Sovereign wealth funds control a total of $2.3trn and could quadruple in size over the next decade – can the current influx of US law firms edge aside established UK rivals to win their share? Amy Kolz reports

These are bleak times for corporate lawyers. But there is one ray of light in this storm – sovereign wealth funds. These funds, which are loosely defined as investment vehicles owned by foreign governments, have generated many headlines over the past 18 months. Their high-profile transactions range from the buyout of luxury retailer Barneys New York to multibillion-dollar investments in Wall Street banks. In 2007 alone, sovereign entities spent $92bn (£61.3bn) in publicly recorded equity transactions, according to Monitor Group.

But the real moment for sovereign wealth funds is now. These powerhouse investors globally control about $2.3trn (£1.5trn), a pocketbook that exceeds both the private equity and hedge fund industries. And they could quadruple in size by the middle of the next decade, even with the global slowdown and the recent decline in oil prices, according to Morgan Stanley chief currency economist Stephen Jen. Funds in the Gulf region account for more than half of those sums.

More importantly, these investors, particularly those based in the Middle East, seem determined to make investments and do deals, financial crisis be damned. In October two funds in Abu Dhabi announced an $8bn (£5.3bn) partnership with a US semiconductor company. About the same time, the chairman of Dubai World, the $100bn (£66bn) holding company that manages sovereign investments and projects for the State of Dubai, said that the financial crisis was creating unique investment opportunities. And Istithmar World, a subsidiary of Dubai World focused on private equity, also announced in October that it was opening an office in New York to capitalise on those opportunities. In November a member of Abu Dhabi's royal family, along with Qatar Holding and Challenger Universal, two other sovereign entities, made an $11.8bn (£7.8bn) investment in Barclays after the UK bank acquired the US banking and capital markets operations of Lehman Brothers.

"Sovereign wealth funds are kind of our silver lining right now," says William Voge, a Latham & Watkins partner and key lawyer for Qatar's sovereign fund. "Going forward they will have a bigger impact on the world economy."

That means, of course, a potential gold mine in fees. Although scant public data makes it hard to quantify, the legal market in the Gulf for these funds could be well over $1bn (£660m) annually, says Jonathan Bellis, chair of law department consulting at Hildebrandt International.

These are not the type of clients, however, to be won via a pitch letter. As oil prices swelled over the past two years, more than 30 law firms have rushed to the Middle East, all vying to work with the region's sovereign funds and investment companies.

With this kind of competition, US law firms with some combination of a global presence, serious Wall Street credentials and established relationships with the sovereign entities have the best chances of success, says Bellis. He points to Shearman & Sterling, Cleary Gottlieb Steen & Hamilton and Latham & Watkins as three examples. But a look at how a few US firms have forged ties with sovereign funds shows that there is no one prescription for success. So far, Cleary has leveraged contacts from New York and London; after a decade of following a similar strategy, Latham has opened three local offices. Vinson & Elkins has used its resume in energy to win sovereign investment assignments. And Reed Smith has gained entry through a merger and a well-connected lateral hire.

The market is big enough – and still growing – that there is not a single dominant firm. New offices open routinely. This month, Weil Gotshal & Manges launches in Dubai, hoping that its reputation for sophisticated deal-making will attract new clients. "Most general counsel [of sovereign-related entities] are still looking to create those long-term relationships with foreign law firms. But the fact that you cannot pick out one law firm that is sucking up all the work is indicative of the opportunity," says Andrew Wright. He is the managing director in charge of the legal department at Dubai International Capital (DIC). DIC's parent company is controlled by Dubai's sovereign ruler.

Sovereign wealth funds are not new. In 1953 the Kuwaiti sheikh established the Kuwait Investment Board to invest oil revenue for future generations. Countries such as Singapore, Oman and Abu Dhabi have had funds for more than 25 years. But while many early funds were once content to invest quietly in US Treasuries, stocks and bonds, today a growing number pursue investments ranging from acquisitions of public companies, to co-investments alongside private equity players, to industrial joint ventures.

Sovereign wealth funds defy generalisation. Many of these entities are as secretive as they are complex, and several law firms were unwilling to disclose the details of their relationships with their fund clients.

