The world of finance is heavily intertwined with the world of law. Particularly in commercial law, which strikes an intersection between the two. Here in the UK, interest rates play a significant role in shaping the overall financial landscape of the country, and therefore, any changes in the interest rate can have a ripple effect on the business of commercial law firms. In this article, we will explore how rising interest rates affect the work of these commercial law firms.

Before we delve into the impact of rising interest rates, it is important to understand what they are, and more importantly, why they matter. Put simply, in this context, interest rates refer to the added cost of borrowing money. When interest rates rise, it becomes more expensive for companies to borrow money from banks, hence making them less likely to borrow, and engage in investments or transactions with these funds. Conversely, when interest rates fall, borrowing becomes cheaper, and companies are more likely to invest in new projects and expand their business.

As you may have seen in the news, interest rates are currently soaring. Having been on the rise since the beginning of 2022, the Bank of England began to incrementally increase interest rates from 0.1% all the way to 4.25% in March 2023, which is a record-high that we haven’t seen since the 2008 financial crisis. 

One of the primary ways that such rising interest rates affect commercial law firms is through their mergers and acquisitions (M&A) activity. M&A deals often involve debt financing, which is where the acquirer raises capital by borrowing large sums of money from banks to finance the acquisition of the target. As this would become more expensive due to rising interest rates, acquirers would be less likely to engage in such leveraged buyouts. This will also affect the valuation of target companies, as if it is now deemed that these increased borrowing costs cut into a company’s profit margins, acquirers may again not be as willing to pay as much, hence, reducing the amount of M&A, as well as Debt Finance activity once again. As M&A clients won’t be engaging in as much economic activity, law firms that specialise in these areas may see a reduction in the amount of work they win, which is an area for concern.

However, as is often the case with full-service law firms, when one practice area faces a downturn, others can capitalise on an opportunity to offset this. 

It is arguable that with the increased interest rate, law firms‘ restructuring and insolvency teams will have more work in the coming months as the effects of this increased interest rate come to fruition. A ‘zombie’ company is one that has insufficient earnings to service their interest payments. And as it currently stands, the current climate has doubled the percentage of total ‘zombie companies’ from 9% to 18%. So, with the increase in zombie companies not being able to cope with an increased interest rate, it is likely that their increased debt will force them to ‘go bust’ or restructure, meaning they may increasingly face the brink of insolvency, which allows for more work for the restructuring and insolvency teams across law firms.

However, the impact of rising interest rates on commercial law firms is not limited to just transactional work. Litigation can also be affected by changes in interest rates. As we’ve mentioned, when interest rates rise, the cost of borrowing increases. This can now lead to an increase in disputes between borrowers and lenders, who may face a variety of contractual (or other) issues pertaining to interest rates. 

In addition to the impact on transactional and litigious work, rising interest rates can also impact law firms’ ability to attract and retain talent. London, as well as the UK in general, is one of the most competitive legal markets in the world, and law firms must offer attractive compensation packages (amongst many other things) to recruit and retain top talent. When interest rates rise, the cost of borrowing increases, which could lead to a decrease in law firms’ profitability, especially if they are heavily focused on transactional work. This can make it more difficult for law firms to offer competitive compensation packages to their future solicitors, which may make it more challenging for them to attract and retain talent in a competitive market.

In conclusion, rising interest rates have multifaceted effects on the economy and significantly impact the work of commercial law firms. As such, commercial law firms must be prepared to adapt to changes in the financial landscape and be proactive in finding new areas of work to compensate for any slowdowns in traditional areas, as without a concrete business strategy, many more niche, boutique law firms may find it difficult to prosper amidst adversity if they happen to specialise exclusively in a struggling practice area. 

By: Sherazam Dogar