It is quite common at law firm retreats to have a panel of clients discussing their views on law firms. Often, a partner in the audience will ask a panelist, “What is the most important issue to you in selecting outside counsel?” I’m sure that the person asking the question is expecting to hear that the most important issue is “cost” or “quality of legal work” or even “responsiveness.” While all of those things are important, they are never the answer the panelist gives, especially if the client is an entrepreneur or an operating person, as opposed to a lawyer. The answer invariably is, “I want someone who knows my business.”
The desire to use a lawyer who understands a client’s business is not surprising. If a law firm goes out looking for any type of service provider, they will invariably ask about what law firm experience the service provider has. In truth, there is probably nothing terribly unique about many aspects of a law firm among other businesses that a provider serves. But it is our livelihood and we believe that there are nuances about the legal industry that justify specialized industry knowledge (a concept which I, as a consultant primarily serving the legal industry, wholeheartedly endorse). The point is, “I’m the client. I call the shots. I want someone who knows my business.”
An industry focus is one of the most powerful strategies a law firm can employ. Since very few law firms attempt to position themselves along industry lines, focus on specific industries can be a strong point of differentiation. There is very little required to establish an industry strategy: the creation of an industry group, membership in a trade association and several partners willing to develop some knowledge about and contacts in the industry.
In fact, implementing an industry focus strategy is so easy that it is amazing that it is not a standard among aggressive law firms. Most likely it is the result of several arguments frequently heard against creating industry groups. First, there is the fear that the firm will have political difficulty focusing on some industries and not others. The political concern may be legitimate. The process of creating strategy involves the selection of certain options and the exclusion of others. This means that the firm can’t reasonably create a focus on every industry in which firm clients are represented. At the same time, law firms are often amazingly unaware of industries in which they have strength through their existing client base. Sometimes the selection of industry focuses is so obvious that the political issues never arise.
Second, there is the view that the firm’s existing clients are from such diverse industries that there is no reasonable industry core to justify the firm’s focus.
A third argument against industry groups is that it is hard to represent more than one client in a highly competitive industry. While industry constraints are not as strong as they once were, there are industries where competitors will not permit a firm to represent any of its competitors, even if there is no ethical conflict of interest. For example, if you represent Coke, it is unlikely that you can seek much work from Pepsi. But dominance in an industry is not a function of how many clients a firm has in that industry. Rather, it is the name recognition, critical mass, signature clients and other issues that define dominance. If the representation of Coke is strong enough, having one soft drink client could be sufficient to establish dominance.
One of the unique features of dominance is that if a firm is deemed to be dominant in several industries, the marketplace will presume dominance in any other industries in which the firm is represented. So, even though no one firm may ever be able to establish dominance in an internally competitive industry, if a firm displays the trappings of dominance in that industry and several others, it will support their position in other industries. It is a bit of a smoke screen but it works.
Analyzing a Firm’s Client Base by Industry
It is very rare that a firm’s clients represent a completely random distribution of industries. By the nature of the client development process, new clients tend to be referred by existing clients, often from the same industry. A logical first investigative step is, therefore, identifying the industries the firm represents.
Without becoming overly mechanical, dividing up clients by industry is easier than one might think. Virtually every industrialized country has an industry classification system. In the U.S. Canada and Mexico there is the North American Industrial Classification System (N.A.I.C.S.) In the EU it is Nomenclature Generale des Activites Economiques dans I`Union Europeenne (NACE). Every business has a primary code and, perhaps, several additional secondary codes that can be determined through industrial directories or an internet search. It is not necessary for a firm to classify every client. In most law firms, something like 20 percent of the clients produce more than 80 percent of the firm’s revenues. At least for the first cut, it makes sense for a firm to focus on the industries of its larger clients.
There is a well-established life cycle of industries. In its simplest form, industries emerge, grow, mature and decline and (perhaps) die. The attractiveness of an industry to a law firm is in part determined by the industry’s point in its life cycle, and how that relates to its needs for legal services in general and unique services of specific law firms.
Emerging Industries. In an emerging industry, the typical legal needs of clients may be very basic. The client is focused on the issues of starting a business and establishing itself in a marketplace, so the areas where it needs legal assistance involve incorporation and governance, employment agreements, intellectual property protection and similar services. Businesses in emerging industries will often not be in a financial position to pay substantial legal fees. Accordingly, the competition among law firms for positions of dominance in the industry is low. Being a competitive player is based on knowledge and reputation and, in some cases, may be achievable by simply being aware that the industry exists. In the earliest emergence, volatility is not only characteristic of businesses operating in the industry, but the industry itself. Emerging industries are often untested in the marketplace or responsive to a consumer or economic trends.
The good news about emerging industries is that the risk of a volatile marketplace can be offset by incredible rewards for successful law firms. To establish a “ground floor” dominance in an industry that succeeds can make a firm the market maker in the capital acquisition, initial public offerings and consolidation that occurs when the industry reaches the growth stage (e.g., the law firm of Wilson Sonsini Goodrich & Rosati established early dominance in the Silicon Valley). One of the difficulties of emerging industries is that they can be difficult to identify and access. Most often, by the time emerging industries become recognized they are in fact growth industries. Often, the best access is through public institutions such as universities and publicly sponsored incubators. Everyone wishes they had the vision to have seen the potential of Apple Computer when it was still operating out of a garage but, even if one had that foresight, how would you go about finding the right garage?