Shearman & Sterling has had an office in Abu Dhabi since 1975 and announced in December that it would double its staffing there to nearly 30 lawyers. Shearman has advised the emirate's funds on several deals, including the Abu Dhabi Investment Authority's $7.5bn (£5bn) investment in Citi in late 2007, the Mubadala Investment Company's $8bn (£5.3bn) partnership with General Electric announced last summer, and the $8bn investment in a joint venture with semiconductor manufacturer Advanced Micro Devices, by two Abu Dhabi funds announced in October. But the firm will not divulge the details of its sovereign relationships.

In the spring of 1994, Latham partners Joseph Blum and William Voge arrived at a conference room in London to pitch financing work for a multibillion-dollar liquefied natural gas project in Qatar. Their chances of success were small. Goldman Sachs, the financial adviser on the project, had invited the duo, but Latham did not have a relationship with either of the project's two joint venture partners, the state-owned Qatar General Petroleum Corporation and Mobil Corporation. What is more, Latham had no experience in the Middle East and very little oil and gas experience, says Blum. There were eight other firms competing, including Slaughter and May, Clifford Chance (CC) and Allen & Overy (A&O), "all of whom were far more competent," says Blum. Latham was not even sure what the appropriate fee should be for the multiyear project. Their fee estimate was more than three times the next highest submission, they later learned.

Latham had one winning card – expertise in international bond financing. This would be the first bond offering for Qatar and the first bond financing for an LNG facility. Over the course of one month and three separate meetings, Latham was able to convince the Qataris and Mobil to give them a shot – at a lower fee.

"One of the Mobil executives actually told us afterward, 'We're taking a flyer on you,' " says Blum. It was great news, but at the time, the Latham partners thought the venture, entitled Ras Laffan Liquefied Natural Gas, was just a one-off project finance deal, perhaps 18 months of work. But they were wrong. " Winning that pitch turned out to be one of those great lucky breaks in a career," says Blum.

During the 30 months of work on the $3.2bn (£2.1bn) financing, Voge and Blum forged relationships with Qatar Petroleum executives who had or would have significant positions within the government and what would later become the state's sovereign wealth fund, the Qatar Investment Authority (QIA).

The Qatari responsible for the project's financing, Hussein Ali Al-Abdullah, for example, would become a director of the QIA and the effective head of managing its investments. Hussein alone has introduced Latham to more than a dozen different clients.

Today, the QIA has an estimated $60bn (£40bn) to invest. And Latham's work for the State of Qatar has exceeded $100m (£66m) in fees, says Voge. The work for all clients based in Qatar, including the QIA, exceeds $10m (£6.6m) a year. These fees, along with the growing wealth of the region, persuaded Latham that it was finally time to set up in the Middle East. Last February the firm announced that it would open offices in Dubai, Abu Dhabi and Qatar, with Rindala Beydoun, a former Vinson & Elkins partner, as the managing partner. Over the course of the summer and autumn, Latham relocated six partners, including Voge, and hired another four laterals in its London and Middle East offices to bolster its Gulf efforts.

If there is one firm to have achieved real success with sovereign wealth funds without yet launching a local office it is Cleary. The New York-based firm's entry into this world started with an unexpected phone call. Corporate partner Richard Lincer was about to go on sabbatical in the summer of 2004 when he got a call from David Jackson, a former Lehman Brothers banker.

Lincer remembers. Jackson was the inaugural chief investment officer for Istithmar which wanted to buy a stake in Kerzner International, a Bahamas-based luxury resort developer that was listed in the US, and the new fund needed lawyers. Since Lincer was going on sabbatical, he asked fellow partner Daniel Sternberg to help out. "I said, 'Istith-what?' " remembers Sternberg.

But there was nothing exotic about the way the new Istithmar executive ran a deal. Jackson was a veteran Wall Street dealmaker, having spent more than a decade at Lehman and the boutique investment bank Marco Polo Partners. There would be no dithering over deal terms or drawn-out standoffs between the buyer and seller. The majority of negotiations for the $225m (£150m) Kerzner stake took place over the course of a month, and everything was done over the phone. Cleary's Sternberg met Jackson (who later became CEO of Istithmar) for the first time when the Istithmar executive travelled to New York a few months after the Kerzner deal closed in August.

