Private equity at the gate

The surge of private equity interest in the legal sector foreshadows a fundamental change in how legal businesses are structured — one that the legal profession needs to manage with extreme care.

In retrospect, it should have been obvious to me what was going on; but then I’ve always been a little slow on the uptake.

Back in 2023, I began getting inquiries from private equity firms that wanted my views on the state of US legal regulation. In particular, they were interested in the rules that restricted ownership of law firms to lawyers. It wasn’t entirely clear to me what they were looking to achieve, and they didn’t disclose much in our conversations. I formed the notion (incorrectly, as it turned out) that there was a lobbying angle to it, some interest in changing the regulatory structure to benefit certain players in the industry.

What the last couple of years, and especially the last couple of months, have made clear is that PE’s interest in the legal sector is much more direct, if not visceral. Private equity wants to buy controlling stakes in legal services businesses; to increase the size, scale, efficiency, and productivity of those businesses; and to resell their investments at a profit down the line. This is roughly what PE firms have done in other professional spheres like accounting and medicine, and they’re now well on this path in the law.

Where there are no restrictions on law firm ownership, primarily in England & Wales, PE has bought entire law firms and spearheaded the consolidation of many smaller consumer-oriented practices into large scalable platforms, while buying out senior partners and upgrading technology. In the UK, over the past five years, private equity investors have poured nearly £1.2 billion into law firms. Most recently:

• As of October, one-fifth of UK law firms were considering PE investments for growth, Legal Futures reported.

• Last week, Britain’s largest dedicated personal injury law firm was bought by a private equity firm.

• Two days later, another PE-backed personal injury group purchased a major family law firm and is looking for more.

(PE is also active in Arizona, where non-lawyer ownership is allowed and where a substantial minority of the state’s 120+ ABS firms have at least some private equity ownership.)

Where there are regulations prohibiting non-lawyer ownership, as in most of the US and Canada, PE is pursuing investments in Managed Services Organizations (MSOs). In these arrangements, PE buys an operating company to which the law firm outsources its non-legal infrastructure (“back office” or “operations”), while the lawyer-owned firm continues to provide legal services. Most recently:

• In August, litigation financing giant Burford Capital told the Financial Times it was speaking with multiple US law firms about buying stakes in their MSOs.

• In September, Law360 reported that PE firms have quietly closed a dozen small MSO deals in the US already, and that PE activity in law has “exploded” this year.

• And last month, a PE-owned MSO called Vialto Partners expanded its “affiliate” law firm Vialto Law by hiring 30 immigration lawyers from an AmLaw 100 firm.

Private equity has not been focused on the corporate law giants to this point. (Although late yesterday came word that recently-merged AmLaw 100 firm McDermott Will & Schulte was “fielding interest from private equity investors.”) PE’s early interest has been in consumer-facing practices like personal injury and family law when buying entire firms, and in immigration and tax law services when taking equity in MSOs. But I don’t see any reason why private equity wouldn’t have a much wider appetite for legal services across the board.

PE firms covet legal businesses for a few reasons: the flow of revenue is steady and countercyclical, margins are consistently high in many practices, and there’s enough inefficiencies in law firm operations that some upgrades and more professional management could produce relatively easy profit growth. Law firms, for their part, are interested in fresh cash to chase laterals or build AI capacity, less hassle and expense in managing the business, and exit strategies for their own aging equity partners.

That’s a brief, surface-level summary of what’s going on here. The foregoing links will fill in the details more usefully than I could, because this is very much not my field: Financialization holds almost no interest for me, and most of what I know about private equity I taught myself this week. But I think this trend is real, and if it gains momentum, it will seriously accelerate the transformation of the legal sector that’s already underway.

For the balance of this post, I want to explore two important facets of this development: what it means for legal regulation, and what it means for the future of legal service businesses.

Like me, your first reaction to the term “private equity” might be to think of leveraged buyouts, The Big Short, and companies like Toys R Us stripped for parts and left for dead. That’s not the entire story of the PE industry; but it absolutely is part of it and can’t be ignored. When opponents of non-lawyer ownership of law firms assembled their arguments, private equity was probably the archetypal threat they feared, so they could be forgiven if they’re currently waving every red flag they own.

Now, I’ve been a proponent of non-lawyer equity ownership for many years, and while PE’s arrival on the scene should heighten our guard, it shouldn’t cause us to automatically pull up the drawbridge. The concern that outside forces could corrupt the judgment and independence of lawyers is reasonable enough on its face. But the blanket rejection of all outside equity, even to the point of outlawing fee-sharing, was an overreaction that painted lawyers as somehow purer of heart than the common man, yet also easily tempted by the siren call of filthy lucre.

