If there’s a single practice sector that law firms should seek to grow in 2019, it’s deal work from middle-market private equity firms. Renowned for transforming lackluster companies into top performers ripe for a profitable spinoff or an IPO, private equity funds in the lower and middle market typically buy, build and sell. It’s a value-added investment approach pioneered in the early 1980s by Bain Capital Private Equity, among others. In the decades since, these funds’ managers have not only delivered impressive returns, they’ve also proven themselves shrewd and relentless M&A players. And that, of course, makes private equity funds naturally attractive for any law firm seeking to add depth in corporate and finance.
We spend a lot of time helping partners in New York expand their capacity to serve clients in the emerging technologies sector. For long-term growth, lawyers in these firms are solidifying their relationships with early-stage and growth companies. For more instant gratification, they’re expanding deeper into deal work for private equity funds, including those that target companies in the lower middle market. Multiple authorities, including PitchBook, which tracks private equity and venture capital investing, recorded a record-breaking volume of deals in 2018. Through the third quarter of 2018, deals in the vast middle market (ranging in value from $10 million to $1 billion dollars), totaled $311.7 billion, according to PitchBook, “almost double the $169 billion deal value of 2008.” Having amassed a staggering $3 trillion in uninvested capital, private equity firms are now in a fierce competition to snap up controlling stakes in companies they can reorganize and build to scale (often through add-on acquisitions) within a holding period of three to seven years.
While the top quartile of Am Law 100 firms might have a firm hold on deals from the biggest and oldest players (Kohlberg Kravis Roberts, The Blackstone Group and The Carlyle Group, for example), we see an opening for other firms to tap into the market further downstream. Specifically, there’s a strong opportunity to capture work from private equity shops that target early-stage and other growth-oriented companies operating in the lower middle market—where deal values range from $10 to $250 million. As Mergers&Acquisitions reported in October 2017, a “new generation” of up-and-coming private equity professionals are deliberately seeking lower-cost deals: “These new firms are thinking small to grow big.” Am Law firms seeking new sources of revenue would do well to follow suit.
A frenzy of recent lateral partner hires shows that even firms with deep roots in the sector are pursuing growth. In November alone, three lateral shifts made headlines:
- The Paris office of White & Case recruited Orrick, Herrington & Sutcliffe’s former head of M&A and private equity in France, Saam Golshani.
- The New York office of Paul Hastings took in private funds expert Ira Kustin from Akin Gump Strauss Hauer & Feld.
- The hedge fund-centric Kleinberg, Kaplan, Wolff & Cohen brought over Christian Gloger from Schulte Roth & Zabel.
These moves followed Willkie Farr & Gallagher’s announcement last June that it had lured back Matthew Rizzo, along with Jessica Sheridan, who had both been at Sidley Austin. As these and other firms have learned, private equity funds throw off a bounty of lucrative work. Consider, for example, just one set of deals launched by New York private equity firm CIP Capital in 2014 and handled by Willkie. After acquiring OnCourse Learning, CIP completed seven back-to-back acquisitions and investments in sales, marketing and technology initiatives. CIP built OnCourse Learning into a leading online distributor of courses in the health care, financial services and real estate markets. Last November, with advice from a team led by Rizzo (who began his career at Willkie), it spun off the learning company to Bertelsman Entertainment Group.
Of course, today’s private equity deals are in some respects newfangled forms of yesteryears’ leveraged buyouts. And many top Am Law firms with well-established private equity practices, including Debevoise & Plimpton, Latham & Watkins and Simpson Thacher & Bartlett, learned the ropes during the colossal deal boom of the 1980s, which climaxed with KKR’s $26 billion takeover of RJR Nabisco Inc. (Simpson Thacher has been deal counsel to KKR since its inception in 1976.) Since the financial crisis, however, private equity firms have pivoted away from the old KKR playbook, and the current market brims with new managers who think differently from their predecessors, both in terms of the industries they identify as appealing to investors and in how they execute their plays.
“There’s been an increasing variation in deal structures,” noted Ropes & Gray partner and private equity group industry leader Neill Jakobe in a recent presentation organized by his firm. (Rope & Gray enjoys a longstanding client relationship with market leader Bain Capital, and was named “Law Firm of the Year” in US New & World Report’s 2019 ranking of firms for leveraged buyout and private equity law.) “We’re also seeing unusual divestitures,” Jakobe added. “Including divestitures by private equity firms.”
The latest breed of fund managers in the lower middle market are fluent in cost-efficient digital technologies. They’re responding to stepped-up competition with data analytics tools that speed up the due diligence process and strengthen their ability to spot sector-specific market trends fast. And while they might pay law firms a premium for helping them source deals, they’re loathe to spend much up front for legal services on deals that don’t pan out. According to Axial, an online network that connects middle-market companies with buyers and investors, some small private equity fund managers find it too risky to sink $100,000 into legal and accounting due diligence fees. Law firms seeking to latch onto these funds managers must therefore be flexible on billing rates and also willing to take a long-range view.
The same principles apply when it comes to recruiting. As recent lateral partner moves illustrate, there’s stiff competition. For law firms that are serious about amassing expertise in the private equity arena, we suggest expanding their talent search to include lawyers with budding practices—young partners on an upward trajectory, as well as star senior associates clearly on track to make partner. These lawyers might not own enough client allegiance to keep entire teams busy, but they’re aligned with a market that thrives on forward-looking technologies and break-out business models.
It’s also worth remembering that many stars are born young. Daniel Lennon, now chief of Latham & Watkins’ corporate empire, was a junior associate in his mid-20s when he started working on deals for the Carlyle Group. Thirty years later, Latham’s fortunes continue to rise alongside Carlyle’s.
As The American Lawyer reported in October, all great private equity relationships have an origin story. What’s yours?