ABS – threat or opportunity?

The advent of the full provisions of the Legal Services Act on 6 October 2011 and the opening of ABS applications to the SRA on 3 January 2012 have been much heralded.

In response, many practitioners, commentators and advisers have spoken in terms of ‘defending against new entrants’ or protecting the position of the established, predominantly high street firms. Both of these notions assume that Alternative Business Structures are a threat.

The full provisions of the Legal Services Act 2007 will ultimately allow external investment in law firms and new entrants to the market place. This will undoubtedly change the demographics of the market and increase competition in certain areas. It is therefore understandable why many would view the changes as a threat.

With any new entrant to a market, whether it is a Tesco store opening next to a corner shop, the Co-op offering probate services or a high street firm from a neighbouring town opening a new office next door to you, the general response should be the same. That is to compete effectively by operating efficiently, by differentiating from competitors and by demonstrating excellent customer service on which they place a value.

In all likelihood, as the new entrants use their brand power and marketing budgets within the legal sector, the overall market size will grow as consumers are further educated of the benefits of legal services. That will mean that although the existing suppliers may be competing with new suppliers, it will not be for a smaller piece of the same-sized pie; it may be a smaller percentage, but of a much larger pie.

In all honesty, the majority of high street firms are not currently attractive opportunities for external investors. 

External investors are looking for businesses that are:

  • not as dependant on personal relationships to win and retain business
  • not as reliant on face to face service
  • not as reliant on highly paid fee earners
  • capable of building a brand
  • capable of scalability and significant growth
  • capable of systemising output

That way, the business does not require a large number of owners; there are separate distinct rewards for the roles of owner and fee earner; business decisions are made quickly and easily; the risk of investing in key people that could leave the business or become dis-incentivised is reduced; and there is a significantly improved chance of an increase in the overall capital value of the business over time.

Traditional professional partnerships have not concentrated on this capital growth, rather they have attempted to maximise the income for the partners in each year, thereby reducing the opportunity for longer-term planning and growth in the underlying value of the practice – not surprising given the frequency of the changes in ownership as partners come and go.

If external investors recognise the need to reduce reliance on the partners in order to make a larger return on their investment, you could ask why aren’t traditional owners of legal practices, the partners, looking to replicate that with a view to benefitting from a large capital disposal upon retirement, at significantly lower tax rates?

If existing suppliers are able to operate more efficiently, net profit margins will rise which will allow scope to compete with new entrants on price as well as on overall service and value. There are various ways in which that can be achieved, and the name ‘Alternative Business Structure’ provides a clue to one possibility; this is an excellent opportunity for traditional firms to review their existing structure to ensure that it is fit for purpose post Legal Services Act.

Many firms are currently reviewing their trading structure, particularly those that are looking to attract investment, encourage long term capital growth, reduce liability risks, provide for succession and benefit from more attractive taxation rates; in most cases, involving a limited company within the overall structure, whether as a trading or investment vehicle.

Some firms are also taking this opportunity to review their operational structure, and how their services are delivered to clients or consumers to meet the needs and demands of the changing market and to deliver the capital appreciation that businesses in the wider world are based on.

The changes that the market is currently undergoing provide a once in a generation opportunity for all law firms, not just those looking to attract investment or to become an ABS, to take a long, hard look at themselves, analyse their business models, objectives and processes and emerge on the other side better placed for the future.

This article was originally published in The Leeds & Yorkshire Lawyer and is reproduced with their kind permission.

The Armstrong Watson legal sector team is working with law firms throughout the country on their strategic positioning and how they can respond to the challenges and take advantage of the opportunities that face them. Please contact your local office to arrange to further discuss how we can help you, or contact me on 07828 857830 or andy.poole@armstrongwatson.co.uk.

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