- Are you thinking of selling (or buying) a law practice? Here’s what you need to know.
As thousands of baby boomer attorneys (senior attorneys) consider retiring during the next five to 20 years, they often wonder: “What is my law practice worth?” and “Who wants to purchase my law practice?”
Law firm valuation consists of the cumulative value derived from the following components (each, a Value Chip):
Senior attorneys have the following options when considering selling their law practices:
Growing law firms present the preferred sale option because firms in growth mode want and need what senior attorneys have, namely:
Many senior attorneys would prefer to sell their law practices to an internal successor, or recruit a lawyer to succeed to their practice, but most internal successors do not want to purchase a senior attorney’s law practice for the following reasons:
Post-2020, those senior attorneys who maintain their status quo risk the value and future salability of their law firms for two reasons:
Post-2020, the fair market value price that willing purchasers pay for a law practice primarily involves negotiating an earnout price (Law Firms Sales 1.0). As the decade progresses and the brand value of law firms becomes quantifiable, purchase prices will evolve to include an earnout price, plus a fixed price attributable to a firm’s brand value (Law Firm Sales 2.0). For the purposes of this article, the sale options described here do not contemplate law firm sales per a given state’s version of Model Rule of Professional Conduct R. 1.17, Sale of Law Practice, and instead presume terms negotiated per a merger or lateral recruitment with respect to joining a growing law firm, or a transfer of equity over time with respect to an internal successor (see also Montana’s Rule 1.19, its variation on the Model Rule).
In Law Firm Sales 1.0, a selling law firm and its purchaser negotiate an earnout price based upon the following Value Chips: the client list and the referral source list, which taken together, represent a selling firm’s book of business.
When negotiating an earnout price, the purchase terms typically relate to: (a) applying a fee sharing percentage to the collections derived from a selling firm’s book of business; and (b) assigning a number of years in which the fee sharing applies.
Negotiating an earnout price represents fair market value to the seller and purchaser in Law Firm Sales 1.0 because for the purchaser, an earnout price minimizes the risk of over-payment in the event that the clients and referral sources of a selling firm do not continue retaining the legal services and referring new matters to the purchaser respectively. For the seller, the earnout price provides appropriate compensation for the portion of the book of business that continues engaging and referring new clients to a senior attorney’s successor.
As time progresses, sellers and purchasers will begin adding fixed prices attributable to a selling law firm’s brand value, plus negotiating an earnout price, ushering in Law Firm Sales 2.0.
The introduction of fixed pricing for law firm brand value results from today’s digital era, where law firms continue collecting data analytics from their multi-channel digital marketing efforts and client origination data maintained by their customer relationship management (CRM) software, such as designating client origination between clients originated digitally and those originated per traditional referrals.
As Chip LaFleur wrote in his 2020 book, Digital Marketing for Law Firms, the Secrets to Getting More Clients and Better Cases: “The single greatest advantage of digital marketing tools compared to traditional advertising methods is that is that the digital tools generate data that you can use so that you can improve your campaigns so you can keep getting better and better results.”
As a hypothetical example, let’s say that a group of trusts and estates lawyers organize a trade name-based law firm called the Atlantic Estate Planning Group to offer services to middle-class young families in eastern Virginia (like most state bars, Virginia’s Rules of Professional Conduct allow trade names as long as they are not misleading). Recognizing that most of its potential clients search for attorneys online, the firm:
As a result of its digital marketing efforts, the firm:
In Law Firm Sales 2.0, this data will support and justify selling firms seeking a fixed price for the brand value that a purchaser will receive. In addition, unlike Law Firm Sales 1.0 where banks remain hesitant to lend upon the value of a selling firm’s book of business due to the uncertainty of clients and referral sources remaining with a purchasing firm, Law Firm Sales 2.0 will include commercial bank financing because of reliable data supporting a firm’s brand value.
In addition to the fair market value approach that Law Firms Sales 1.0 and 2.0 present, law firm sale price options also include:
When considering selling a law practice, the following logistics apply:
When growing law firms consider purchasing a law practice, the following logistics apply:
When considering selling or purchasing a law practice, lawyers should review pertinent rules of professional conduct applicable to their home jurisdiction. Referencing here the Ninth Edition of the Annotated Model Rules of Professional Conduct, examples of rules to review include:
Law firms have value, and lawyers have three options to consider when contemplating selling their practices. Law firm value will continue developing digitally because consumers will increasingly find lawyers via Google and other digital platforms, instead of the old-fashioned word-of-mouth referral method.
For those lawyers who have developed a book of business during the course of their careers, growing law firms, in particular, want and need those books, together with the goodwill, subject matter knowledge, experienced workforce, and marketing value that senior attorneys and their practices offer.
Today’s sellers benefit from the earnout price that Law Firms Sales 1.0 offers. Coming around the proverbial corner, the legal industry will begin seeing fixed prices in law firm sales as we pivot toward Law Firms Sales 2.0, in which law firm brand value will generate stand-alone fixed pricing. Those senior attorneys who continue maintaining their pre-2020 status quo approach to business development unfortunately risk a decrease in the value of their law practices, because their books of business will not replenish at the same pace in today’s digital era as compared to the traditional word-of-mouth referral era.