Law firm profits sag amid rising costs and slowing demand, Wells Fargo finds

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  • Firms aren't expected to match 2021's record profits
  • Revenue are up 6%, but costs have increased 14% over the past year

(Reuters) - Law firms aggressively built up their attorney ranks in 2021 amid a boom in corporate work. But softening client demand means those hires may not have enough work to keep them busy through the remainder of 2022, according to new data on the first half of this year from Wells Fargo’s Legal Specialty Group.

Lawyer headcount increased more than 5% year-over-year among the 120 large, midsized and regional firms surveyed by Wells Fargo, primarily to handle an increase in transactional work in 2021. But as deal work has slowed, lawyer productivity — which refers to hours worked — declined nearly 5% compared to a year ago, Wells Fargo found.

Lawyer underutilization could become more pronounced as this year’s large classes of new associates join their firms in the coming months, according to the survey.

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That’s a reversal from a year ago, when the biggest challenge law firms faced was not having enough lawyers to meet soaring demand, said Joe Mendola, senior director of sales for Wells Fargo Private Bank Legal Specialty Group.

“Fast forward a year later and demand has slowed quite a bit,” he said. “As a result, productivity is down. Over the long term, if that decline becomes protracted, it’s something Big Law will have to address.”

Firms are generally reluctant to lay off newly hired lawyers, and wealthier firms will likely make do with temporary profit declines before axing lawyers, Mendola said. But other firms down the market may not have the option to remain overstaffed, he added.

The Wells Fargo data echo similar findings released last week by the Thomson Reuters Institute, which warned that firms are facing economic headwinds due to declining demand and rising costs. Among the firms surveyed by Wells Fargo, lawyer compensation costs increased nearly 17% over the past year, while general expenses grew more than 14%.

The surveyed firms saw revenue increase by about 6%, which Mendola noted is far lower than 14% revenue increase firms reported midway through 2021 but not out of line with historic norms. That revenue growth was largely driven by standard rate increases of nearly 6% and collections on work billed in 2021.

But it was not enough to offset increased expenses. Net income declined more than 9%byear-over-year among the surveyed firms, while profits-per-equity partner fell 11%.

“Although the numbers are down relative to last year, it’s not all doom and gloom for the legal industry,” Mendola said. “2022 will end up being a decent year, but it may be down from 2021 — which was a historic high.”

Read more:

New law firm financial data signals trouble may be on the horizon

Law firm profits take a hit after blockbuster year

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Karen Sloan reports on law firms, law schools, and the business of law. Reach her at