Sustaining through succession

by 11 Nov 2010

A solid portion of Australia’s legal profession will soon retire, but are law firms ready to engage the next generation? Briana Everett reports

There has been much talk in recent years about succession planning and the elements required to implement an effective business strategy. However, a number of law firms and sole practitioners still fail to recognise the importance of planning for the evolution of their business and the ongoing effort that’s required to ensure its longevity.

Between 2004 and 2009 the number of solicitors over 60 years of age increased by 50 per cent, according to the Law Society of New South Wales, and between 2001 and 2009, the number of solicitors aged over 50 increased by 11.6 per cent.

With the oldest baby boomers reaching 65 and preparing for retirement there will soon be a significant departure of senior practitioners and large transfers of wealth, highlighting the importance of an effective succession strategy for firms and sole practitioners to ensure that the value of their business lands in the right hands.

Planning to plan

As firms and sole practitioners grapple with the day-to-day challenges of running a practice, succession planning is often forgotten or put at the bottom of the to-do list.

A 2006 survey by RMIT University revealed that 75 per cent of business owners have no existing exit strategy and according to Deloitte, fewer than 30 per cent of private businesses have an achievable succession plan in place. “It’s quite common, particularly for partners, to get really busy doing what they’re doing and [forget] to look at the bigger picture,” says vice-president of the Australian Legal Practice Management Association and general manager of Coleman Grieg Lawyers, Warrick McLean. “That sounds simplistic but for a lot of firms I think that’s a real challenge. They may look at things strategically - there’s that old adage of retreats [where] we go away and have a good chat - but [they] don’t know specific outcomes and no-one’s held accountable.”

While most business owners/managers envisage themselves eventually retiring or selling their business, it’s often not until they reach retirement age that they begin to actually consider who will replace them or carry on the business without them.

“It’s probably not uncommon for smaller practices to think ‘okay, I want to retire next year’, and that’s probably the first time they’ve thought about it,” Mclean says.

It’s this ‘end-game’ approach to succession planning that must be avoided, according to Yvette Pietsch of Pitcher Partners, who emphasises that a succession plan should be treated as an ongoing process.

“We refer to it as business evolution…right from the beginning of people going into business together,” Pietsch says. “A lot of people just do the work that comes through the door. There’s really no strategy or vision about the business and where it’s going. If you don’t set a goal or an end, then there’s nothing to work towards.”

In addition to planning for expected outcomes like retirement or the sale of the practice, owners must also address the unexpected in their business evolution strategy.

Managing director of Rick Mapperson & Associates, Rick Mapperson, highlights the need for owners to consider their ‘unexpected succession plan’ should a practitioner die or become disabled, either temporarily or permanently.

“People need to practice a ‘what if’ scenario,” Mapperson says. “They need to ask the question [and] what the implications will be. [They must] go through the various types of crises or threats and plan contingencies so that if they did happen, they’ve already got strategies in place rather than trying to think on the run.”

Although death and disability may seem like an obvious aspect to consider when planning for the future, it’s often - understandably - neglected by business owners.

“Management-succession planning requires contemplation of one’s own mortality which is unpleasant, leading to many business owners choosing to do very little formal planning when it actually comes to selecting and grooming successors,” says Deloitte tax partner, Craig Holland.

Executing an effective succession strategy can take, on average, between three and five years according to Pitcher Partners, and this means firms and sole practitioners need to start implementing a strategy from the outset, set goals for the business and decide who will take control in the future.

Grooming a successor

An effective succession plan depends largely on developing strong leadership from within the firm and attracting and retaining the right senior talent who are prepared to take the reins.

Law firms, like many other businesses, are increasingly made up of a number of different generations with different career aspirations and agendas, necessitating a different approach when it comes to filling senior leadership roles.

“It’s really [about] understanding the leadership styles required for each generation…leadership style has changed,” McLean says.

According to a 2010 global report from The Boston Consulting Group and the World Federation of People Management Associations (WFPMA), firms all over the world are struggling to plan their workforce needs for the future and fill leadership positions.

The report, Creating People Advantage 2010, showed that 56 per cent of corporate executives surveyed have a critical talent gap for senior managers’ successors. According to the report, while it is generally easier and more effective for home-grown talent to step into leadership roles, companies fill more than half of their executive positions from the outside. “Talent management needs are particularly critical at the leadership levels of the organisation,” says president of the WFPMA and co-author of the report, Ernesto Espinosa.

