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Ultimate Law Guide The credit crunch and its impact on law firms The credit crunch and the recent collapse of global companies, such as Lehman Brothers have left international financial markets in turmoil. The effects have also been felt by companies reliant on the stability of these markets to continue to trade, develop and grow their businesses. In the UK, reports suggest we are heading for a recession with house prices in sharp decline, we have witnessed a slump in the stock exchange, a squeeze on consumer spending and disposable income, which has in turn been aggravated by unprecedented rises in the cost of living, with huge increases in energy and food prices, have all contributed to mounting losses, which have weakened the banking sector considerably. There have been mass job cuts, and dwindling company profits. The credit crisis has affected many countries in many types of markets, as the problems are global in their origin. Any solution has to be a global one, as a single country trying to mend one part of its banking system will not work if we are to avoid a world-wide recession. What is a credit crunch? The term relates to a period where the availability of loans/credit (debt) is significantly reduced. Since 1992, the British economy had enjoyed sixteen years of uninterrupted growth, with low unemployment levels, job creation coupled with low inflation and interest rates. However, this phase of growth in the financial markets had been founded on unsustainable borrowing, investments, and spending, which eventually caused a financial meltdown, and was the root cause of the credit crunch. The economic climate had previously consisted of high-volume money-lending on favourable terms for borrowers, which created a climate of increased spending and debt. The world’s financial market became volatile, which led to unstable credit markets and prices falling on global stock markets. This resulted in economic uncertainty, which led to banks increasing interest rates and becoming more risk averse and less willing to lend large amounts of money to fund business deals, loans, house purchases and consumer spending. The result is the boom period has now gone bust. Q. How did we get there: What caused the credit crunch? The UK has a strong reputation as a capital market, and the affects of the credit crunch hit the City of London hard. The underlying problem is that Britain’s economy was vulnerable even before the credit crisis struck. Much of the UK’s recent growth had been driven by the City, which had been based on unsustainable growth where people were borrowing more than they could afford, in a climate of soaring house price values. In the US, mortgage companies made hundreds of billions of dollars in inappropriate loans available to highrisk ‘sub-prime’ borrowers in the US residential mortgage and consumer loan sectors. Banks offered cheaper loan terms (facilities) to individuals who had poor credit ratings and who presented a considerably high risk of defaulting on their loan repayments. The origins of the market turbulence were a consequence of the underpricing of credit risk and weakening of lending standards in the US financial market. The risk on the loans, were then shared amongst global financial institutions by the trading of the loans and other forms of Securitised debt. The lending banks ‘syndicated’ (a very large loan made to a borrower by a group of banks who share the risk of the debt on identical terms) their debts in order to help protect their risks by repackaging the debts and selling them on to global financial institutions, which then sold the debts on to hedge funds and pension funds. Many of these syndicated debts from the higher-risk borrowers were put together and were the trigger and catalysts for the credit squeeze. The sub-prime crisis In the US, many of the high-risk mortgagees defaulted due to rising interest rates, which depressed the American housing market and led to house prices falling sharply. The slide in US property values led to negative equity in many properties. The knock-on effect meant thousands of people had their homes repossessed. Banks made huge losses as a result of their exposure to the sub-prime mortgage market. This caused a loss of confidence and a drying up of available cash that led to turmoil in the money markets. Banks are increasingly reluctant to lend to each other, and investors are suspicious of the health of the global economy, as they are uncertain of the financial risk they would be taking on in any future investments. 