​32% law firms see private equity as a principal source of external funding

With growing competition from niche firms, law practices are actively seeking targeted acquisitions to scale-up in chosen disciplines. 

  • 32% see private equity as a principal source of external funding. 
  • Niche law firms seen as greatest source of competition. 
  • 59% of firms report a rise in competitive pressure. 

There is a sharp increase in the number of law firms looking to acquire or merge in the coming year, according to a recent survey of over 100 UK-based law firms. Almost half (43%) are now seeking to acquire or merge with another business versus only 28% of respondents last year, according to Smith & Williamson’s annual survey of the legal sector.

Around half of the top 100 UK-based law firms, represented by their managing partner, FD or other senior management figure, were among those taking part in the research.

Intensified competition

“With 59% of firms saying that competitive pressures have increased since last year and niche firms considered the greatest source of competition, law practices are actively seeking targeted acquisitions or a merger to enhance their offering,” said Giles Murphy, head of professional practices at Smith & Williamson, the accountancy and investment management firm, and who led the research.

Firms consider a focus on specialist sectors as the greatest opportunity in the next two to three years, followed by UK expansion and lateral hires, according to the survey. This, says Murphy, demonstrates that firms are strategically planning how they can differentiate themselves from competitors. He adds:

“Focusing on specialist sectors can help firms to strengthen their niche and so differentiate themselves. Like any brand, being able to explain and demonstrate why your service is different and superior to the competition is fundamental to taking market share.

“However, differentiating your firm in a crowded marketplace where services from one firm are often considered to be interchangeable with other firms is not easy and was considered the second biggest challenge by respondents,” explained Murphy.

“Nevertheless, the right acquisition combined with an effective strategy can help firms to scale-up and develop market presence in a chosen niche or by geography, and so set themselves apart. The growing trend of relatively small acquisitions as opposed to full mergers can also deliver the benefits more efficiently as the incoming team simply plugs in to the larger acquiring firm as if it were a lateral hire.

“In contrast, it can take years for two similarly sized businesses to reconcile reward structures, roles and disparate systems following a merger resulting in the risk of them being inward focused at a time when they should be seeing the benefits of the combination through increased levels of income.”

Acceptance of external funding: 32% see PE as a source

The survey also explored firms’ attitudes to external funding and the results point to a growing acceptance of this as a source of finance for the profession which, according to Murphy, is likely to increase if firms increasingly look for bolt-on acquisitions. He explains:

“With the current high interest in acquisitions, it’s logical that firms anticipate a growing role for external finance. In fact, a third of respondents expect private equity to be an important source of external funding to the sector in the next few years with a quarter believing that other financial investors, which could include high net worth individuals or family offices, will play an important role.”

Murphy believes that external investment has the potential to drive change in the profession as investors will inevitably expect a reward for their input, and potentially seek changes in operational style. He says:

“While investment from private equity into the legal profession has been limited to date, due in part to a reticence from law firms to accept perceived working practices imposed by an external investor, the clouds gathering on the economic horizon may lead to firms seeking alternative strategic plans to survive and thrive. I therefore think we could see greater use of external finance in the next few years,” said Murphy.

Confidence strong but down from last year’s peak

Although confidence across the sector was strong, with 93% confident about the year ahead for their firm, this is down from last year when confidence peaked at 99% - the highest level recorded since Smith & Williamson first measured business confidence in 2001. However, Murphy believes that confidence among law firms in today’s post-EU referendum world has fallen since that suggested in the survey.

Smith & Williamson’s research also asked respondents for their views on the impact of a Brexit vote and over two thirds (68%) thought the short term impact on their business would be negative. Furthermore, just under half (44%) thought the UK’s exit would have a negative impact on the international standing of English law.

Murphy sums up: “There are plenty of opportunities out there, but the growing strength of specialist firms, coupled with the arrival of new entrants means firms must fight hard to maintain market share and keep up with clients’ growing demands. The uncertain economic environment compounds all this. Ultimately, setting, deploying and executing a strong strategy is fundamental.”

About the survey

109 managing partners, FDs and other senior management figures from UK-based law firms took part in Smith & Williamson’s research which was carried out in May and June 2016.

Around half of the top 100 UK-based law firms participated.

Size of firm:

  • 17% of respondents represented firms with 100+ partners
  • 19% of respondents represented firms with 50-99 partners
  • 26% of respondents represented firms with 26-49 partners
  • 38% of respondents represented firms with 25 or fewer partners

M&A for your business

Do you expect to merge with or acquire another business in the next 12 months?

  • 3% Yes - merge
  • 21% Yes - acquire
  • 19% Seeking merger or acquisition partner
  • 57% No

Business opportunities

What do you think are the biggest opportunities for your firm over the next 2-3 years?

The top four opportunities were seen as:

  1. Focus on specialist sectors
  2. UK expansion
  3. Lateral hires
  4. Investment in technology

External funding

What do you think will be the principal source(s) of finance in the legal marketplace in the next 2 – 3 years? (Respondents could tick all that applied).

  • 89% Bank funding
  • 32% Private equity
  • 25% Financial investors
  • 12% Trade investors
  • 8% IPO