“Succession planning needs to be integrated with leadership development programs, and this practice has to be standardised. The challenge for HR is to bring the talent management practices of executives to the next level in order to support business growth.”

According to McLean, when trying to approach lawyers to join the senior ranks of the practice, owners need to be aware of what will attract newcomers. “[This] may mean the older practitioners need to be flexible and accommodating because the traditional way of which they came into practice and into partnership may not be as relevant as it was back then as compared to today,” he says. “It’s a whole different generation. Some people don’t necessarily get excited about [the prospect] of partnership.”

Pietsch points out that with the blend of employees from different generations comes a workforce of people at different ends of their business life and at different ends of their family life.

“What I see a lot of is the older partners who are generally the baby boomers, and generally men, and have generally had the family dealt with by a spouse who’s at home,” Pietsch says. “But when you look at the younger partners, they’re a different generation, obviously, and they want to be much more involved in their family so you have to actually weigh up that work/life balance. I think [there has been] a real change in behaviour over, say, the last 10 years.”

Despite this disparity between the career and family needs of each generation, Pietsch says there are ways around it when it comes to contemplating partnership structures and enticing successors into the business.

“A lot of it can be dealt with via remuneration and different remuneration models,” she says. “Not every partnership has to be the same.” Pietsch suggests either a ‘good-will practice’, where partners contribute a certain amount of working capital that entitles them to an equal share of the profits; or a ‘no-goodwill practice’, which allows people to come and go from the firm without a significant capital component. “What it may mean is that instead of being entitled to equal profits in the first year, they might not be entitled for a period of between five and 10 years, depending on the level of goodwill that is perceived in the practice,” she explains.

“It’s a no-goodwill practice but in essence, [they’re] paying for the goodwill because [they’re] not entitled to all the profits for a period of time.” According to Pietsch, a no-goodwill practice allows younger generations to join a practice where they would not have otherwise been able to - an effective model during and after the global financial crisis - and some partnerships, Pietsch says, have to accommodate both models to effectively attract lawyers into leadership roles. “[There are] old partnerships with goodwill but in order to get younger people through, they have to come up with something else.”

Choosing the right partnership structure and understanding the partnership agreements is one of the fundamental areas that law firms need to address, according to Pietsch. What’s important, she says, is looking at how easy it is to bring a newcomer into the practice from both a structural and financial point of view and addressing any obstacles that may arise. “Are [the partnership agreements] attractive or are they not going to be attractive to someone coming in? How easy is it for someone to come into the partnership?” Pietsch says. “So understanding the partnership agreement and reviewing that when someone’s coming in.”

Considerations of incorporation

With considerations of effective succession plans and business structures comes the question of whether incorporation, as an alternative to traditional partnership arrangements, is a worthwhile option for law firms hoping to attract senior lawyers and maintain the value of the business. The value of incorporating a legal practice has been tossed around within legal circles for many years. However, a lot of firms are yet to be convinced it’s the right path to follow.

According to the NSW Office of the Legal Services Commissioner, as of 2008 there were 800 incorporated legal practices in NSW (311 were sole practitioners) and this number is expected to rise year on year.

“I think there is a degree of interest, particularly for smaller firms, in incorporation [and] the benefits that that potentially may bring, of bringing new players into the practice,” McLean says. “It’s still a topic of conversation and practitioners are interested to know how it’s gone with those firms that have gone down that path.”

Historically law firms have shown a reluctance to embrace the incorporation model. However as more firms and sole practitioners seriously contemplate their future from a strategic point of view, the incorporation conversation will continue to resurface and challenge traditional ways of doing business.

Elements to consider

According to a Deloitte report, The art of business succession, for effective succession planning the following elements must be considered collectively:

1. Business strategic direction

2. Development and/or recruitment of management talent

3. Entity structure

4. Compensation planning

5. Disability planning

6. Valuation

7. Financing alternatives

According to Pitcher Partners’ Business Evolution Guide and Deloitte’s The Art of Business Succession report, every business owner should ask themselves the following questions:

1. Have I defined my personal goals and vision for the transfer of ownership and management?

2. Have I identified and put in place a successor?

3. How do I attract and retain top non-family executives?

4. Do I have a contingency plan should I become disabled?

5. How should control of the business be shared?

6. How do I smoothly hand over the business?

7. How do I leave behind a business that will prosper?

8. If I sell my business, what do I need to do to gain the best price and conditions?

9. How can I buy out other family members without over burdening the business without debt or losing control?

10. Have I had my business valued recently?