1 What were the global implications of the sub-prime crisis? Most of the sub-prime lending was carried out by companies that sold their loans on to other banks. These financial institutions viewed the risks as fixed and they failed to see the risks had in fact been soaring, as lending was gradually extended to people who had less chance of being able to keep up their repayments. The sub-prime loans were grouped into portfolios, and the risk in those portfolios were then split into tranches and sold to investors around the world. The vehicles used to share the risk into tranches, known as collaterised loan obligations (CLOs) which, represents a form of loan securitisation. As a result of this worldwide repackaging and selling-on of risk, the consequences of defaults in the US market created losses all over the world. It had become clear that many asset prices were over-inflated and people/institutions had increasingly borrowed money when they presented a high risk of defaulting on these loans. There was a lack of transparency in the disposal of the investments, and the losses mounted to billions of dollars. US banks, European banks and Asian banks were all affected. And it snowballed from there, because financial institutions lost trust in the midst of high uncertainty in the money markets, which led to a liquidity squeeze. This caused a great deal of concern for banks as they became increasingly panic-stricken about becoming overexposed as a result of lending to non-creditworthy people and institutions. This led to a complete shift in the approach of many banks to lending. Northern Rock saga In the UK last summer, Northern Rock, ran into trouble, as it became over reliant on cheap debt to finance its mortgage lending. The sub-prime crisis made it much more difficult to offer mortgages as borrowing and interbank lending became a lot more expensive1. Banks no long trusted each other – they didn't know who had the worst problems. So interest rates for banks went up sharply, and that led to difficult times for the lender. The subsequent run on the bank forced the government to step in and guarantee all deposits. The US sub-prime crisis certainly increased the difficulties for Northern Rock, but its problems were directly caused by a flawed business model of borrowing cheaply from the wholesale markets, a strategy which had fuelled the bank’s rapid growth by relying on world markets to borrow most of the cash it loaned as mortgages. This meant that when the credit crunch hit, sparking fears over potential losses linked to high-risk US sub-prime mortgages, the banks which Northern Rock had relied on, were less willing to lend money to the struggling lender. Instead, they chose to keep their money2. Those who would loan did so at higher rates, meaning that Northern Rock's borrowing costs sky-rocketed. Other mortgage lenders were less badly hit because they were less reliant on money markets; instead drawing heavily on savers’ deposits to fund their mortgage loans. Northern Rock got itself into financial difficulties because its approach left it ill-prepared for the global credit crunch. As a result, it was nationalised by the government [See our case study on Northern Rock ] The global Banking crisis More recently, banks around the world have been pushed to the brink of collapse. Bear Stearns, the fifth largest US bank collapsed. In September, Bradford and Bingley posted losses of £26.7m for the first half of 2008, blaming surging mortgage arrears. On 29th September, the ailing mortgage lender was nationalised. The British government took control of the bank's £50bn mortgages and loans, while its savings operations and branches were sold to Spain's Santander. This coincided with the great fall of Lehman Brothers, a leading Wall Street bank. Lehman’s posted a loss of $3.9bn for the three months to August. On the 15th September, the bank filed for Chapter 11 bankruptcy protection. America’s decision to let Lehman Brothers collapse—and the losses that flowed to money-market funds that held its debt—prompted a global run on wholesale credit markets. Another US bank, Merrill Lynch, had also been stung by the credit crunch, and were forced to agree to being taken over by Bank of America for $50bn3. In Iceland, the Icelandic government took control of the country's third-largest bank Glitnir after the company had faced short-term funding problems. 1 In the inter-bank market the prices banks pay to borrow money from each other are still near record highs. There is a vicious circle because the banks that will lend insist on a premium (which is why LIBOR is trading well above the Bank of England base rate) and good borrowers try to avoid this, meaning that the market is populated with more bad borrowers, increasing the premium charged by lenders and perpetuating the cycle. 2 Banks are also worried about who ultimately will incur the losses from the sub-prime market, which meant they held reserves against their own potential losses and did not lend to other banks that might be suffering losses. Many banks were careful about holding on to their cash. The majority of banks are facing liquidity problems (because of their own obligations and potential losses). Many banks have reported financial losses and a disinterest in lending to other banks, and this is the root of the credit crunch. 3 Wachovia, the fourth-largest US bank, is bought by its larger rival Citigroup in a rescue deal backed by the US authorities. Under the deal, Citigroup will absorb up to $42bn of Wachovia losses. 