Much has been written about the surplus of lawyers in the legal services marketplace.  While that is a problem for the industry as a whole, the impact on law firms is less direct than another surplus problem – the large excess of office space that many law firms are carrying.

We recently did a study of large law firms (excluding Manhattan) and concluded that the average firm with over 100 lawyers had 16% more office space than it currently needs.  That means that a firm renting space to accommodate 100 lawyers has, on average, 16 lawyer offices vacant or being used for some other non-design intended purpose.  At average rental rates for an office and supporting areas, that comes to about $10,000 in unproductive cost for each vacant office per year.

The problem is more than financial.  Empty offices are demoralizing and firms with large amounts of vacant space seem to always have greater morale issues than firms where space is a bit tight.  But the biggest problem with surplus space is that firms tend to look for bodies to fill the space on a “better than weeds” philosophy.  Better than weeds is what real estate developers call sub-optimum land uses to offset the tax and insurance costs of holding onto vacant property for future development.

The thought process for many firms in filling space is that the new lawyers allow the firm to spread overhead over more people, thereby increasing the firm’s overall profitability.  The problem, of course, is that overhead is made up of the non-variable costs of operating the firm.  Adding lawyers may reduce the overhead applied per lawyer in profitability analyses, but it has no impact in reducing the cash going out for the expenses.  There is value in adding bodies to fill space only to the extent that there is new positive net cash generated by that lawyer.

The problem is that the “better than weeds” philosophy often drives terrible hiring decisions.  Frequently firms will bring in lawyers that have some business but not enough to keep them busy.  Typically the hope is that the firm’s “platform” will enable the lateral to generate additional new business.  But, in most cases, the person becomes one more mouth to feed in a firm that already has too little work to keep everyone at full capacity.  And, because laterals usually come into the firm without any work in progress or accounts receivable, there is a pipeline to fill which sucks up cash for their first six to eight months.  Often the result is that firms trade a $10,000 vacant office cost for a $50,000 profit hit.

Worse, marginal office filling candidates frequently come with baggage.  The work they bring with them may be less profitability, slower to pay, deleterious to the firm’s reputation or disproportionately create conflicts.  Often people available to fill offices come out of smaller firms and have difficulty synchronizing with the requirements of a larger firm.  They may not be a cultural fit, and, when a legitimate growth opportunity comes along, there is the problem and the cost of getting rid of the place filler.

Certainly there are laterals that both make economic sense and fill offices.  But, by my observation, when one looks at the business that a ‘better than weeds’ hire brings with him or her, less the person’s compensation and direct costs, most of the time the firm would have been better off eating the cost of an empty office.

So what is a firm with surplus space to do?  For starters, avoid making the mistake in the future.  The growth of most legal markets is slowing and technology and cost cutting is resulting in smaller office footprints for whatever number of lawyers a firm has.  I’ve been in firms that have too much space and ones that don’t have enough.  Trust me, bursting at the seams is a much more pleasant problem and easier to solve.

Secondly, do everything you can to get rid of the space.  Consider hiring a tenant’s broker to represent the firm in negotiations with the landlord to give back space.  I’ve seen firms try to do this using one of their own real estate lawyers or the broker who put them in the space in the first place.  For reasons I can’t explain, it always seems to end better with a broker who has clean hands.  And I’m always amazed at the deals that can be accomplished with a little flexibility on both sides.

If you can’t give back the space, try to sublease it.  Since the empty offices tend to be the least attractive space, you may have to move some of your lawyers out of primo offices to assemble a prime package to put on the market.  Yes, the legal industry gossips may start all sorts of rumors but corporate clients respect lawyers who make smart decisions in managing their own businesses.

In short, “better than weeds” may work well for real estate developers who are accustomed to looking at economics over long multi-year business cycles.  I don’t think it does for law firms that are driven by annual distributable profits.