Most solos view their practice merely as a source of income. However, a law practice is much more; it is a business with an asset value that deserves to be protected and can be sold. Once this point of view is understood and accepted, the need to plan to protect their clients, business and family becomes apparent. But if a law practice is a business with an asset value, then how is it valued, how is that value protected and eventually accessed?
In the following, we will discuss law practice valuation. Please look forward to upcoming discussions on law practice value protection and access.
First off, it is important to have an experienced and credentialed business valuation expert involved in the buying and selling process.
Generally, there are two valuation methods that are used to value the practice. The first method is determining a value by making comparisons between practices with similar transactions. This is a difficult approach because of the lack of comparative data.
The other method is based on the income approach. Here, the future earnings are estimated against a multiplier derived from the inverse of the perceived risk rate. This is a common method used for a lump sum purchase of a practice. However, if the estimated future earnings or perceived risk are not accurately factored, either party is positioned to unjustifiably gain or lose in the transaction.
When it comes to law practices, the earn out may be most equitable payment structure to each party. In an earn out, the parties could agree to some up front lump payment. Then the remaining payments of the earn out is paid over time and is correlated to the amount of business done over a period of time after the sale. This correlated payment to the seller is usually a percentage of the revenues or profits from services rendered to a client or account obtained by the buyer. This period can extend for a few months, as in the case of practices that service clients on a one transaction basis, or the period may last years, as in the case of practices that have continuing relationships with their attorney. In either case, an earn out more accurately represents what is passed on to the buyer. However, if the buyer’s service of the clients in less than satisfactory, the seller’s clients will find another attorney, and the seller will lose out on the full asset potential. Therefore, it is important that a successor and buyer be chosen with care.
In order to deter current clients leaving after the sale of the practice, have clients sign an engagement letter addendum which introduces and authorizes the successor to act for the client on behalf of the selling attorney. This will make the client aware of successor and gives each an opportunity to become familiar. However, it is important to note that the buying attorney needs to check for conflicts of interest in representing the seller’s clients. If a conflict is found, then the buying attorney should arrange for the safeguarding of the clients information and arrange for its release to the client or their successive attorney. In New York, referral fees to attorneys not associated with the firm are not permitted, unless the client consents or the referring attorney remains liable for the matter. Therefore, in such an engagement letter, such a situation where the selling attorney is receiving a percentage of the fees from services rendered by the assisting attorney to the selling attorney’s former clients, it is necessary to get the client’s consent. However, client consent is not required if the attorneys are “associated”. In a recent ethics opinion (Opinion 954), the New York Bar Association Committee on Professional Ethics opined that in order for a lawyer who takes over a matter from another lawyer to be “associated”, there would be need to be a comprehensive merger of the practices. Therefore, a sale of a law practice would constitute a merger of the practice and the seller would be entitled to share fees from the rendering of legal services to his former clients by the buying attorney as in an earn-out arrangement.
Whatever the method or arrangement is, it is important to recognize that law practices are valuable assets, whose asset value should not only be protected, but also transferred for its proper value. The Bruechert Law Firm developed My Solo Plan to enable attorneys to plan for disability or death and have the asset value of their law practice accessed by them or their families. Please visit our website for more information, or contact us at info@MySoloPlan.com.