Arundale: firms should have been holding back 5% of profits
Some law firms are considering conversion to an alternative business structure (ABS) out of “panic or paranoia” without first getting their own houses in order, experts warned yesterday.
Lawyers need first to build sustainable businesses, speakers at an event hosted by City law firm Fox Williams said, with one of the most important steps being to leave money in their businesses, rather than taking all profit out in partner drawings.
The event marked publication of a research report canvassing the views of a range of commercial law firms on ABSs. The finding that half of respondents were aware of their competitors mulling over or actually seeking ABS conversion smacked of “panic or paranoia”, said Fox Williams senior partner Tina Williams. “They’re worried that they don’t have the right strategy and that their rivals know something that they don’t.”
Speakers emphasised that firms need to have a strategy first, with ABS then just one way to implement it. “There’s a danger of the ABS tail wagging the law firm strategy dog,” said Neil Kinsella, chief executive of Russell Jones & Walker, which is now part of Slater & Gordon.
Anthony Bellau, investment manager at August Equity – which as revealed on Legal Futures is looking to invest in the legal market – explained that private equity firms were looking for “opportunity rather than structure”.
He said looking to access capital not currently available from their partners or bank, and to incentivise partner and staff performance, were good reasons to seek external capital. By contrast, it is unrealistic for firms to think they can use the cash for partners to retire on, or merely to shift from debt financing to equity. “Equity is significantly more expensive than debt and equity investors can be quite demanding,” he warned.
George Bull, head of professional practices at accountants Baker Tilly, said the first task law firms should address is building a sustainable business, which they will not be able to do “if you take out the profits in full every year”.
Steve Arundale, head of professional sectors and financial institutions at RBS, agreed, citing a firm he had been dealing with which took a loan to facilitate a merger that was meant to generate significant cost savings. “The savings haven’t materialised but the funding has disappeared in drawings,” he said.
He suggested that if firms had been putting away 5% of their profits every year for the last few years, many would be able to self-finance changes in their practices.
Mr Kinsella said that when Russell Jones & Walker started planning for the ABS world, it started to retain profits. “We understood the risks of being thinly capitalised,” he explained.
How many mid-sized firms would be in breach of accounting rules were they limited companies I wonder in terms of their drawings relative to the firms’ profitabilities?
ABS’s are indeed a means to an end and not an end in themselves. I have lost count of the number of firms I have spoken to who want to find a merger partner for the sake of it or site ‘critical mass as a driver for merging. But not one has a coherent business plan or means of differentiating themselves.
Maybe the very root of the issue is the partnership structure itself? Investors seek strong management and strategic leadership. How many managing partners could be described as displaying both?