Fast forward to 2007 and Cleary had worked on more than a dozen public transactions, including a $300m (£200m) buyout of Loehmann's Holdings, a $2bn (£1.3bn) stake in media giant Time Warner, and the $3.6bn (£2.4bn) buyout of Kerzner.

To say that Dubai World and its subsidiaries have evolved into profitable clients is an understatement. In the past two years alone, Cleary has worked on 23 public transactions for these clients. Today, Cleary is one of the top two legal providers to Dubai World and its subsidiaries, earning more than $10m (£6.6m) a year from them. Cleary will not comment on its fees, but it confirms that it is one of Dubai World's top two legal providers, along with CC.

Although Cleary lawyers now regularly travel to the Middle East, the firm has not announced plans to open an office in the region. Wilner says the firm is "seriously looking at the question", but he says a new office would require significant staffing to create a real benefit.

Where Cleary has had success operating out of its New York and London offices, Reed Smith is hoping that its plan to create a sizable local footprint, as well as the insider status of one lateral, will set it apart. Once known as the largest firm in Pittsburgh, Reed Smith has pursued an aggressive growth strategy and now has sizable offices across the US and around the world.

The firm entered the Middle East via a 2007 merger with London-based Richards Butler, which had a 30-year-old office in Abu Dhabi. But Richards Butler's office in Dubai, an equally critical market, was only a start-up operation, says Reed Smith global managing partner and chairman Gregory Jordan. That changed when Reed Smith lured Sahia Ahmad, Dubai World's inaugural general counsel, to the firm in November 2007.

A native emirate who spent eight years at A&O in Dubai before joining Dubai World, Ahmad has given Reed Smith the all important foot-in-the-door to one of the region's most active sovereign funds. Last March, for example, Ahmad set up a three-hour meeting introducing Reed Smith to a roomful of Dubai World's most senior executives. Ahmad, Jordan, and four other Reed Smith partners met with executives such as Abdul Wahid Al Ulama, the Dubai World group chief legal officer, and the legal chiefs for wealthy subsidiaries Nakheel, Limitless and Istithmar. They were familiar faces to Ahmad. In fact, she had recruited many of the in-house lawyers. "It was like a reunion of sorts," says Jordan.

Within two months, Reed Smith won its first assignment from the holding company and a spot, among four other firms, on the fund's US adviser panel. Ahmad says the matters have grown to include US corporate merger and regulatory work, as well as some local Dubai-based work. "It's been exactly what we set up to do," she says.

Today there is no limit to Reed Smith's ambitions in the region. The firm has 24 lawyers in Abu Dhabi and Dubai. But Jordan hopes to have 100 lawyers in the United Arab Emirates by 2010, through relocations, lateral hires or more acquisitions. The current global slowdown has not changed those aspirations, Jordan says: "There is no danger in thinking big."

Some firms are thinking a bit smaller. In June, Weil Gotshal announced plans to open an office in Dubai with an initial head count of just one. European coordinating partner Joseph Tortorici will be spearheading the Dubai debut this winter, potentially with the help of two more Weil Gotshal lawyers. "We do not have a build-it-and-they-shall-come approach," explains Tortorici.

Indeed, Tortorici expects Weil Gotshal's head count to only approach five to 10 lawyers in the next 12-24 months, not 100. And the firm has no qualms about parachuting lawyers into the area while it figures out permanent staffing.

"We really need to understand the market better and want to calibrate the staffing to the opportunity," says Christopher Aidun, a New York private equity partner.

Aidun and others at Weil Gotshal emphasise that the amount of work for US law firms is unclear, with political concerns potentially hampering US investments and sovereign funds looking more toward emerging markets.

Though cautious about head count, the firm is bullish about its prospects. Weil Gotshal advised longtime client Citi on its financing of the Istithmar-Barneys buyout in 2007, and the firm advised GE this summer on its $8bn (£5.3bn) partnership with Mubadala.

Both deals have boosted Weil Gotshal's local name recognition, say firm lawyers. Following a four-day exploratory trip to Dubai in November 2007, Aidun says he left "with the impression that [people] were excited about having a US firm of our stature on the ground".