2 These dramatic events led to crisis talks in the US and Europe, resulting in respective governments promising to support the financial sector, which have been suffering steep losses in the credit market. On the 13th October 2008, Gordon Brown tried to resuscitate Britain’s beleaguered banking system to shore up three of the UK's largest and most troubled banks, by investing £37 billion in government money to boost the capital of the banks businesses. In return, the government receives preference shares, which means it will get priority in being paid dividends before other shareholders. The prime minister’s decision to inject these funds means the state, in effect, will acquire a controlling stake (60%) in Royal Bank of Scotland (RBS), RBS also owns Natwest bank. The government will also own a substantial interest (44%) of the merged Lloyds TSB and HBOS, and this move amounts to a partial nationalisation of the banks. The government have attached conditions to this deal, which includes restrictions on executive bonuses and pledges that lending to small businesses and homeowners will be restored to last year’s levels, in order for the banks to operate more in the interests of taxpayers. The UK government’s injection of funds into the three banks also kick-started a £1.9 trillion global bail-out. It prompted leaders in Germany, France, Spain, Portugal, Italy, Holland and Austria to put £1.5 trillion into their banking systems with policymakers acting together to cushion the economic fallout. The US, also signalled it was ready to pump in another £400 billion to its banks. The UK governments billion pound rescue intends to revive the City and stabilise our banking system with measures to tackle the three concerns—about capital, liquidity and funding—that have eroded confidence in the banking system. The current lack of confidence is based on the solvency of banks, their ability to fund themselves in illiquid markets and the health of the real economy. The bursting of the housing bubble has led to hefty credit losses: most Western financial institutions are short of capital and some are insolvent. But liquidity is a more urgent problem. Despite the scale of the government’s intervention, including the half-point cut in interest rates by the Bank of England, the economic outlook is bleak. The severe stresses in the financial system have increased the risks of a bigger and more sustained downturn. The UK may well be heading for a recession. On the 14 th October 2008, the Monetary Policy Committee said it was more than likely that Britain would fall into a recession. A recession is where we have two successive periods of contraction, ie negative growth in the third and fourth quarters of 2008. The very need for such drastic measures underlines how bad things have become. By putting its full weight behind the banks, the government has signalled its determination to avoid a worstcase outcome. But the shocks to confidence over the past month still seem bound to hurt an already wounded economy. Confidence is everything in finance. This week, however, we have seen the first glimmers of a comprehensive global answer to the confidence gap. Together these measures add up to the most comprehensive response yet to the banking crisis in developed economies. According to the Economist4, this move was much needed because if the “panic that has choked the arteries of credit across the globe is not calmed soon, the danger will increase that output in rich economies will not simply shrink, but collapse. The same could happen in many emerging markets, especially those that rely on foreign capital. No country or industry would be spared from the equivalent of a global financial heart attack”. Will the worldwide credit crunch have a knock-on effect on law firms? How law firms address the implications of a slump in business confidence remains the principal question for many lawyers at the moment. There have been a number of redundancies at firms around the country. However, law firms are renowned for their resilience, and many practices are weathering the storm and resisting the temptation of making significant redundancies. Some firms have implemented plans for practice diversification and redeployment of their fee earners and staff, so they can concentrate on the growth practice areas to support and sustain the firm as a whole. This will enable firms to move staff to more vibrant departments to offset the losses of underperforming departments. In addition, it is likely that law firms will also reduce their lateral hirers and the number of partners they appoint, in order to reduce their fixed-cost base. There are likely to be staff cutbacks, but will these threats affect the firms’ future trainees? Will the credit crunch affect your offer of a training contract? Many future trainee solicitors starting their training contracts within the next year or two have raised concerns about whether the economic doom and gloom could mean their training contracts are cancelled. We have advised these prospective solicitors that such a position is highly unlikely. Most law firms have a broad range of practice areas, and should be able to absorb any potential losses during the slowdown in the market. Law firms would also be unwilling to rescind any training contract offers on the basis of market conditions, because it would cause a great deal of adverse publicity, which would diminish the great work of their graduate recruitment teams for very little cost gain. It could also pose potential contract law implications for the firm. 