There continues to be significant changes in the legal profession, which in themselves create a great deal of debate. If you are someone who has sat around the boardroom table in a law firm, undoubtedly for various reasons, you will have experienced high tension levels as a result of these changes and future impacts for your firm. When considering the current and future strategy, every agenda item will have had a financial implication.
Many firms have faced financial risk since 2008/2009 in varying degrees with some continuing to struggle, some that have come out fighting and become stronger and of course, a number that are no longer here. We have new entrants with deep pockets, consolidators and niche firms. We have a significant number of start-up law firms. However, cash and funding will always be at the heart of every firm.
The elephant in the room however that definitely has a financial impact is…… succession. Many firms are now experiencing succession issues. A certain generation of partner has been in situ for many years and due to a lack of progression, talented people have moved on and there is no visible succession, or the talent has been retained but there is a financial viability issue of becoming a partner.
Moreover, many firms have succession issues but are not facing up to them. This is a disaster waiting to happen and may result in fall outs, disputes and negativity within a firm which could translate to its downfall.
Many within the younger generations of partners and future partners do not have the equity or savings to be able to invest in the firm. University debt, minimal equity in property, a lifestyle of spending to the maximum and a lack of general savings limit their ability to invest on day one.
Further, banks are significantly more cautious in lending partner capital to individuals such that the days of asking for £250,000 partner capital loan and simply paying interest, which was tax deductible, are gone. Banks are acutely aware of the various lending routes into a law firm and rightly so; private lending on homes and buy-to-lets, working capital lending into the firm, funding liabilities in the short term such as partners’ tax payments, together with longer term debt funding, which has arisen through the bank wishing to reduce the working capital lend and push more into an amortising debt.
So what impact does this have on succession?
The majority of partnership agreements that I have seen entitle a retiring partner to a full pay out of both capital and current accounts on the retirement date. It makes it very difficult for a partner to retire on this basis if the cash flow inwards from new partners is not available and/or the working capital, lockup, of the firm is not managed efficiently.
Trends in financial performance will also have an impact. The Law Society’s Annual Firm Survey, published in January 2016, stated that less than half of firms showed an increase in gross fee income; this was analysed further to show that 81% of large firms’ fee income increased compared to 44% of small firms. Financial viability and sustainability will also be a significant factor, both of which can be upset by succession not being managed well, particularly with clients and teams internally.
Cash flow planning for succession is critical as is a review of agreements to ensure that significant outflow of cash can be managed, whether staged over a longer period or through further advance planning of what the succession of the firm looks like. Is it simply new partners coming through or is it the hiring of new talent that fits with the culture of your firm?
All firms will face succession at some point. Addressing it early and laying all the cards on the table is surely the easier, less stressful, way to delivering successful plans for all concerned.
Succession isn’t just a financial issue however. Leadership and management skills are required to run a successful law firm, remembering that it is a business and should be operated and run as one. In considering what the future looks like, assessment needs to be made as to where skill gaps lie and how these will be filled, if indeed they can. It maybe that succession does not just involve practising solicitors.
Further, key client relationships may well be with partners facing imminent retirement. What is the plan to retain these clients?
All in all, it’s a huge issue and it’s very much out there – it’s just one of those topics that can be difficult to discuss as the options may not be readily available to solve the issue, not to mention conflicting agendas.
So, that all sounds a bit gloomy doesn’t it? I apologise – but only if it has opened your eyes to what needs to be done. The answer may well be requesting assistance from outside of the law firm.
Partner and Head of Corporate Services at PM+M Solutions for Business LLP