Why law firms must be more entrepreneurial

At the outset of 2024 it was clear large commercial law firms were encountering several simultaneous economic headwinds, and the picture has not changed much at the end of Q1. The challenges posed by the perennial problem of lockup, inflationary pressures, the rising cost of retaining key talent, and client demands for more innovative pricing and improved payment terms, come at the same time as firms seek to invest in technology and take advantage of market consolidation opportunities. Add in global political and economic uncertainty and you have a heady mix facing the leaders of top firms.

These were all amongst the challenges highlighted in responses to a survey commissioned by Harbour, a litigation funder and lender to law firms. We wanted to gauge what barriers to growth law firms faced, and what potential solutions they were considering to help overcome those obstacles. Our report, comprising on-the-record interviews with partners from leading firms, and the results of an independent survey of 100 law firm decision makers, reveal interesting insights, particularly from those firms with turnover in excess of £100 million.

First, the confidence of larger firms is clear with 18% saying they do not see any barriers to growth in the coming year despite the catalogue of potential difficulties reported by others – a stark contrast to smaller firms where 100% of those surveyed predicted they would face challenges.

And secondly, in terms of profit 2023 was a good year for most large commercial firms. Almost nine in ten reported their firm’s billings either increased (57%) or stayed the same (29%). All of the £100m turnover firms questioned believed results in 2024 would be positive, with 64% expecting an increase in profits and 36% remaining the same. However, their confidence in the legal sector beyond their own firm was less robust: only 53% of decision makers from large law firms thought 2024 would be a strong growth year for law firms as a whole.

Despite their self-confidence, large law firm leaders were not blind to the economic issues they face. Inflationary pressures (46%) and lack of access to capital (43%) were the greatest barriers to growth, according to respondents. The latter can be attributed to several factors such as lockup, more generous payment terms for clients, and increasing salary bills for staff.

Indeed, for 50% of those larger firms questioned, keeping fee earner wages in line with market was seen as the primary drag on growth. And it is easy to see how growth potential is also limited for the 39% of respondents who said they were offering clients longer payment terms. This cash flow pressure could be a real hindrance to growth plans for large firms, particularly if they cannot simultaneously improve billing and debtor days.

One tool being explored to aid growth and keep ahead of the competition appears to be pricing innovation. The death of the billable hour has been discussed for more years than many partners have been in practice, but our survey seems to suggest many firms, especially among those with more substantial turnovers, are increasingly and actively making this happen.

Half of those questioned said they are intending to introduce value- based pricing instead of charging by the hour in2024. That is a larger number than those offering more typical solutions for clients – longer payment terms (43%),reductions to rack rates for regular clients (36%) and discounts for work done on retainer (36%).

An interesting finding was an apparent reluctance of partners to fund investments themselves, but at the same time reluctance to look at external investment. 39% of respondents from firms turning over more than £100m said persuading their partners on these issues was one the top three barriers to growth they anticipated for 2024.

Partners are understandably cautious to preserve the firm’s cash at the moment, so they can still meet liabilities at a time when getting invoices paid may take longer, and it is also understandable they may not be strongly in favour of contributing to major capital investments which may take several years to realise a return. But the risk of under-investment in the future is stagnation, and it might prove easier for law firm leaders to persuade their partners on seeking external investment or finance, and put the cost of investment on the firm itself – more than eight in ten (82%)of respondents from larger firms said they would, in the next twelve months, consider arranging a credit facility with a specialist legal funder instead of a traditional bank.

Whilst external analysts may suggest there is a perfect storm of economic factors hindering commercial law firm growth, our research suggests leaders of those firms have robust plans to deal with them. Their confidence about increasing (or at least maintaining) profit margins in the current climate is notable, but we suspect it is the more entrepreneurial firms –those making innovations in pricing, or investing in new tech or acquisitions, and leveraging with the assistance of external finance – who will end 2024 in the best financial health.

If you would like to discuss how Harbour is working with law firms, please contact Maurice MacSweeney.