No matter who owns a business that employs lawyers — whether it’s partners, staff members, public shareholders, or private equity — the rules that bind the lawyers are the same: Your first duty is to the courts and the rule of law, and your second duty is to your clients. There are law firms out there, owned entirely by lawyers, in which those two duties are frequently sacrificed at the altar of profit per partner. So I don’t buy the notion that total lawyer ownership is an effective bulwark against unethical and unprofessional behaviour, and there are scores of lawyer discipline committees out there that can back me up.

All that having been said: It would also be absurd to consider a private equity firm as fundamentally no different than any other type of legal business owner. Private equity is a multi-trillion-dollar industry that wields enormous power in the world and has often left a wide trail of damage in its wake. Intense regulatory scrutiny, especially early in this process, would be prudent and justified. PE firms looking to buy law firms (or the MSOs that house law firms’ operational infrastructures) should be bluntly reminded that law is not accounting, and they should be directed to adopt measures that protect lawyers’ duties and standards. These should include:

• Minimize the use of leveraged buyouts: PE firms use both equity and debt to fund acquisitions; but debt is a risk multiplier as well as a profit enhancer, and regulators have a client-protection mandate to reduce the risk of law firm defaults.

• Independent lawyers make the big decisions: Calls about which clients to take on, how to assess and resolve conflicts, how to structure fees, and how to set case strategies belong 100% to lawyers and their clients. Stay out of the meeting rooms.

• Be very careful around sales: Marketing, branding, and building a client intake system are natural fits for PE. But the client relationship starts and ends with the lawyer. Don’t tie any non-lawyer salesperson’s compensation to case outcomes.

• Design the exit on Day One: In the PE world, exit (with a profit) is everything, so everyone involved needs to be very clear on how that’s envisioned, when it’s expected to occur, and what will happen to the business when that day comes.

That last point is one to which lawyers considering private equity funding need to give serious consideration. Most PE investments end by selling the acquired business to another PE firm or investor. Stowe Family Law in the UK, for example, which was sold to Livingbridge PE in 2017, was then re-sold to Investcorp PE in 2024. The firm has experienced astounding growth and its founder was handsomely rewarded; but its fate now lies in private equity hands in perpetuity.

If you convert your law firm, in whole or in part, into a PE-owned legal business unit, your firm will change forever — and what it used to be will not come back. You should decide in advance how you feel about that.

There’s a whole lot more to be said about the incursion of private equity into the legal sector, and I plan to explore many of the implications in future articles. But I want to make one parting observation: None of this would be necessary if law firms were properly operated and regulated.

I described earlier the main reasons why lawyers would want to sell some or all of their law firms to private equity. Most frequently cited is the desire to generate cash for infrastructure investments or partner buyouts. But it’s not like law firms are cash-poor businesses. Most firms generate a lot of revenue; some generate eye-watering amounts of it. Law firm expenses are trivial when compared to other professions and industries, basically just salaries, premises, and IT (no capital investments, no heavy machinery, no R&D). Profit simply pours out of most law firms.

But in almost all cases, every cent of profit is distributed to the firm’s owners at the end of the year. There is no “Retained Earnings” line in law firm financial statements: The piggybank is shattered and its contents scooped into partners’ pockets. A firm could hold back 10%, or even 5% or 2%, of its annual profits and use that money to upgrade its tech or ease out its senior partners. It would still have more than enough profit left over to give each partner another two weeks in the Turks & Caicos over Christmas. And it would still have full control over its business and its destiny.

Law firms distribute all their profits every year mainly because most of them, even the global giants, are partnerships. And among the many disadvantages of the partnership structure is that partners are taxed on allocated profit — even if they don’t actually receive the profits in a given year, they still have to pay tax on them.

That’s a fixable problem: Professional corporation status is now available for legal businesses across the US and Canada, while ABS status is also an option in England, Wales, and Arizona. But the cultural and structural inertia of law firms is so strong, and the restrictions on law firm ownership so unreasonably tight, that partnership remains the dominant form of lawyer business well into the 21st century. If a law firm really wanted access to cash, the easiest place to find it would be in its own coffers. It speaks volumes that some firms would rather turn to private equity than re-examine their business structures.

In this respect, the arrival of private equity can really be seen as just the latest chapter — maybe the final chapter — in the legal profession’s long-running battle against the modern world.

Lawyers resisted technology until they had to use it. They resisted process and system improvements until they had to adopt them. They resisted pricing their work other than by the billable hour, and most still haven’t given up on that. And they resisted outside investment for so long that, when their own desire for cash became too great, they ended up opening the door to a type of investor they never imagined they would deal with.

I’ve spent much of the last decade-plus urging the legal profession to get its house in order — to take charge of its destiny before someone else came along to do it for them. And now there’s someone knocking, very loudly, on the front door.