To explore the correlation between market capitalization – a company’s share price multiplied by the number of its shares outstanding – and total legal spend (inside budget of a law department plus its outside vendor costs), I gathered 2005 spending and staffing data on 35 large US companies (See my post of May 26, 2007 on market capitalization as benchmark denominator.). The group’s median revenue was $19 billion with a median of 79 lawyers.
Based on Fortune data of March 17, 2006 for the market cap of each of those companies, each internal lawyer of the median company supported $480 million of market cap. For the median company, market capitalization was 493 times larger than total legal spending.
At the end of this orgy of calculation, I looked at how closely total legal spending correlated with market capitalization. In other words, as legal spending went up or down for different companies how closely did their market cap keep pace with change? The correlation coefficient is 0.660, which means that the two figures move together to a fair degree. Either figure is a reasonably good proxy, but by no means a substitute, for the other.
One more point: the correlation between the number of lawyers in the law department and the market capitalization of the company was very high – 0.873. Which drives which cannot be answered by a correlation analysis (See my post of Jan. 27, 2006 on cause and effect.).