Such expansion “has not been without cost”, however.

Rising costs, by way of both direct and indirect expenses, outstripped revenue growth, with total expenses for the average law firm growing by 11.6 per cent in the past 12 months.

Direct expenses are up 11.4 per cent in the last financial year, while indirect expenses are up 14.3 per cent, due in part to the cost of expansion and inflation on the bottom line for firms.

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This is being exacerbated by higher per-lawyer expenditures, Thomson Reuters espoused, which grew 6.8 per cent for the average law firm in FY23.

This indicates, it wrote, “that already-hired talent became more expensive to retain”.

The average Australian firm, the report went on, experienced expense increases in all major indirect categories, including marketing and business development, knowledge management, technology and recruiting.

Perhaps of greater concern for Australian firms, big and small, is that “lawyers are becoming more expensive and less productive”.

“Even if one accepts that the first half of FY23 was a period of poor demand, per-lawyer productivity is still in peril, even at the heightened levels of demand in the second half of the year.

“Hours worked per lawyer per month in the second half are significantly lower than they were in FY21 and FY20, with the average lawyer working five fewer hours per month than in FY21,” the report outlined.

“This indicates that the firms have not yet recovered from the historic decline in utilisation in FY22, a result likely driven, at least in part, by increasing headcount outpacing demand growth.”

Discussion of rising lawyer costs and reduced productivity

In fairness to firms, Thomson Reuters mused, it is not entirely their fault that lawyers have become more expensive and less productive.

“Law firm hiring cycles are lengthy affairs, sometimes stretching across months or years. It is likely the lawyers that firms are bringing on today had agreements signed before the drop in demand in the second half of FY22,” it wrote.

“Firms may have anticipated continued expansion from transactional practices and were hiring to relieve the strain of overwork experienced during the transactional surge. This was not a bad strategy, and if the expectations had come true, firms would have been aptly positioned to take advantage of a continued transactional wave.”

Ultimately, Thomson Reuters continued, “that wave dissipated”.

As such, “firms were forced to make painful decisions to either renege on hiring agreements and likely pay a large fee, not to mention suffer the reputational damage associated with leaving a large number of fresh lawyers in the lurch, or bring on lawyers they did not have the work to fully utilise”.

Firms in Australia “overwhelmingly” chose the second path, the report suggested.

“The good news is that there is plenty of time to right the ship; demand can pick up, rates can be raised, and these lawyers can be highly beneficial to their firms. But those conditions aren’t yet in evidence.

“Worse, a lack of utilisation may not be the only reason Australian lawyers may be somewhat unsatisfied,” Thomson Reuters warned.

Weathering the storm

This all said – and despite the long-term hurdles of expense growth, lawyers’ happiness, and the rise of AI – the report noted that Australian firms have navigated the turbulence well.

In FY23, Thomson Reuters outlined, Australian firms saw demand growth averaging 1.3 per cent year on year, bolstered by a 6 per cent surge in demand at the back end of the financial year.

Worked rates also grew by 5.3 per cent year on year, the report listed.

Thomson Reuters Asia and emerging markets managing director Jackie Rhodes said: “The 2023 financial year was a remarkable comeback story for Australian law firms, who managed to overcome a difficult first half and achieve positive growth in demand, ending the year near the profitability levels of last year.

“Firms demonstrated resilience and adaptability in the face of continued economic recovery, inflation, and geopolitical uncertainties, leveraging technology and innovation to deliver value to their clients and stakeholders.”

Financial metrics for the report were collected from 20 participating law firms in Australia, including some of the largest in the region by headcount. Global metrics were based on more than 230 firms, primarily located in the US as well as the UK.

Lawyers Weekly will have further commentary on the report in the coming week.