Why General Counsel Vary in Sourcing Strategies: Fortune 500 Evidence
The discussion above still leaves us with an unanswered question: why do company lawyers react differently using different logics of action to the same pressure to do “more for less”? A casual inquiry with industry analysts and other insiders tended to yield stories that were unique to a particular corporation or a particular lawyer.
Typically, the story might go as follows: a charismatic in-house counsel was responsible for growing the legal department at Corporation X, and was able to continue to do so even after a new CEO took office. As a social scientist, I was looking beyond the personal idiosyncratic stories, to seek patterns in my data so that I could explain why some general counsel were internalizers and others were externalizers. I began this enquiry by analyzing the survey data from ALM (the media company that publishes The American Lawyer) on legal departments at Fortune 500 companies.[52]The study provides explanations based on theories of the firm, in particular those that address the make-or-buy decisions. Here, we glean these explanations without presenting the full study involving econometric analysis. Put simply, multiple regression analyses enable us to examine the impact of multiple factors on a specific variable, here the size of in-house corporate legal department as indicated by the number of lawyers employed. We can see if the impact of each factor is significant or not, whilst taking account of the impact of all other factors, including many control variables such as the size of the company and the sector in which the company is in. I report on four significant results that have a bearing on where we are likely to find general counsel who are internalizers or externalizers.
First, we examined Research and Development (R&D) expenditure as a proportion of corporate sales (i.e. R&D intensity) and advertising expenditure as a proportion of corporate sales (i.e.
advertising intensity). Amongst the Fortune 500 companies, those with high R&D intensity and high advertising intensity were found to employ more in-house company lawyers, controlling for size and other things. This makes intuitive sense: as compared to external attorneys, in-house lawyers have better knowledge of the business of the company they work for, enabling them to use their legal knowledge to advise on what to patent and how to defend patents and copyrights, and how best to advertise within legal constraints and to defend brands. According to one interviewee:[W]e have a large research center on this site, where we do R&D and test tubes and all that kind of stuff, and we have patent attorneys sit here, supporting them.... We have a process by which all the guys on the test tubes over in the lab, when they invent something, will write up their lab notebooks....We have a patent attorney, an inventor and a business manager all sitting in the same room, because then the strategic relevance of the patent is tested rather than just that it is chemically a great idea.
Thus, internalizing general counsel tend to work for companies that have intangible assets to defend, typically in the form of intellectual property and brands.
Second, this study looked at sourcing strategies as characterized by three things: (1) whether external legal work was concentrated in a small number of law firms or dispersed across a large number of law firms, (2) how stable relationships with law firms were over time, and (3) how broad or narrow the capabilities of law firms were, as measured by the number of practice areas. We found that at Fortune 500 companies, externalizers were adept at developing more stable relations with a smaller number of law firms than internalizers. These chosen law firms also provide legal advice across a broader range of practice areas. By contrast, internalizers tended to retain a larger number of law firms, each providing a narrower range of legal advice, with no guarantee of stable flow of work.
This result has implications for “panel reviews” which often lead to “convergence”, i.e. a reduction in the number of law firms retained. In particular, our study suggests that a reduction in the number of law firms is perfectly consistent with relying more on external legal resources, as Type 2 Externalizers do, as long as they can design multi-year transactions in multiple practice areas by surviving law firms in the panel. This requires building relationships of trust and commitment.Third, general counsel who also carried a senior management job title (Executive Vice President or Senior Vice President) tended to be Internalizers, heading a relatively large legal department, controlling for other things. This could be a reflection of GC’s internal power, set in a corporate setting with “legal astuteness”, referring to corporate top management’s proactive stance to use internal legal resources to make strategic decisions.[53] Although the proportion of general counsel who sit on the board of directors or executive committee of large global corporations is very small,[54] that is too strict a test of how chief legal officers are exerting influence in corporate top management teams. Using a weaker test in our sample, the proportion of general counsel who also carried a senior management job title is widespread, covering just under 80 % of our Fortune 500 sample companies.
With a backdrop of a vigorous debate on the role of general counsel,[55] we hear about powerful GCs such as Ben Heineman at the US giant General Electric and David Drummond at Google. Corporate executives turn to the GC to pre-empt going to jail and to fend against endless threats of lawsuits, including from patent trolls. More generally, in-house lawyers are expected to increasingly play a dual role of being a lawyer and a business partner, as legal work in compliance and risk management increases.[56] Our study of Fortune 500 companies indicate that these expectations by corporate executives have created GCs who are Internalizers, finding it easier to use internal rather than external legal resources to deliver what is expected of them.
Last but not least, the Fortune 500 companies study examined the link between international presence and the size of the legal department. The degree of internationalization, measured by the number of countries in which the corporation has a subsidiary, was found to be positively correlated with a larger legal department, controlling for other things. Thus, on the whole, as companies become more global, they employ more company lawyers, over and above the size one would expect with general business growth. The reason lies in advantages of dealing with complex managerial tasks inside the global corporation. As multinationals enter more foreign markets, complexity multiplies with the number of jurisdictions in which they operate, each with a different set of regulations. At the same time, through inter- jurisdictional coordination, international presence creates opportunities for generating value through regulatory arbitrage, when firms exploit locational differences to reduce or avoid regulatory costs, for example in corporate taxation. A strong legal expertise within the corporation helps to identify and exploit such opportunities in the process of company lawyers interacting frequently with the corporate accounting department (for international tax planning) or the strategic planning department (for foreign direct investment or M&A). Arguably, external counsel would be just as knowledgeable about such regulatory issues in general. However, managers can be better assisted in exploiting market opportunities by the in-house counsel who has an intimate knowledge of the business. Hence, the potential to exploit opportunities from the co-specialization of legal and other firm resources favors the insourcing of legal services. This advantage of internal coordination within the corporation increases with greater multi-jurisdictional international presence.
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