For those who are willing to spend time and resources preparing their own law firm for sale, there are opportunities out there.
Lawyers are notoriously bad at following their own advice. ‘Succession planning’ is a mantra drilled into clients by every conscientious practitioner, but when it comes to the future of their own business, the same groundwork is not always in place.
For those who are willing to spend time and resources preparing their own law firm for sale, there are opportunities out there. ‘The market is becoming increasingly dynamic,’ says Sandy Finlayson from niche technology law firm MBM Commercial, ‘and it is important to create a business fit for sale.’
Consolidation is the prime market mover, according to Andy Poole, legal sector partner from accountants Armstrong Watson: ‘This is being driven by factors such as succession planning, pressure on profitability, legal aid reforms, reforms of the personal injury market, compliance requirements and the need for general economies of scale.’
Part of a strategy
First things first: the sale has to be part of a strategy. ‘A firm has to think well in advance about what they are trying to achieve,’ says Lis Bellamy, founder of Purple Performance, a consulting, training and coaching business, and also an associate consultant with Law Society Consulting. ‘Is the goal of the sale to get out, or wider job security? Do the main partners wish to stay on after the sale?’ Having clear objectives, she adds, is half the battle in achieving them.
On the high street the market for buying law firms is buoyant and expected to remain so. Raymond Fox from Bottom Line Consultancy is a ‘marriage broker’ to the smaller end of the market – firms that have four or five partners, or even fewer. He believes an increase in bureaucracy is encouraging people to look at off-the-shelf options: ‘A major change in the past 10 or 15 years is the difficulty of setting up a firm,’ he says. ‘If you want to set up a firm you have to comply with the SRA rules and lots of red tape, plus [get] professional indemnity insurance, so it is much easier to buy a small practice [instead].’
At one level a law firm is a business like any other, but they remain quirky operations. Most lawyers are not professional managers; many law firms still operate arguably obsolete internal structures and billing arrangements; and much business depends upon personal skills and reputation.
‘Law schools do not teach you how to run a business,’ Fox points out. ‘This means you can be a brilliant solicitor, but not business-savvy.’ Therefore, it is worth considering turning to professionals to make the most of your practice.
Take the long view
‘If you are planning to sell in two or three years’ time, plan now,’ Bellamy says. But how can you maximise the firm’s attractiveness? ‘Check your compliance records are up to date. Are there any complaints outstanding? Restructure to improve the firm’s overall performance. Get your firm into the best possible shape before sale. Then you are ready to sell.’
Purchasers will be looking for evidence of financial discipline and good business planning, such as producing detailed financial projections for up to five years ahead. ‘A firm needs a strong balance sheet, preferably with no debt,’ Finlayson advises.
An obvious step is to look at the model the acquirers are aiming for and achieve it first. A case in point is Metamorph Law, which is looking to ‘acquire, transform and aggregate’ around 60 existing high street firms, introducing a corporate structure and hiving off back-office and other ancillary services. Metamorph is financially backed by legal business consultancy Assure Law, whose brands include Lawyers2you, HighStreetLawyer and Simply Rehab.
If the firm is a partnership, it is worth considering a move to an alternative business structure, as the traditional model leaves partners with unlimited personal liability and risky exposure to banks.
Review your long-term liabilities, such as any leasehold on premises. ‘Big debt is a killer, and big leasehold liabilities are a killer,’ Finlayson observes. Another no-no is skewed profit-sharing arrangements, which lead to unhappy partnerships and the potential haemorrhaging of key partners. ‘You need a properly balanced profit-sharing agreement, happy partners, happy staff and a commitment to excellence,’ he adds.
Many high street firms still take whatever work comes through the door – whether a ‘slip and trip’, will-drafting, crime, conveyancing or commercial. Creating a lucrative niche can increase the chances of a successful sale. ‘The high street is disappearing’, Fox says. ‘The more fragmented the market, the more specialised the firms have to become. Firms will struggle unless they specialise.’
Finlayson agrees: ‘There is scope for firms to survive and prosper if they have a clear, well-defined niche in an expanding market.’ He also emphasises the importance of a widely dispersed client base; for example, firms that relied mainly on banking work from a few big clients were hard-hit in the financial crisis.
Alternatives to selling
If you definitely want out, there is always the option of closing the firm down. This can be a costly business, involving redundancy payments and steep run-off cover. For a practice with a turnover of £1m, the insurance premium averages around £200k, so a disposal may be a better option. This has its own consequences. Bellamy says: ‘The purchaser knows that they are saving the seller a significant sum, so there may not be much value in the business. Law firms which do medical negligence, for example, will have substantial work in progress that has a value. Others may have a lot of repeat business that appears to merit goodwill, but not many acquirers are willing to pay much for that goodwill.’
