Insights

"The heat is (still) on"

by Simon Slater, Managing Director, Intelligent Office Consulting Services

This time last year I analysed the relative profitability of the UK's Top 200 law firms and concluded that the economic landscape had changed for good.  Gone were the days of high average profit margins. 20% was the new 30%.  I also said that market consolidation was overdue and firms still had some way to go to take costs out of the business.

A year on and little of substance has changed.

The average profit margin of the Top 100 firms has flat-lined at 24.7%, whilst the average profit margin of firms in the 101-200 grouping is half this figure.

The good news

First, the Top 100: the "Magic Circle" group has increased its average profit margin to 42.4% (up from 42% last year); firms in the "national" category have improved by 1% point to 21% on average; and firms based in London (with no other UK offices) have increased their average margin to 29.4% (up from 28% last year).  The gap between London based firms and regional ones (21.3% this year, 22% last year) has widened to 8.1% (6% last year). 

Additionally, firms in the Top 50 have fared better than those lower down the list: the average margin here is now 28.4% (up 2% on last year), with those based solely in London achieving 31.1% (up from 29%) and those in the regions making 25.7% (up from 24% last year). Here again the gap has widened (from 4.9% last year to 5.4% this year).

It would seem that it pays to be in the Top 50 rather than the 51-100 tier and to be a London firm rather than a regional one.  Is this really the case?

The not so good news

Firms in the bottom half of the Top 100 this year achieved an average profit margin of 21.9% (down from 23.5% last year).  The gap between them and the firms in the top half is now 6.5% (up from 2.9% last year).

London based firms in the 51-100 section saw a dip in average profit margin to 24.8% (down from 27% last year), whilst regional firms in the same category achieved an average margin of 18.9% (down from 20% last year). Here the gap between the two has actually narrowed slightly from 7% to 5.9%.

But the really worrying statistic is this: one-third of the firms in the 51-100 range made a profit margin of 15% or less.

We don't have profitability data for firms 101-200, but we can make a calculated assumption based on relative fees per lawyer. The average "fees per lawyer" generated by Top 100 firms is £391,000. The average generated by firms 101-200 is £183,000 (less than half). Therefore, these firms are probably doing well to achieve a profit margin of 10%-12%.

Of course, there are exceptions to any generalisation. During the last year, I have - on an interim basis - led a firm in the 101-200 category which produces a 30%+ profit margin. I have also been involved in two mergers involving 4 firms (inside and outside the Top 200), each of which was producing a 20% profit margin.

But my point this year is the same as it was last year. A profit margin of less than 20% is unsustainable for a modern legal business. It does not produce enough cash for reinvestment in the business as well as to remunerate the shareholders in the manner they expect. Further work is necessary to trim the cost base and further consolidation must take place to realise economies of scale.

[Data source: The Lawyer 200]

simon.slater@intelligentofficeuk.com
t: +44 (0) 845 658 9443
f: +44 (0) 845 658 9445
m: +44 (0) 7786 903 530

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