An era of super-consolidation of small to medium-sized law firms is in the offing, which will see the number in Scotland drastically reduced.
This will build on recent announcements which have seen Dundee-based Thorntons Solicitors merge with Stuart & Stuart to create Scotland’s fourth largest independent law firm, and medical and clinical negligence specialists Drummond Miller join forces with Peacock Johnston.
The trend will be partly driven by age demographics, since a high percentage of law firms in Scotland have between one and four partners, with a significant number of them in their late 50s or 60s.
Many will be looking for an exit which allows them to spend more time on the exclusive greens of golf course like Muirfield or the Royal Burgess. Yet harsh reality might leave those greying lawyers consigned to the less hallowed turf at the local municipal golf course instead.
The reason for this is simple. Many existing partners have failed to build business equity.
Traditionally, law firm owners have been overly focused on revenue and profit as a baseline for evaluating the value of the business. This approach ignores a whole range of factors which can bolster the final sale price.
To build business equity, law firms must have an established brand which stands on its own two feet, sets out their offering, builds loyalty, fosters affinity, promises consistency and encourages advocacy from existing clients to their peers.
Some law firms neglect brand building believing it is unimportant. Others can be downright sniffy about the concept. The reality is that a strong brand leads to opportunities and a more sustainable future.
It is a strategic tool that can drive growth, profitability and overall performance. Alternatively, a weaker brand makes little contribution to a firm’s business equity or its potential sales price.
Also vitally important in developing business equity are factors such as robust management systems; infrastructure which need little or no owner input; recurring revenue streams; diversified services which lend themselves to cross-selling; and an all-encompassing strategic marketing plan.
Continuity of service is also crucial, not just for potential buyers but to a client base which may be unsettled by news of a sale or merger of a firm with which they have enjoyed a close, personal relationship.
All of which means that retaining key people and putting measures in place to ensure lawyers and support staff are not tempted to jump ship also needs to be a major consideration. New owners don’t buy a business to do just as well as the previous owners - they expect a boost in performance and profitability. So, the prospect of staff leakage is likely to reduce the final pay-out.
Put simply, companies with strong business equity achieve higher valuations. Unfortunately, most law firms have low business equity – partly a product of partners taking maximum drawings and ignoring the need to reinvest in the business.
Deferring salary increases, building cash reserves and keeping debt low for successive years may not be popular choices. Yet they are steps that can increase business equity, meaning departing partners end up with more personal cash based on a higher selling price.
Unfortunately, the traditional legal partnership model tends not to support building business equity, because the natural psychology of the lawyer is to position themselves as a core resource in the transaction/case, so preserving their status in the partnership model.
Yet partners who jealously protect their personal brand may be doing a disservice to the value of the firm. They’d deliver a greater boost to the sale price by adopting technologies which can automate processes and free up lawyers to do actual legal work, while making greater use of junior lawyers and paralegals and promoting a corporate brand.
Of course, larger law firms with established client bases and supported by significant cash reserves will be able to carry on perpetuating, reinventing and refreshing the partnership model.
However, smaller and medium firms that are unable to or unwilling to modernise and adapt to market changes will not achieve best value.
Law firm partners seeking an exit or heading into retirement must create an entity which has a definable value beyond its balance sheet - building business equity is a means to achieving this and ensuring the business can be sold for its optimal price.
Rob Aberdein is Managing Director, Moray Group, which includes Simpson & Marwick
Featured in The Scotsman on 27 June 2022 https://www.scotsman.com/news/opinion/columnists/neglect-the-need-to-build-business-equity-and-pay-a-high-price-rob-aberdein-3743003