UK legal sector future-proofing skills and income potential

The latest annual Legal Benchmarking Report from MHA, the UK-wide group of accountancy and business advisory firms has revealed a sector investing in its future skills needs, fee earning potential and the retaining of key talent to build resilience while continuing to grow income and improve financial controls.

  • Majority of firms experienced upward trend in income growth
  • A real profitability divide between the largest and some of the smallest firms
  • Succession planning and skills retention are at the heart of increases in the number of fee earning staff and partners, and in some cases the driver behind consolidations
  • Some smaller firms reverse a four-year increase in lock up levels
  • New funding streams and favourable economic facilities reducing call on partners to contribute personal funding into their practices.

The eighth survey on the legal sector reveals a general upward trend in fee income growth for most firms with the exception of those in the 2 to 4 partners segment which has seen a continuing fall in income from last year. Sole trader practices and those with 5-10 partners saw modest levels of fee income growth (2.9% and 1.7% respectively), but it was the larger firms who saw the more significant increases those with more than 25 partners grew to 22.4%.

The £-value difference between the profits being realised by the larger firms and those of smaller firms is significant with average profit per equity partner (PEP) in largest firms at £255k compared to £82k in the smallest. Those with 11 to 25 partners saw a 26% increase (1% above the previous year) while the largest firms saw a 2% increase to 26%. 5-10 partner firms saw a net profit of 17% with the smaller 2-4 partner firms achieving an average 20% net profit return. Sole traders saw 1% growth to 21%. The difference in profits increases the potential brain-drain of fee earners from the smaller to larger firms and is inevitably fuelling talk of further consolidation at the small end of the sector.

Lock up, the total of unbilled work in progress, unbilled disbursements, and unpaid bills, is a key measure of financial resilience in the sector. The survey shows that 2-4 partner firms are tightening their control of lock up with a decrease to 110 days, reversing four years of rising levels. Across the other firms there have been smaller decreases or relatively static levels of lock up.

Firms have increased the numbers of fee earning staff and partners and trainee recruitment is up. The report reveals the move by firms to promote senior fee earners to partner level, in a bid to strengthen their succession plans and to retain important individuals in what is a very difficult recruitment market. With many of the new staff being junior roles there are challenges with lower chargeable rates, training and supervision time, but there is also an improving trend with the number of non-chargeable staff reducing.

The percentage of total funding from external sources grew across most firms with only the largest seeing a significant drop from 32% to 18%, reaching its lowest level in four years. Firms are looking to new funding streams including the challenger banks and other finance offerings reflecting the opportunities to access the favourable interest rates and fees available and so reducing the call on partner investment in their firms. The survey also reveals continuing trend in static or decreasing level of funding per equity partner.

Most firms were able to reduce their overhead spend as a percentage of fee income with only the sole practitioner segment seeing a significant increase in expenditure compared to income, mainly around premises expenses and marketing, possibly in a bid to keep up with the competition. While premises costs as a percentage of fee income were broadly consistent with last year 2018, IT costs as a percentage of income narrowed. Firms of all sizes remain under pressure to keep up with the latest IT solutions. This lack of significant increase in IT spend may be masking an overall reticence in embracing future changing working practices.

Karen Hain, Head of the Professional Practices sector at MHA, said:

‘Our report reveals how many firms, having built capacity to grow, are experiencing that growth. There has been a fall in the level of income per fee earner billed which is due to those additional fee earners being at lower seniority levels. These increased fees are not directly translating into higher profits. Firms are now in a period of talent investment looking to future proofing their businesses’ capacity to grow. To build sustainable profitability it is key that firms build the fee earning capabilities of their more junior fee earners.

In areas such as lock-up it is encouraging to see improvements. However, changes in the economic environment or firms taking their eye off the ball in managing lock up will see levels increase. Therefore, all staff in firms need to understand the commercial realities of quicker more regular billing, and stronger credit control procedures, taking responsibility for improving their own clients’ work in progress and debtors.

The adoption of more agile working practices and the opportunities afforded by new technologies and robotic process automation (RPA) need to be embraced to help control premises overheads and increase staff efficiencies.’

For a copy of the 2020 Report, to find out more about the issues raised or to discuss them with a member of the MHA Professional Practices team, contact Hannah Farmborough on 0207 429 4147, email Hannah.Farmborough@mha-uk.com