Smaller law firms continue to see merger, rather than external investment or bringing in non-lawyer owners, as the more likely path to growth, Law Society research has found.
It also found that the majority of practices polled are now recording net profits ahead of where they were before the recession, while only 8% of firms saw partners’ total drawings exceed profits, compared to 21% the previous year.
The 15th annual law management section financial benchmarking survey said that a third of those surveyed thought a merger likely in the next two years – although only one in five were actually in talks at the moment.
Some 13% expected to seek external finance for expansion, while 17% thought they would bring in non-lawyer owners, both figures down from 20% last year.
The number of firms that considered it likely they would sell to a third party continued to fall when compared to previous surveys, down to 10%.
There was also less interest in joining networks, with just 5% of respondents – half the number of last year – saying such a move was likely.
The survey, conducted by accountants Hazlewoods, covered 159 firms, mainly between two and 25 partners in size. The average fee income across the sample was £4.5m.
More broadly it painted a positive picture of law firms’ financial stability, with a “dramatic rise” in the percentage of practices operating profitability and within their overdraft limit during 2014.
It said that “for many, the key finding will be the fact that the median net profit per equity partner (before notional salary) has increased again, up from £123,621 in 2013 to £144,567 this year – a rise of 16.9%”. This followed increases of 3.6% in both 2012 and 2013.
When adjusted to include a cost for equity partners and notional interest on partner capital, the median ‘super-profit’ for the year was £72,077, compared to £46,017 in 2013. Super-profit as a percentage of total income also went up, up from 7.8% in 2013 to 11.7%, while the median return on capital employed (super-profits as a percentage of partner capital) rose to 40.8% from 26%.
Median practice fee income increased by 8.7%, with residential and commercial convenyancing the booming practice areas, growing fee income by 21% and 13% respectively. All other work types saw increases, except for criminal law and personal injury, even though personal injury practice recorded the highest fee income per equity partner – around £530,000. Wills was the worst field, at around £90,000.
The median fee income per fee-earner was £116,641, but almost 90% of this was eaten up by the costs associated with them, including support staff costs and non-salary overheads.
“Looking at it another way, if a practice has a 31 December year end, on average it takes until 21 November for a fee-earner to earn sufficient fees to cover his or her total costs for the year.”
Financial stability was on the up, the survey concluded. As well as the fall in the number of firms where the partners withdrew more than was earned in profit, one in eight practices were regularly operating near their overdraft facility limit, compared to one in five practices in 2013. Borrowings exceeded current assets for just 4% of participants, and exceeded equity partner capital for only 1%, compared to 20% last time.
Other key findings were that:
- Median equity partner capital (combined total of capital account, current account and tax reserves) increased by 8% to £172,570;
- Median fee income per equity partner was £601,924, up 8.5%;
- Median interest receivable increased by 6%, following a 24% increase last year;
- Total year-end lock-up days (WIP and debtors together) fell by nine days to 153 days;
- The median cost of an employed fee earner, including fixed-share partners and notional salaries for equity partners, was £45,945 per fee earner, down slightly on the 2013, which the survey attributed to firms increasing their fee-earner numbers with lower-earning people:
- The ratio of fee earners to partners has increased slightly, from 4.7:1 to 5:1;
- The number of secretaries per fee earner fell very slightly, to 0.61 to 1. The number of all other support
- staff per fee earner increased slightly, at 0.39 to 1;
- Participants predicted a median fee income growth of 3.3% for 2015, with the most optimistic forecasting 9.4%.
Andrew Harris, director of Hazlewoods, said: “We were pleased to be able to report improvements in all of the key measures of financial performance. The results for many are finally back to where they were six or seven years ago.
“It was also very encouraging to see that practices seem to have taken on board the whole issue of financial stability, and are paying much closer attention to issues such as cashflow, lock-up and working capital.”
Paul McCluskey, head of professional practices at Lloyds Bank Commercial Banking, which sponsors the survey, added that he was plead to see “a change in attitude”, with the reduction in the number of firms where partners’ drawings exceed profits.