4 The Credit Crunch: Saving the system. The Economist 09.10.08 3 It will be interesting to see how well UK law firms learned the lessons from the recession of the early 1990s recession and in 2002, when City firms were slashing jobs in the aftermath of the dot-com crash. In the last recession, many law firms suffered as a result of not reacting quickly enough to manage the situation. There were also instances where firms withdrew training contracts before the prospective trainee solicitors were due to commence their training, as a consequence of a lull in the market at that time. Some firms were left to later regret such drastic actions once the market had recovered, as they suffered a shortage of newly qualified lawyers and junior associates. In the main, law firms believe it makes no real business sense to unilaterally cancel training contract offers, because as with any other industry, the legal profession experiences peaks and troughs. If law firms are forced to make cutbacks, the cull would usually fall to those approaching qualification, as retention numbers after qualification would be reduced. Newly qualified lawyers and junior-tomid-associates would also face a precarious fate. The worst case scenario for would-be trainee solicitors is the prospect of their firms asking whether they would be prepared to defer the commencement date of their training contract. But the firms would not run the risk of actually withdrawing training contracts, as trainee recruitment is viewed as a key strategic part of a law firm’s long-term strategy (planning ahead five to ten years), and trainee solicitors are, in relative terms, cheaper labour! The risks to a law firm withdrawing their future trainees far outweigh any benefits. How will the credit crunch impact on City law firms? Mergers and Acquisitions (M&A) The magic circle law firms have reported no signs of a reduction in deals over the last six months, with feeincome growth remaining strong. Allen & Overy, Slaughter and May, Linklaters and Freshfields Bruckhaus Deringer are among the top City firms winning roles on the UK Government’s £37bn bailout of three of the country’s biggest banks. Clifford Chance are advising long-term client Barclays on its own £6.5billion package to boost its capital. However, it was noted that there are fewer M&A deals in the pipeline5, which means there may be a further slowdown in transactions over the next quarter. Lawyers are carefully considering the effect on their clients’ businesses; if there is a further downturn in the economy, they will be considerably affected. Overall, many City law firms are trying to remain calm, and are monitoring what will happen in the remaining months of the year, and the year ahead. Law firms are not immune from a downturn in the economy. In the City of London, law firms have witnessed a slowdown in takeover activity as a direct result of credit costing more. Also, the fact that many deals are requiring some form of credit and leveraging (debt-based) will invariably create an M&A deal flow slowdown. There is currently a negative yield curve, meaning that interest rates for short-term debt are higher than for long-term debt. Many companies will find it difficult to source financing, such as private equity, to carry out any takeover. Big-ticket M&A could seize up due to lack of liquidity or appetite for large syndication in the leveraged market. The knock-on effect for securitisation lawyers may also be grim. Corporate transactions may take longer to finalise, as many takeovers will be under threat due to lenders constrictingraising their lending standards, making it more difficult to source funding to finance the transactions. However, the liquidity crisis has caused uncertainty for businesses, many companies face going bust. This is likely to increase the appetitie for hostile acquisitions in order to keep ailing companies afloat. Troubled companies may struggle to refinance their operations in more restrictive credit conditions, which could lead to an increase in insolvencies. Companies in difficulty may find themselves stalked by activist investors looking to pick up bargains or turn them around by forcing changes in management or strategy. Even successful companies are likely to focus on increasing efficiency and cutting costs, and this navel-gazing will no doubt prompt a boom in restructuring and reorganisation. A further downturn in the economy may impact on the fees and profits of some firms, which may make it difficult to survive without merging or absorbing departments of other ailing law firms. However, most firms could seek a merger or acquisition in order to develop growth potential for the business rather than as a defensive move for added security. Some commentators believe that merging two law firms which are in financial troubles based on similar reasons will only compound such financial difficulties. However, law firms are renowned for their resilience and we are confident that they will demonstrate their ability to survive. 