Bigger. Better. Both?

Disruptive business models in law: Have we seen this before?

10 July, 2012

Eric Chin. Law. Strategy

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In 1994 Peter Drucker wrote “Some theories of the business are so powerful that they last for a long time. But eventually every one becomes obsolete”. How true this may prove to be about large firms is becoming a hot topic amongst leading commentators on the legal profession in many parts of the world.

Theory of business is Peter Drucker’s way of explaining how assumptions about the external environment shape an organisation’s strategic behaviour, dictate its decisions about what to and what not to do, and constrain the business outcomes it produces. Peter Drucker’s words in 1994 are truer today about the business of law than they ever might have been before.

In the boom decades before the GFC law firms operating within the traditional partnership model enjoyed the spoils of being on the right side of a seller’s market. During this period the leaders of today’s law firms built their business models and mindsets by billing premium hourly fees and, as long as clients were willing to pay them, they produced fabulous partner profits in well-run firms.

But there’s a dark side. The mind-sets created in this era have laid the foundation of what appears to be the start of a business model ‘bubble’ where shareholders (equity partners) are rewarded handsomely for maximising fees their clients are willing to pay.

Outdated assumptions built into law firm business models?

The GFC accentuated what was already a secular decline in demand with corporate clients seeking more cost-effective service providers in the form of their in-house legal teams and alternative service providers. As corporate clients continue to grow their in-house legal teams and multi-billion dollar corporations like General Electric outsourcing only 40% of their legal work, large law firms now find themselves operating in a permanent buyer’s market.

Technological improvements first benefited law firms, as back office functions were first centralised and now are being outsourced. Driven by the need to lower their legal costs, GCs are demanding alternative arrangements, increasingly with traditional and non-traditional legal service providers. Law firms which have not yet recognised the ‘new normal’ are still discrediting or denying this trend as a fad or as short-lived.

The UK Legal Services Act paved the way for massive innovation in legal services delivery through Alternative Business Structures (ABS), starting in January 2012. Still in its early days ABS is being seen by many as the domain of firms like ASX-listed Slater & Gordon’s with its acquisition of UK’s Russell Jones Walker. But those who see it this way are wrong! Innovative ABS ideas abound in many, many areas. It’s not going to stop at commoditised areas of law like conveyancing; they are simply being targeted first. Our Partner, Warren Riddell’s interview with Sky Business News Law TV on external investment in law firms tells the story graphically.

Swimming into Blue Ocean

‘Blue Ocean’ is a term coined by W. Chan Kim and Renée Mauborgne to describe a new market space where demand can be created and opportunity exists for highly profitable growth. In contrast, ‘Red Ocean’ represents all the industries in existence where incumbents fight for existing demand in a zero sum game. Blue Ocean already exists in corporate legal services–but it is the innovators who are swimming in it–while the incumbents fight each other in Red Ocean, as it is said slitting each others’ throats and bleeding to death themselves.

The GFC created a perfect storm for so-called non-firm law firms like Axiom to exploit. Founded in 2000, Axiom has grown from US$1m in 2002 to US$130m in 2011, a whopping 12,900%. What’s even more telling is that Axiom grew 62% year-on-year to US$130m in 2011. In the same period, AmLaw 100 firms recorded an average gross revenue growth of 5.3%. If measured by AmLaw 200, firms like Axiom would already clock in at 178^th spot!

Axiom is competing with a new business model–one that provides exactly what the customers value most in the ‘new normal’–high quality service at a lower cost. The Axiom model meets the need of highly talented lawyers who are looking for better work/life balance and clients’ needs are met by #BigLaw pedigrees without the price tag. Value innovation is best derived from this model where the market’s need for value–in both financial and service requirement terms–is met.

The so-called Axiom secondment based model is spawning many followers who are teaching clients new tricks. Clearspire is differentiating via its multi-million-dollar technology platform. Australian-Asian AdventBalance appears to be on a similar growth trajectory to Axiom, as are many ambitious American and British lookalikes.

Have we seen this before?

Apple grew its market capitalisation from $10 billion to $500 billion in 10 years; Sony was worth ¥10 trillion and is now 10% of what it was at the start of the same period.

Are we seeing the same phenomenon in law? Only time will tell. Peter Drucker’s quote on the importance of revisiting the assumptions underlying an organisation’s business seems to ring true for #BigLaw too.