Valuation of Law Firm Goodwill in Small Law Firms

When selling  small law firms or a share of the equity in it, the question arises as to what is the goodwill of the practice worth?

Talking with Ian Hyman the CEO of Hymans Valuers and Auctioneers, he indicates that he would normally use the future maintainable earnings of the law firm to determine a valuation of goodwill.

Basically the method is this:

Future Maintainable Earnings of the Law Firm             X

Less: Owners Salary for Working in the Firm               Y

Return on Investment                                                   Z

Valuation of Law Firm Goodwill = Return on Investment X Valuation Multiple

For a more complete explanation of this method of valuing a business, please refer to my Small Business Blog How Are Businesses Valued

The critical issues arising from this method of valuing a law firm would be:

1)    What are the future maintainable earnings of the firm?

2)    What is an appropriate salary for a principal?

3)    What is an appropriate valuation multiple?

Of these issues, the most contentious is likely to be the valuation multiple.

Ian Hyman suggests that a multiple of between one and three times, is generally the norm in these types of valuations. In other words, the valuation of law firm goodwill will be between one and three times the return on investment.

So what sorts of things affect this valuation multiple?

Some factors were dealt with in the last blog “What Buyers of Small Legal Practices Are Looking For”, but additional points that Ian raised were:

1)    Dependence of the firm income on the current owner (If you are a sole practitioner, then the Law Society of NSW has published a guide called “Selling or closing a sole practice”

2)    How quickly the current owner wants to phase out ( sole practitioners should look at the Law Society guide for this point also)

3)    Client concentration ( is the firm is highly dependent on a small group of clients )

4)    If there are contracts for such work as bank collections, how likely these are to be renewed

5)    Length of service of staff ( long standing staff are more likely to stay)

6)    Regular billing practices

ACTION STEPS

If you are thinking of getting a valuation of your law firm, you can contact Hymans Valuers on (02) 82704400

(Please note that Ritchie Business Solutions has no commercial arrangement with Hymans Valuers, but have simply drawn on their expertise in the valuation of law firms)

More Reading

Are You a Law Firm Buyer?

– You may be interested in these articles

What Buyers Are Looking For When Buying a Law Firm

The Greatest Professional Business Opportunity- Buying a Small Law Firm

My client is buying a small law firm in Sydney for $1, but both buyer and seller are happy!

Are you a Law Firm Seller?

– You may be interested in these articles

Selling a Small Legal Practice? – The most important issue that buyers are concerned about

Building Value in a Small Law Firm

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Disclaimer
This report contains general information, it is not advice tailored for your specific circumstances. Before you act on anything contained in the following information, you should consult your financial adviser.