5 The number of M&A deals in the third quarter fell to 2,350 globally compared with 3,400 in the second quarter of the year – but the combined value of the deals rose from £380bn to £408bn. Law Gazette 09.10.08 4 Banking and corporate finance The lawyers specialising in structured finance have had the most to fear over the liquidity crisis. Over the past four years, the combination of cheap credit and private equity billions provided fertile ground for UK lawyers to be part of a global transactional boom, where M&A and private equity investments were widespread. There was a great deal of interest in injecting as much leverage as possible into a transaction, which meant banks were lending to the all-powerful buyout houses on cheap and very favourable terms. Many of the banks agreed corporate finance on the basis of what will sell as opposed to traditional credit fundamentals. Many banks’ approached transactions influenced by the prevailing market conditions rather than following sound sensible banking principles. In the period just before last summer’s global financial meltdown, private equity lawyers were in full control of the negotiation process with banks. They had strong bargaining powers due to the easily available source of finance from a litany of banks prepared to offer cheap credit on excellent terms. The terms of the loan agreements were drafted to support the banks’ clients, demanding ‘cure periods’ that provided their client with the right to default on covenants as much as they wanted up to 120 days after the acquisition investment. The rationale was based on the uncertainty surrounding a company during the transition period, and the fact that investors couldn’t possibly know how a company was going to perform for a period of time after the takeover, as they did not have sufficient time to do their due diligence. But fast forward a few months and the business landscape has altered drastically. Investment activity has slowed down and this has left banks in a precarious position. Commercial law firms may face an increase in restructuring/refinancing of loans. Many banks trading below face value could decide to cut their losses and sell their debt. Companies which face the prospect of their bank lenders selling off their debt viewed radical restructuring as the best path out of financial difficulties. The private equity boom has created many highly indebted companies who are likely to struggle to keep up with payments on their debt as the economy has slowed sharply, and there has been a rise in companies defaulting on their bank loan repayments. The knock-on effect for businesses could be scaling back functions of the business and employee redundancies. The economic climate in which lawyers negotiated the covenants in the loan agreements had been favourable to the company (with ‘covenant-lite’ clauses in the contracts). Many companies will have a grace period if they fall behind on the repayment of their debt. They will not be under immediate pressure, because their lawyers may have negotiated wriggle room for company earnings or leverage levels to fluctuate before they come close to breaching their covenants – the first trigger for a restructuring to take place. Tightened credit conditions have already diminished private equity's appetite for M&A, and this will have altered the negotiating position of banking lawyers. Banking lawyers are in a stronger position. They can now return to established credit fundamentals: re-negotiating their clients’ (banks) previously weakened position and drafting much tighter deals that will probably be characterised by covenant-heavy, banker-friendly terms (with stricter loan covenants on defaults and on overall loan terms), as demonstrated in Kohlberg Kravis Roberts & Co’s recent $26bn takeover of First Delta. A banking solicitor at a major City firm recently informed us that he has been inundated with clients asking whether they can be held to their obligations if the credit markets collapse. Conversely, private equity and corporate clients have been asking whether the banks can be forced to make good on their lending promises. In the US, investors are pursuing aggressive lawsuits against banks because of the unexpected and very sudden decrease in value of their investments.This is opening up the possibility of high-profile legal disputes, and class actions launched against global banks. However, in the UK many clients are seeking advice on how to restructure and resolve deals. Generally, lenders are likely to be less keen on risk generally, and the ‘covenant-lite’ leverage deals (transactions that are mainly debt based) are likely to be out of favour for some time, with many banking departments drafting much more narrow and restrictive covenants in loan agreements. An investment banker friend recently summed up the present state of economy as follows. We are likely to see a deal flow slow down, with a bit more restructuring work. We do not see it as a long-term collapse, but more akin to a correction to the financial markets, where easily available credit had been too cheap for a long period. With credit now costing more, most M&A deals will be largely debt-based. Private equity deals will decline significantly, and the loan applications for many businesses will be rejected when they would probably have been accepted otherwise, because at the moment cash is king and many banks do not have the stomach for risk. What other