As Wilson Sonsini Goodrich & Rosati becomes the latest US firm to announce layoffs, with up to 113 employees likley to go, there are big questions being raised about the law firm model.

US blog Ideoblog has published an article on the subject following the demise of a number of large US firms including Heller Ehrman, Thelen and Thacher Proffitt in the last few months. The article "Elvis (and Big Law) are dead" looks at some of the reasons why…

"Consider this:

• "Many law firms are susceptible to the phenomenon that led to Heller’s collapse. Their main assets are their senior lawyers. * * * [L]awyers with big books of business now commonly shop themselves to more profitable firms that can offer larger compensation packages."
• "The economic downturn has prompted lawyers to jump to firms perceived to be more financially stable. If enough partners head for the exit, a firm can crater in a hurry.""

Any of this sound familiar?

• " "[I]n 2007 * * * over 45 days, [Heller] lost about one-quarter of its litigation business due to settlements * * * Some Heller lawyers saw this as more than a temporary blip. They believed large-scale litigation matters — the sort that can occupy 30 or more lawyers for years and that had been the key driver of Heller’s growth — were permanently on the wane, as companies increasingly used mediation or adopted other cost-saving measures.
• "At a shareholder gathering last spring in Colorado Springs, Colo., Heller’s chairman, Mr. Larrabee, said the firm had plenty of choices of merger partners, according to lawyers who were there. Last summer, Baker & McKenzie LLP, one of the nation’s largest firms, emerged as a serious candidate. But after weeks of negotiations, the deal cratered in August, partly because of business conflicts. Heller lawyers had sued many of Baker’s clients. * * * Then a new suitor, Mayer Brown, emerged, but that fell through because “Mayer had grown nervous about Heller’s financial state.”"
• "Heller distributes its income to shareholders at year end. As a result, at the beginning of each year, it has to tap a bank credit line to pay salaries, rent and other expenses. As revenue rolls in, it pays down the credit line. It is usually finished by August. Last year, however, revenue dropped off so much that it had trouble paying down its loan. By September, its debt hovered around $30 million, according to a lawyer knowledgeable about the finances. The formal departure of the intellectual-property group on Sept. 14 put Heller in breach of a loan covenant that limited the number of shareholders who could depart in a 12-month period. On Sept. 26, with banks controlling how Heller spent its money, shareholders voted to dissolve the firm.

So, in a nutshell:

• The major assets can walk
• These firms need lots of debt because of mismatching revenue and expense streams.
• The combination of these two conditions can make the financial condition of even the largest firms tenuous.
• Medium sized firms can’t survive these pressures. Yet client conflicts constrain growth through merger or otherwise.
• Fundamental changes in the law business, such as the long-term decline in Heller’s litigation, are changing the basic business model.

Most other industries could evolve to meet the new challenges. But the law business can’t change as easily because it’s choked by ethical rules that developed based on a century-old model of law practice that seeks to preserve the illusion that law practice is a “profession” rather than what it plainly is – a business. These rules include:

• Rigid restrictions on client conflicts.
• Prohibitions on noncompetes that prevent attorneys from binding themselves to their firms.
• Prohibitions on non-lawyer owners that prevent investments of the sort of permanent capital that sustains most other firms, and that prevent synergies between law and other businesses.

These rules have been developed by lawyers, for lawyers.  They are not in clients’ long run interests.  I suspect that market pressures will kill the cartel over time, because the law business as a whole will have to see that the rules are no longer in its interests either. The economic crunch will make this happen sooner rather than later.  But not instantaneously.  After all, some people still think Elvis lives."

Clearly there are elements of this that are peculiar to the American model but questions are being raised about the structure of firms here also and some of the similarities run deep. The demise of Fox Hayes recently and the feeling that particularly medium-sized and smaller firms are going to have to consolidate to survive is certainly out there. Recent announcements by Clifford Chance, Linklaters and other leading firms about redundancies and restructuring show that those at the top are not afraid to take drastic steps to stay ahead. Meanwhile in The Lawyer Optima Legal’s warning that an “unsustainable” partnership model is ­driving small firms to the brink of collapse as profit margins tumble reflects some of the sentiment at that level of the market.