The annual PwC law firm survey has showcased the developments for firms within the last year and noted the general trends across the industry in recent years. With a particular focus on four areas across financial performance, people, working capital, and strategy/transformation, here are the main things reported for 2023:
1. Financial Performance
Although the last few years were profitable for law firms, the industry has faced several challenges within the last year. Globally, firms have been impacted by geopolitical factors, including the Russia/Ukraine war; within the UK, firms have further faced a cost-of-living crisis and numerous increases in interest rates, with a UK peak in October 2022 of 11.1%. The shift these have caused in market conditions and deal activity has impacted the financial performance of law firms.
The survey suggests that although income growth was achieved across the sector, this is generally sitting below inflation. For example, across the Top 100 bandings, average UK fee income growth was between 8.0 but costs have increased for staff, property, marketing, and technology, limiting overall net profit margins. As a result, 44% of the Top 100 firms have reported a drop in profits, reportedly one of the biggest drops in recent years.
Regardless, firms remain optimistic for the next period of growth, with all Top 100 firms anticipating some increase in profit for the coming year. Overcoming the impact of cost inflation and pricing is likely the main challenge firms will face in accomplishing this.
Most law firms have continued to grow headcount across fee-earners and business services, with growth ranging from 2% to 4.6%. Firms report that they are placing particular emphasis on evaluating the size and shape of their workforce, aiming to hire skillsets which align with the industry’s shift towards digitalisation, as well as those which can fill skill gaps in areas such as change and leadership.
Considering one aspect of diversity and inclusion, the survey has noted an increasing trend in female representation at full equity partner level, rising in the range of 0.8% to 2.3% across the Top 100 firms.
With a general slowdown in recruitment, firms report that they will be adopting less aggressive hiring tactics to match reduced demand within certain practice areas. Where they continue to hire, they will focus on talent within practice areas that are growing to minimise the spare capacity arising from reduced hiring.
3. Working Capital/Financing
Assessing priorities for 2023, over 50% of the top firms report improving working capital performance is at the top of their list. Notably, it barely featured in past years but has been bolstered by high inflation and interest rates.
Following this, their next highest priorities – standardising and centralising performance, and increasing the use of data analytics – also support improving working capital performance. This is mainly because year-end lock-up levels have seen very little improvement; to overcome this, firms will need to sustain performance throughout the year rather than emphasising billing performance at the year-end.
The survey predicts firms will also be utilising extended funding and capital calls to improve working capital. Additionally, firms will be checking operating models for business support to build working capital across all service lines.
4. Strategy and Transformation
The survey allows us to conclude there are four key threats to law firms in the upcoming year. The first is macroeconomic volatility. Despite the pandemic in recent years, most firms reported they were still unprepared for the impact of Russia and Ukraine.
The second is cybersecurity, which has been a consistent trend throughout the shift towards digitalisation and AI. Firms report concerns about how to protect client data and information under GDPR when trialling new AI.
The third is cost inflation. Firms are unlikely to recuperate increased costs by simply increasing their chargeable hours or rates. Instead, potential solutions span improving client and account management, hiring rainmakers, and building up focused practice groups.
The fourth is a shortage of talent. To deal with this, 73% of the firms report they will be implementing commercial training. They also add that they will be making long-term investment decisions for recruitment and staff retention; in particular, they note the market seems to be shifting towards the contentious space.
In discussing transformation, up to 79% of firms report they recognise the positive impacts that AI can have on the legal sector. However, the level of implementation ranges across firms, with firms citing tech costs, GDPR concerns, and failed trials as some of the reasons why they are reluctant. In particular, we can note that for smaller firms focusing on growth (and even for larger firms focusing on increasing working capital), the pricing of AI can be quite unsustainable. However, as the industry shifts towards an overall transformation, we may see tech offerings become more widely available and cost-friendly, so the survey reports this is a space to watch.