issues will banking and Corporate finance lawyers have to consider? Law firms with a strong emphasis on structured finance and private equity practices may have to adapt quickly and shift their focus towards new and emerging markets. It is likely that re-packaging of loans will be more challenging going forward, and we may see leverage bankers trying to repackage deals. Sales of Structured products like conditional loan obligations are quiet, the leverage acquisition market is very quiet at 5 present, and the negative yield curve suggests that longer-term borrowing (such as project finance) is likely to be less badly hit than the banking sector. There is a ‘flight to quality’ as investors look for save investments (traditionally government bonds), but stable cash flows may also be attractive. The burning question is whether there will be a short-medium pause (say a year or two) or a longer down-turn. Many clients of law firms are optimistic it will be a short pause only. Commercial and banking litigation Difficult market conditions always produce litigation. The nature and extent of the financial crisis is already giving rise to complex litigious issues, and many lawyers are anticipating more contentious issues to follow with possibly large-scale cases involving investors and major financial institutions. We may therefore see a sharp rise in financial litigation as a result of the downturn in the economy, with banks seeking to recover losses that they suffered through their exposure to sub-prime mortgages, and investors aiming to salvage some of their losses. The clients of banking lawyers may seek advice about the flexibility of their loan agreements. In the current climate of economic uncertainty, the majority of banks may face the risk of legal action for purported missselling, miss-valuation and misrepresentation of investment products, particularly if borrowers try to argue that banks failed to disclose the full degree of risk. However, the commercial reality is that the sheer complexity of financial instruments could make it almost impossible to determine liability and the extent of losses in most cases. Both banks and corporate clients are open to the prospect of commencing litigation. Clients from both sides have been seeking legal advice to help assess the details of their actual losses (once their provisional write-downs have crystallised) and their potential culpability, before any concrete decisions are made with regards to launching legal action. However, many City financial institutions are unable to manage the risk involved in high-profile and costly litigation. It is also worth noting that possible lawsuits between big banks and their clients will ruin business relationships, damage reputations and lead to failed business deals being exposed to media scrutiny. The credit crunch is likely to cause clients to face the prospect of financial litigation and insolvency, which may prove lucrative for the commercial litigation departments of some law firms. However, the issue of banks suing other banks over bad deals poses many questions that are difficult to answer. Will law firms’ typical approach of not suing banks continue? Will law firms turn away lucrative instructions? This area of law may expand to become a key area of work for some commercial law firms who are willing to take on the big banks. Many of the large City law firms will be restricted from accepting new instructions by major banks, due to their long-standing relationships with the banks. Many of the leading litigation law firms have resisted acting in disputes that put them in direct conflict with the investment banks, for fear of making enemies of financial institutions that provide a great deal of instructions. Earlier this year, Clifford Chance, who have one of the strongest litigation firms in the country, had to turn down an instruction from key client British Energy and refer it to Barlow Lyde & Gilbert. Why? The other party (client) in the case was Credit Suisse. And Credit Suisse is one of Clifford Chance’s major banking clients. The pre-eminent banking clients are the most lucrative and reputable mandates for major City law firms. Winning new and extra instructions from major banks is a key business strategy for many City law firms. A large proportion of a law firm’s business development budgets are allocated to developing their relationships with the big banks. The ultimate prize is a better relationship with these global power brokers in order to generate more profit for the law firm. It is unthinkable for many of the City law firms to litigate against their major banking clients. Many of the big global banks undertake multi-million-pound corporate transactions that generate a great deal of fees and publicity for law firms. Some of the major banking clients are therefore cash-cow clients and many firms are desperate to get on their panel of external law firm advisors. And if any firm on their panels ever decide to act against them, the banks would be likely to refrain from ever instructing that particular law firm on any future legal matters. Many City law firms would invariably refrain from going against any of the major banking powerhouses. 