Growth Industries. Industries that have emerged and are growing may have substantial needs for sophisticated services. Growth requires capital and clients in growth industries often look to their lawyers for access and introductions to financing. It also represent the time when companies consider entering public equity markets and face issues like licensing technology, international trade and other sophisticated practice areas. From the law firm’s perspective, growth companies are often in a position to pay high fees both because their issues are more sophisticated and they are more profitable, but also because the fees are often paid from the proceeds of acquired capital.
As an industry enters the growth phase, the legal marketplace becomes far more aware of its existence and competition for legal work within the market becomes more intense. Where industry knowledge and expertise differentiates a law firm in an emerging industry, in the growth phase reasonable industry knowledge and experience is expected from any competitive firm. Therefore, aggressive marketing can permit law firms to enter a growing marketplace without having experienced the emergence stage. Access to clients in the industry often comes through bankers and investment bankers but, as the industry grows, trade associations play an increasingly important role of introducing service providers to potential clients.
Mature Industries. Most industries are mature and, accordingly, most clients of law firms are in mature industries. While the legal work available in a mature industry may not be cutting edge transactions that command premium rates, the steady volume of routine work makes up for slightly lower fees. Law firms find that mature industries tend to be more accepting of leveraged client service models. Work involves the day-to-day needs of real estate transactions, employment and labor issues, commercial litigation, environmental concerns, government compliance issues and similar practice areas. At this stage in an industry’s development, there is a well-defined marketplace dominated by three or four first tier companies and the likelihood of consolidation is lower.
The competition in mature industries is very strong. The value of industry knowledge is, to some extent, replaced by price competition and the expectation of industry knowledge. In mature industries, relationships play an important role in the development of legal business. Trade associations continue to play an important role, as do referrals within the industry.
If given a choice, most law firms would probably favor clients in growth industries for both economic reasons and means of access. While emerging industries offer ground floor opportunities, the industry is still being tested for market viability. At early stages in the emergence process, there are no strong models for success within the industry so there is a risk of high attrition even among industry leaders. As the industry moves toward establishing itself and growing, there are risks of clients in the industry being absorbed by businesses from other industries. Mature industries require a large volume of legal services, but client relationships are well formed and, essentially, to get a client, a firm must take the client away from another law firm. The good news is that in many growth industries there is relatively little competition from law firms who have focused on a specific industry.
Creating Industry Dominance
As with any other marketplace there tends to be three or four law firms that are the dominate service provider to an industry or a subsection of an industry. And, as with other marketplaces, five characteristics must be in play for dominance to exist.
Critical Mass. To even be considered for dominance in an industry, a law firm must have a number of lawyers who regularly work with industry clients that is equal to or exceeds competing firms. Clearly what defines critical mass is subject to the size and maturity of the industry. But clients must perceive that the firm has substantial resources devoted to the industry and sufficient depth to be experienced in all industry issues.
Name Recognition. An industry dominant firm must have strong name recognition within the industry. Thanks to industry associations, industry name recognition is among the easiest to create through sponsorships, advertising, programs and events. The test of name recognition within an industry is typically unaided name recognition market surveys in which a respondent is asked to name three well-respected law firms serving the industry. A dominant firm will be mentioned among the top three by more than 75 percent of the respondents, and will be the first firm mentioned by more than 50 percent.
High-Profile Work. It is expected that the law firms who are dominant within an industry will share all the majority of the most significant legal work generated. Major litigation cases, government representations, transactions between dominant businesses within the industry would all be expected to be handled by a dominant law firm. In fact, the engagement of such an assignment in an industry can literally create an image of dominance for a law firm faster than any other action.
Influence. It is expected that a dominant law firm will be able to exert influence within an industry and on behalf of the industry. It is likely that a dominant firm would have among its lawyers, individuals who came from the industry and its trade association, and that newly-appointed general counsels of businesses within the industry may well come from a dominant law firm.
Signature Clients. A dominant law firm in an industry will have at least one dominant company as its client. Even if a firm has a large number of clients from the industry, it is difficult to achieve dominance without representing one of industry-dominant member as a client.
Creating an Industry Group
In creating industry groups some firms get bogged down with trying to make them alternatives to practice groups. Practice groups have two purposes
It is an unusual firm whose entire strategy is built on industries. Industry strategies are usually backfills for some expertise or a client base that the firm already has. But that does not diminish their power, particularly when combined with a geographic and a practice strategy. One of the beauties of an industry strategy is that its pursuit requires far less resources than most other strategies. The investment is primarily focus, expertise development and industry association activities. Compared to opening offices for a geographic strategy or hiring laterals for a practice strategy, industry focus is a minimum risk/high reward opportunity that every firm should include in its strategic planning.