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Best Practice Tips: Law Firm Valuation - Factors that Effect Firm Value

Asked and Answered 

By John W. Olmstead, MBA, Ph.D, CMC

Q. I am the owner of a small estate planning firm in Kansas City, Mo. I have two associates and four staff members. I am considering acquiring a small solo practice in a nearby community. I have read some of your articles as well as your book on succession planning and valuation, and the multiple of gross revenue used to establish a goodwill value for a law firm. What are some of the factors that can impact whether the multiple is higher or lower – a firm’s potential value?

A. While multiples of gross revenue is a common approach, a key ingredient should be the profitability picture before distribution to owners. In other words, what is the quality of earnings? A firm that nets 50 percent of gross revenue would generally command a higher price that a firm that nets 25 percent. Factors that should be considered in determining a firm’s potential value are:

  • Quality of partner earnings
  • Quality of personnel
  • Strategic location
  • Nature of clientele
  • Practice areas
  • Fee structure
  • Hours managed by partner
  • Investment in office facilities
  • Investment in technology
  • Quality of services per client satisfaction reviews
  • Firm stability

The average partner or owner earnings figure is the critical component. If the average partner/owner’s income is low, normally the practice is not worth much. A good business person will not pay for a business and pay a premium when it cannot be justified.

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John W. Olmstead, MBA, Ph.D, CMC, (www.olmsteadassoc.com) is a past chair and member of the ISBA Standing Committee on Law Office Management and Economics and author of The Lawyers Guide to Succession Planning published by the ABA. For more information on law office management please direct questions to the ISBA listserver, which John and other committee members review, or view archived copies of The Bottom Line Newsletters. Contact John at jolmstead@olmsteadassoc.com.
 

Posted on September 5, 2018 by Rhys Saunders
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