are engaged in merger talks. And though not all merger discussions result in deals (witness the recent cessation of discussions between Greenberg Traurig and Berwin Leighton), it’s certainly newsworthy to cover them. And the ongoing between Reed Smith and Pepper Hamilton has received its fair share of press coverage.
Most of the press has focused on the “what if?” question—if the two firms were to effect a merger (and that term is used synonymously here with “acquisition”), they would create yet another mega-firm with the largest headcount of U.S. lawyers. But the more interesting question is “what is accomplished?” and, to put a finer point on that, “what benefit would clients derive from the Reed/Pepper merger or, for that matter, any other large firm tie-up?
In the year preceding the current merger talks with Pepper, Reed Smith experienced an 8.3 percent decline in PPP and a 2.5 revenue drop. And in early 2016 it laid off 45 lawyers as well as staff. Revenue drop is bad enough and can be offset by capping or reducing the number of equity partners, but that coupled with an unhealthy drop in PPP is when the “fasten seatbelt” sign goes off in law firm cockpits.
It is against this backdrop that Reed Smith’s current talks with Pepper Hamilton might usefully be considered. No doubt, a combined firm of these two Keystone State mainstays would have many benefits that include: creating the largest U.S. attorney headcount of any law firm; an opportunity to consolidate operations (one expert pegs the annual savings at $5 million); greater depth in core practice areas; an opportunity to “prune the herd” among under-performing equity partners of both firms as well as other attorneys; and a surfeit of press.
On the other hand, there are several potential drawbacks to this or any merger: conflict issues (some but not all will be resolved during the due diligence process); integration challenges (notably IT at a time when cyber breaches have become a front and center concern); reconciliation of partner and attorney compensation and firm cultures; and structural challenges endemic to all firms and especially to mega-firms.
Another Example of “Bigger is Better” or “Too Big to Fail”
It is no accident that last year was a record year for firm mergers. And while most of them involved smaller firms, there were some big tie-ups, too. Thank Dentons for contributing more than its fair share to the latter category. And this year, projections are that a new record for mergers/acquisitions will be established. That again begs the “why?” question.
Firms will tell you that they are expanding to satisfy the global requirements of their clients. Maybe so in some instances, but why, then, are the corporate legal departments of those gargantuan multi-nationals growing so quickly, taking market share from firms, and creating a flat demand for law firm services (note: service providers are enjoying a 30 percent annual rise)?
The more likely answer is that notwithstanding the challenges endemic to any two entities merging – or one acquiring the other – many law firms see size as a palliative, if not a cure, for current challenges. They can bring in a fresh supply of business, create a buzz, prune as necessary, and kick the structural can down the road. And they can differentiate themselves from most other firms by being among: the biggest; the most profitable; or a niche firm that focuses on a single practice area and, perhaps, elects to join a legal network (and there are about 170 of them) to tap into expertise and global coverage when and as needed. These three strategies are emerging as the principal paths forward for law firms as they confront a once friendly marketplace that has turned hostile and highly competitive.
Let’s see whether the Reed Smith/Pepper Hamilton romance becomes a marriage. And, if it does, it will be equally interested to observe how that marriage plays out and whether the union is a happy one.
Having a larger headcount is one thing, but far more important is who the heads are and what benefits clients will derive from them.
This post originally appeared in Law 360.