Full text of my opinion piece first published in the Australian Financial Review on 27 August 2020.
Earlier this week, the Australian Financial Review reported that HWL Ebsworth (HWLE) was preparing to list the firm on the ASX with a $1 Billion-plus valuation.
While details are scant at this stage, it is worth asking whether stockbrokers will recommend a BUY when the HWLE Limited prospectus is issued?
My prediction is they will give this IPO a thumbs down for five main reasons.
#1 Insufficient surplus
As a listed entity, HWLE partners will have to share a portion of the firm’s profits with external shareholders. For the sake of argument assume the current partners enjoy average earnings of $1.5 million per annum. In the future, partner earnings – salary plus bonus minus profit share – might reduce to say $1 million. The incumbent partners will most likely accept a reduced annual income given their significant capital gain upon listing.
This business case seems logical but misses one key point – there is a fiercely competitive market for top talent. Many of the best HWLE partners are proven rainmakers will still be able to command incomes around $1.5 million or more at other non-listed law firms or by setting up their own practice when their employment and escrow handcuffs come off.
At $1 million – the maximum the firm can pay and still maintain dividend payments – HWLE Limited will be way off the mark in attracting any new ‘$1.5 million’ partners.
Over the long term, there’s insufficient surplus to keep both partners and external shareholders happy.
#2 Clients don’t buy the firm
When Shine Justice Limited first listed on the ASX, they presented strong evidence that their personal injury clients chose them because they trusted the firm’s brand and were largely lawyer agnostic. When IPH listed, investors were enticed by a large proportion of annuity income from patent and TM renewals and an ambitious plan to scale.
When it comes to HWLE’s mostly business-to-business relationships, research shows that clients are much more discerning around who does their work.
HWLE external shareholders will not be buying a company with a strong brand with sticky institutional client relationships. They will be buying a collection of individual portable practices, each with their own reputation and client following.
#3 Vague growth story
External shareholders examining the IPO prospectus will be looking for a compelling growth story. They will want to see how a fresh capital injection will drive shareholder value.
Under Juan Martinez’s leadership, HWLE has a solid track record of acquiring legal practices without the need to splash much cash. Economies of scale work well in mining but less so in premium legal where even boutique firms can generate supernormal profits. Despite all the hype, there’s no legal technology yet available that will create a sustainable cost or client service advantage. Creating a multi-disciplinary practice or moving offshore is fraught with risk.
So, unless I’m missing something, the growth plan beyond more of the same seems less than convincing.
#4 Key person risk
From interviews with former staff, it appears that Juan Martinez has a robust directed leadership style. Overheads are kept to a minimum and all lawyers are encouraged to be on the tools all the time to compensate for below-market pricing.
This is the operating model that has been the bedrock of HWLE’s success to date.
Given Mr Martinez’s tenure and track record, the market will have many questions over the strength of HWLE’s bench. If the proverbial bus had to arrive who will keep the firm together and herd the cats? I’d imagine the firm’s value will be discounted heavily because of this key person risk.
#5 More losses than wins
Future investors in HWLE will have a good look at the investment category and proceed with caution. A 20-year analysis of law and accounting firm IPOs in Australia reveals far more losses than wins, especially for external investors. This includes firms like Stockfords, Harts and Slater & Gordon.
One of the reasons for these failures is the loss of the partnership culture that underpins their initial success. This culture comes from the incumbent partners’ sense of proprietorship, stewardship, collegiality and identity. Shifting from partner to employee is a big shock to many. Financial transparency, share price volatility and an added compliance burden all often have a negative cultural impact.
In conclusion
I have drawn strong conclusions about the potential float of HWLE without access to any specific details. I look forward to reviewing their IPO prospectus and seeing how wrong I am. But if I’m not, buyer beware!
business development, client loyalty, client relationships, professional service firms, strategy management
Time to ditch your ‘Batman’ clients
In Articles, Commentary on 12 December 2021 at 9:16 pmThe full text of my opinion piece first published in the Australian Financial Review on 12 December 2021.
“Hello Batman!”
That’s how a top three client of a particular firm insisted that his calls be answered on his dedicated phone line and handset. Unlike the mild-mannered caped crusader, his tone in the conversation that followed was usually aggressive and demeaning.
Little was done to address Batman’s behaviour for several years because he was a very important client. When a new managing partner was appointed, the firm finally plucked up the courage to stop doing his work.
While this is an extreme example, most law firms continue to serve clients who are “wrong” for them.
There has never been a better time to deal with the wrong clients in your firm.
The latest Australian Financial Review Law Partnership Survey points to a year ahead where demand will outstrip supply. The risks of not replacing any lost revenue are much lower than usual, and the opportunity costs of continuing to deal with these clients are much higher.
Wrong clients
There are four broad categories of wrong clients, or sometimes referred to as the four ‘uns’:
The task of classifying clients into one or more of the four categories can be a difficult exercise within a law firm partnership. There is often a lot of defensiveness and protection when it comes to labelling a client as ‘wrong’.
In some cases, the source of this resistance is emotional – the classification risks disrupting personal friendships and/or the legacy of long-term relationships.
In other cases, partners see a major risk to their personal practice. Any intervention to make a wrong client right risks a drop in earnings, progression or status if things don’t go to plan.
Taking action
Assuming one can get over the resistance, the next step is to decide on the preferred outcome of the relationship reset for each client. These outcomes usually range from terminal at the one end of a continuum to tweak at the other.
Tweaking outcomes may include negotiating new commercial terms or seeking a substantive shift in behaviour, or simply taking away Batphones.
In some instances, the firm may elect to take unilateral action like notifying a change in pricing levels or changing the service team or refining scope and terms. In the case of a terminal outcome, the firm may suggest alternative firms the client could consider with an offer to transfer old files and other records.
For more important strategic clients, a 360-degree relationship review might be a gentler way to address the issues. These reviews involve asking all the stakeholders to provide comments on the relationship as a whole, as well as their views on others’ performance and their own. Feedback can be sought on a range of factors like communication, value, trust and quality. This feedback is then shared between the parties and collective action agreed upon.
The power shift from buyers to sellers in 2022 offers a unique opportunity to reset some poor relationships.
Notwithstanding any financial or other strategic benefits, the impact on staff morale from dealing with fewer Batman clients will be significant.
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