At least one regional client says that is not an exaggeration. DIC's Wright was happy to meet with the visiting Weil Gotshal lawyers in the autumn of 2007.

"I had seen their work and thought it was the exact profile of a law firm that I want my team to work with," he says.

But caution for all the big firms looking to do work in the region may be advised. Latham's future share of the QIA's legal work, for example, is unclear. Blum, a key relationship partner, left Latham to join a private equity shop in 2007. (The QIA also has long-term relationships with White & Case and Patton Boggs.) The fund is also notorious for driving hard bargains when it comes to fees.

"We like to think that we are sophisticated in the way that we use external counsel, and I like other law firms to have to jump through hoops," admits Andrew Longmate, a former Latham & Watkins lawyer who is senior legal counsel at the QIA.

Cleary has benefited from the fact that a large number of Dubai World investments over the past three years have been in the US and the UK. If the fund begins to invest more of its assets in emerging markets or the Gulf region, however, it could suffer from not having a local office. And all US firms must compete against leading UK firms.

Then there are the macroeconomic risks. If funds that have sustained huge paper losses on their multibillion-dollar investments in US banks may also be reluctant to invest more in any sector that looks susceptible to further carnage.

And if oil prices remains below $50 (£33) a barrel for a sustained period, or the global market turmoil does not subside, sovereign entities might pull back their investments – period.

If the funds do maintain or even increase their investment activity over the long term, there still might not be enough legal work to support the roughly 50 law firms that are now in the region. That said, with multinational companies, private equity shops, hedge funds, and investment banks increasingly crippled by the credit crisis, these clients with their enormous piles of cash – are hard to beat.

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London leaders – a historical advantage

American law firms looking to target sovereign wealth face the considerable challenge of competing with London's top firms, which benefit from historical ties to the Middle East and, in some cases, offices stretching back decades.

One such early mover is Clifford Chance (CC), which has been in the Middle East for more than 30 years and has advised some of the biggest funds. The firm, which has more than 100 lawyers based locally, underlined its sovereign wealth fund credentials in 2005 after advising on DP World's $5bn (£3.3bn) initial public offering (IPO) on the Dubai Stock Exchange.

CC's magic circle rivals have also made considerable ground in recent years. Freshfields Bruckhaus Deringer, which opened in Dubai in 2005, has built links with DIC and Bahrain's sovereign fund, the Mumtalakat Holding Company. Also well represented is Allen & Overy (A&O). With 85 lawyers in the region A&O is known for its close ties to Abu Dhabi funds and advised the Abu Dhabi royal family on its $11.8bn (£7.8bn) investment in Barclays with Qatar in November. Bringing up the rear, Linklaters entered Dubai in 2006 after recruiting a senior team from CC and A&O and advised DP World on its IPO as well as its $6.8bn (£4.5bn) acquisition of UK ports operator P&O. It is clear that London's top firms are not ceding any ground to new entrants.

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Can sovereign wealth rescue European M&A in 2009?

The once widespread hope that sovereign wealth funds can pick up the slack in a fast-slowing European deal market are to be quickly fading after activity levels fell off in the second half of 2008. Matt Rees, a partner in the London office of Simmons & Simmons, sums up the current mood: "We are seeing funds sit tight. Leverage is scarce and very expensive."

Such comments reflect the growing view that plunging oil prices and the string of bank investments that have burned wealth funds has put these investors back on the sidelines in terms of investing in Europe for 2009.

"They are trying to get the timing right," says Clifford Chance partner Simon Clinton (pictured). "Historically, they are very conservative. So, particularly in a volatile market, they are probably just more likely to hold on to their cash." Many funds that rely on borrowing to leverage their investments are also holding back, says Simon Roderick, a partner in Allen & Overy's Dubai office. "Ultimately, until there is liquidity in the banking system, things are not going to be cracking along at the pace they were before the crisis."

But despite mounting competition for sovereign wealth mandates and expectations that Western investments are on hold, advisers generally remain bullish about the long-term prospects of these clients. As Latham & Watkin's William Voge argues, the "extraordinary money" flowing into these funds will have to be invested somewhere.

Joseph Rosenbloom