6 The corporate and banking departments of major City firms therefore carefully select who their litigation colleagues litigate against and when. 6 Many banks have clauses in their panel contracts expressly stating that if any of the law firms on their panel threatens litigation against them, that firm will not receive any future work from them. Given that every firm in the top 20 or so law firms is on the panel of one bank or another, it will be interesting to see how the major City firms respond in the post credit-crunch legal services market and banking sector. 6 Property The UK had witnessed a property boom over the last few years. The housing market became over-valued, fuelled by cheap credit and low interest rates. Asian and Arab sovereign investment funds injected billions of pounds into the commercial property sector. However, the credit crunch made investors much more risk averse, which caused an adverse impact on the UK residential and commercial property markets. There has been a slowdown in conveyancing and commercial property deals. The share value of large property developers has fallen. Construction is wilting as homebuilders put projects on hold and lay off workers. The property industry is so intrinsically linked to the wider economy that property departments have been severely effected more than any other area of a law firm. The conveyancing and commercial property departments of many City law firms face a period of financial difficulties because of fewer instructions from clients. The credit crunch has made the lending criteria of banks more stringent. House prices have started to fall after several years of robust growth, and there has been a significant increase in the repossessions of houses. The residential and commercial property market is clearly feeling the knock-on effect of the credit crunch. The residential and commercial property practice areas are clearly facing uncertain times. Some property lawyers are being made redundant in both the US and the UK. Further interest rate reductions would be welcomed by the sector, but most mortgage lenders are failing to reflect such interest rate cuts on their deals for customers. The property industry mirrors the UK economy: investment will slow down, and the question is whether this will be due to a recession. Employment Employment lawyers are likely to see an increase in instructions; from advising companies on the prospect of collective redundancies or advising the employees who face being made redundant. There are likely to be a large number of lay-offs in the conveyancing departments of law firms around the country. In addition, many firms are likely to strive to re-deploy staff in suitable alternative employment to weather the storm and circumvent any potential employment liabilities. Conclusion The UK economy has experienced a slowdown during 2008 – the only question is - will this move into a recession? The economic uncertainty looks likely to continue, and we have yet to see the true impact of the credit crunch on law firms. At present, the clients of many law firms are in the process of reviewing their budgets and deciding which contracts, plans and strategies will be postponed or abandoned. We will have to wait and see the true knock-on effect on the law firms in the final months of 2008, and early next year. Whatever impact the credit crunch has on the legal market, we are confident that commercial law firms will be able to absorb the difficult climate and recover, because law firms have counter-cyclical practice areas and are therefore dependent on the long-term nature of each practice area. For example, in an economic downturn, there tends to be more work for litigators – particularly for commercial, banking and insolvency litigators.7. Traditional project finance practices – such as M&A, insurance, hedge funds, and banking, may help to protect a firm’s viability more than in other sectors, such as, construction and commercial/residential property which are generally more reliant on fluid credit markets and are therefore departments that are likely to continue to struggle in the fourth quarter. What is clear is that, the effect of the credit crunch is likely to continue well into 2009; we just have to wait and see the intensity and duration of the economic downturn. Confidence counts for everything in markets and loss of confidence in an industry sector can affect the largest commercial law firms. Last year’s huge profits at the leading law firms will be hard to match, but many leading firms remain positive that they will benefit from a flight to quality as the market contracts. If the legal market as a whole enters a quieter period, lawyers will have to polish their business cards and increase their efforts to spot business development opportunities and bring instructions in from their clients. Ultimate Law Guide Guiding tomorrow's leading lawyers today Note to reader: The article above is intended for educational purposes only. 7 Notwithstanding, some practice areas – such as criminal, tax, wills and probate, and other private client areas – appear resistant to economic downturns, where there always remains a steady flow of work for lawyers advising on areas of law that are independent of economic cycles. 7