Why law firm mergers are on the rise

Over the last decade, law firms have been getting bigger and bigger. This tendency to grow has pushed up the average number of lawyers per firm from 12 to 17, a rise delivered partly by an increase in lateral hiring by larger firms. They have been much more successful than smaller firms in the ‘war for talent’, leading to a gradual shift of lawyers from smaller to larger firms.

However, what has been more significant is a high number of law firm mergers. This has been driven by an appetite for cost savings and synergies.

Why has there been so much consolidation in the legal market?

As the average size of firms increased over the last decade, the overall number of law firms dropped by 13% over the same period, from 10,867 in 2013 to 9,498 in 2023. This reduction has been partly driven by mergers, which increased by 23%, from a reported total of 99 in 2021 to 122 in 2022.

Building scale through mergers allows a firm to build more firepower to compete, for example through assembling a bigger bench of experts in a particular area of law, or by delivering increased economies of scale. Merged firms can consolidate their existing staff into one office network and thus reduce rent, or sublet excess space. Another common way to improve cost-to-income ratios is through the sharing of common IT systems and other back-office functions across more lawyers.

Lower costs also means more money to reinvest in providing a better service for clients. Minimising costs has become particularly important as billable hours are falling for top law firms. Billable hours fell 8.3% for equity partners at the top 10 biggest firms in the UK over the last year.

Through mergers, firms can expand their practice sector offerings or move into new regions. Incorporating an already successful team is much less risky than launching into a new region or practice area from scratch.

US law firms put pressure on UK firms

Larger UK law firms have also been keen to improve their financial performance and strengthen their service offering through mergers to help them meet the challenge from US firms which, over the last two decades, have been rapidly expanding in the UK. Partners at the top 15 US law firms in London generated profits of £1.23m on average over the last year, 25% more than partners at the top 15 UK law firms (£985k).

US law firms have been successful because they have targeted the best talent by using bigger budgets to pay newly qualified solicitors significantly more than UK firms. US firms have also benefited from their ability to build bench strength in areas such as M&A and finance. In response, some of the biggest UK law firms have merged, including magic circle firm Allen & Overy and Shearman & Sterling.

Why smaller firms are open to being acquired

Tough economic conditions, including higher interest rates, energy costs and insurance costs, have encouraged smaller firms to give up their independence and merge. Costs such as professional indemnity insurance, when looked at on a ‘per lawyer’ basis, are significantly higher for smaller law firms. They may also find finance more expensive and harder to find than a larger firm. Small firms are seen as a higher credit risk than larger firms by banks and other lenders. Making it even tougher are the Big Four accountancy firms and tech-focused alternative legal service providers which are taking market share away from small law firms.

Some smaller firms may be reluctant to merge for a number of reasons. Post-merger integration can be complex, time- consuming and disruptive. Tensions can frequently surface after the event where senior roles at a combined firm tend more towards staff from the stronger of the two merger partners.

Firms do opt to grow organically, with a focus on hiring staff to handle an increasing caseload. However, this presents its own challenges. Attracting and retaining high-quality staff has always been a primary challenge for law firms.

Is a shortage of qualified lawyers helping to drive a rise in mergers?

The legal sector has been struggling with staffing shortages for many years – and this has got even worse since the pandemic. Law firms have increased lateral hires from competitors and even sought to acquire whole teams. Some firms are encouraging retiring partners to stay on as consultants to help ease the loss of knowledge. Firms, of course, have the choice of retaining more junior lawyers at the end of their training contracts. However, these measures can take time to have an impact.

While the sector remains so competitive, the appetite for merger is likely to remain. A slowdown in economic growth and higher finance costs might temporarily affect the number of law firm mergers. However, long-term aims to build scale, and the need for law firms to increase capital investment in AI and technology, all point to more, not fewer, mergers.

Ian Johnson is a partner at Hazlewoods, chartered accountants and business advisers, Cheltenham