As Yun Kriegler outlined recently in The Lawyer, after spending ten years in Asia, U.S. law firm Vinson & Elkins decided to close its Shanghai office. In July 2013, the Houston-based firm announced that it will shut down its three-partner office to consolidate its China practice and work more effectively with state-owned energy companies. This leaves the firm with eight partners between its Beijing and Hong Kong offices.

However, this comes as no surprise as there are numerous challenges which foreign law firms are currently facing in China.  Kriegler outlined the challenges facing US firms in China.  Here’s a brief overview:

The growing trend of cut-throat pricing

With over 180 foreign firms based in China, most competing for the same high-end work, competition in the industry is turning cut-throat. This is why firms have resorted to attempts to undercut the competition on price. Even established global players choose to quote lower prices, which at times are even lower than those of  local firms.

However, this has proven a burden for large multinational law firms in China.  Take for example a firm that quoted a capped fee of about $200,000 to help a company with a natural resource project in the U.S.  According to other industry leaders, the minimum price on a matter like this should have been $500,000 to turn a profit.  By forgoing these higher fees in an attempt to compete, many international firms in China are suffering unsustainable challenges to revenue and profit.

In fact, estimates highlight that the average revenue at each of the 15 largest firms in China is $10-$20 million. For a four-partner office, a profit margin of 25% will secure $625,000 per partner.  This figure isn’t close to domestic numbers produced by the top 10 U.S. based firms – and hence the China practices of large foreign firms are facing re-examinations, force reductions or re-deployments.

Firms Hurting Themselves with Their Business Models

Complementing the slow economy, regulatory restrictions and tough competition is international firms’ business models. Most international firms have high fees and cost bases, but the worth of their brand and their ability to command higher fees isn’t the same in China as it is back home and in more established markets. Therefore, their higher price tags are simply a harder China sell.  And with local firms improving their quality while keeping prices low, U.S. firms appear to be facing a long term challenge on multiple fronts to wining work in China.

The Lack of Talent Management

Senior Western-trained Chinese lawyers have been driven to local firms because they felt lack of support and understanding from their firm’s network. This is a result of the numerous discounts and price reduction requests proposed by Chinese clients — often rejected by main offices overseas. The risk of potential conflicts with existing U.S. clients who are paying more is also a challenge.  As Chinese lawyers feel that they don’t have control over their clients’ work, relationships and resources, they believe that they’re better off leading Chinese firms where they can control their own finances and futures.

Chinese offices of international law firms also feel disconnected from their headquarters as the latter in some cases don’t understand China’s legal market.  As a result of these challenges, decisions made outside of China, especially those related to hiring and strategy, fail in achieving their purpose.

The Bottom Line

U.S. law firms will need to adjust to the unique competitive landscape that is China. As Kriegler reports, firms like Jones Day are already doing by boosting business efficiency.  However, those that don’t may very well meet the fate of firms like Vinson & Elkins.

Posted by John Grimley

John Grimley edits and publishes Asia Law Portal

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