A new survey by Apperio has found that among large private equity (PE) funds, 22% of them ‘do not actively make any efforts to manage legal expenses’, although it looks like things are set to change.
This matters because if clients are not interested in legal costs, they probably don’t care about efficiency in legal work either, and this undermines the use of legal tech tools both on the buy-side and sell-side of the lawyer/client equation.
It also explains why some law firms that have a large PE client base are perhaps not as interested in legal tech tools that improve the production of legal work, (e.g. NLP doc analysis tools), as much as others that service a broader range of corporate clients’ transactional needs.
It may come as a surprise that such profit-focused businesses are not always bothered about legal spend, but PE has in the past had a reputation for passing much of their costs back to those who have placed their capital into the fund. This has led in some cases to the kind of legal buying culture that would make many of today’s GCs fall off their chairs in shock.
As Apperio Founder and CEO, Nicholas d’Adhemar, who is both a former lawyer and PE investment manager, explained to Artificial Lawyer: ‘In my days in PE, it wasn’t uncommon for you to put your head down on a deal, and after it closed the law firm would produce an invoice and say, ‘I know we gave you an estimate of $300k for the legal fees, but it took longer than expected and the invoice is now $1m.”
However, he noted that things are changing now, especially among smaller PE funds.
‘There’s merit to the idea that PE funds aren’t especially price sensitive, but they also don’t want to buy the whole store, so to speak. The motivation for change is two-fold: first we know limited partners (LPs) are scrutinising all costs now, including legal more closely, and second, legal costs can quickly escalate,’ he said.
‘[Now] LPs want to know the fund they’ve invested their money with will look after the LP’s money as if it was their own,’ he added.
So, there are signs of change. The report also found that 70% of large PE funds are ‘starting to make efforts to actively manage our legal spend’. Although, it has to be said that ‘starting to make efforts‘ seems to be a bit of a soft statement and doesn’t fill one with confidence.
Ironically, even though some PE funds are not careful with legal spending they say they are ‘shocked’ by the size of the legal bills their law firms hand to them.
The report states that: ‘One in five large PE firms are ‘often shocked’ by the size of legal invoices.’
And also: ‘More than half (55%) say higher than expected invoices cause them to re-forecast budgets, which leads to widespread internal friction among legal, finance and investment teams.’
It all seems a bit dysfunctional, which again is a surprise given how laser-focused PE funds are when it comes to turning a profit from their activities.
The Apperio report also highlighted that smaller funds are leading the way. Presumably this is because the investors into those funds, i.e. the limited partners, are more careful about where their money is spent. That could perhaps have some impact on some medium-to-larger funds – if people voted with their feet and moved to the funds that looked after legal spending better.
One interesting question here is whether the law firms can help with this, despite it sounding like turkeys voting for Christmas? If external advisers can help bring more clarity and predictability to how they price matters, perhaps this will head off more serious changes further down the line?
And although it doesn’t seem that a very strong push-back is about to happen, that does seem to be eventually where things are going to get to. So, perhaps it’s better to lead the way now, rather than have to react to the change once it’s arrived?
One last item in the survey that was noteworthy – although in-line with the rest of the report – was that only 22% of large funds and 13% of smaller funds had any form of specialised spend management software.
The total number of respondents was 106. Broken out by size, 46 respondents work for mid-sized firms and 60 work for large PE firms.