Broaden your horizons
The temptation for most law firms looking to sell is to ask around the local area. Although this seems logical, it can work against you. ‘If you start ringing up the managing partner of your local rival word can get out. People can get upset and start to leave,’ Fox cautions. ‘If you are a firm based in Tunbridge Wells, it may be that firms in Scotland or Newcastle are interested rather than those next door. I have personally sold only half a dozen firms to a local competitor.’
Bring on the accountants
So what professional advice should you seek? Bellamy advises: ‘Consult on the value of the business, but do not necessarily instruct your own accountant. It is sometimes best to get an external accountant’s point of view, maybe from someone who is experienced in business valuations.’ And she warns: ‘Your firm is probably worth less than you think it is.’
As legal professionals, it is tempting for solicitors to save on the paperwork. But Fox says: ‘Do not do the terms and conditions yourself. Many sales fall through because the contract was not drawn up properly. Use accountants who can sort out the tax provisions for you. Treat the sale of your business like the sale of your home.’
Michael Roch is CEO of KermaPartners, a professional services advisory firm with experience of advising law firms on international mergers and alliances, as well as partner remuneration and profit sharing. He advises firms to be proactive if they wish to achieve the best sale. ‘Many small high street firms are reactive, they wait until they are approached to sell,’ he says. ‘There is a reluctance to seek to be acquired, as firms are afraid of it being known that they are “on the market”. But many firms overestimate the negative impact on their reputation and can mitigate this greatly, especially if they use an intermediary.
‘If they are proactive and have a couple of possible suitors, they are in a better position to assess the best deal, which is hard to do when there is only one deal on the table’, Roch adds. His advice stands for those active in the mid-market, with one caveat: ‘There is a different deal dynamic with more partners. Lots of good deals have died because one or two partners could not be brought on board.’ He adds: ‘The earlier an external party is involved the better.’
It is also important to consider how your advisers will be paid – by the hour or by result? Sometimes stepping back from a proposed deal is the correct decision; a high-profile example being the failed merger talks between DLA Piper and Canadian firm Heenan Blaikie in 2014. DLA backed out of the deal and Heenan Blaikie subsequently collapsed.
- Plan for a sale at least two to three years ahead.
- A strong niche practice area makes a firm more attractive.
- Aim to consider more than one deal.
- Drive down debt – it puts off interested buyers.
- Check leasehold liabilities – these can kill a deal.
- Look outside the local market for a buyer. If word gets out locally it can affect a firm’s value and staff morale.
- Get a valuation from an accountant who is not your auditor.
- Do not draw up your own contract.
To sell or merge?
If a merger is what you have in mind then there are other considerations. ‘If you want to merge and remain in the business, a cultural fit is often just as important as the money,’ Bellamy says.
Rosy Ware, legal sector manager from Armstrong Watson, agrees: ‘Arguably the most important factor to consider is culture. If the culture of the two practices doesn’t match or can’t be aligned, then post-merger integration rapidly becomes impossible and, if not addressed at an early stage, can also lead to the merger falling down late on in the process’.
Another trap is leaving difficult issues such as roles and profit pools for later down the line, rather than dealing with these matters upfront.
The mid-market has not remained static on the merger front, with several tie-ups in 2013 neatly demonstrating a range of motives: financial need (Penningtons Manches, in which Manches was bought out of administration in a pre-pack deal); extended national reach (Bond Pearce and Dickinson Dees); or a step into global markets (SJ Berwin and Asian firm King & Wood Mallesons).
And lessons can be learned from those that did not work, such as Dewey & LeBoeuf, the product of a merger between Dewey Ballantine and LeBoeuf, Lamb, Greene & MacRae in 2007. The heavily indebted firm was exposed when recession hit; its policy of paying well over the odds for rainmakers to expand into new areas has been widely criticised.
Finlayson has some advice for those considering a merger: ‘People try to find a goodwill value, and then allow partners to continue to take out what they are used to, but it cannot be done. People have to accept that they cannot strip all the profits out of a firm if they are also trying to create a goodwill value’.
The question of succession planning is not going to go away. ‘The UK is still over-lawyered, and there are more qualified solicitors than ever,’ Finlayson says. Consolidation is predicted to increase. So think ahead, and prepare for a graceful – and ideally lucrative – exit when the final curtain comes into view.
Katharine Freeland is a freelance journalist
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