UK Law Firm Pricing Briefing - January 2025

Background

The UK Office for National Statistics (ONS) produces a quarterly Services Producer Price Index (SPPI).

This contains useful data on pricing of legal services and broader inflation impacting businesses.

This briefing is based upon the January 2025 release and is of relevance to law firm partners and management involved in the pricing of legal services to understand the general pricing trends for UK B2B law firms.

Key Messages from last time - October's Briefing

In October's data, we saw a cooling in the quarter on previous year's quarter Legal Services inflation, heading down from the 8% noted in July to 5.5% in October.

The more volatile, or lumpy path for Legal Services contrasted with a smoother path for Aggregate Services trending in a 3.3 - 3.7% range over the previous four quarters.

The previous briefing is available here.

What's Changed in January?

It's always tricky predicting things, particularly about the future, but clearly my crystal ball was serving me well back in October.

January's Aggregate Services quarter on previous year's quarter inflation has cooled to 2.9%, compared to the 'around 3%' I'd suggested.

Whilst largely symbolic rather than substantive, this is the first reading below 3% since Q2 2021 and does seem to indicate a more benign inflationary environment for law firm's input costs (with the notable exception of fee earner salaries).

Legal Services inflation has pipped in at 4.6%, at the bottom end of the (admittedly wide) 4.5 - 6% range I'd suggested back in October.

As chart 1, illustrates below, we can now see a notable cooling in the rate of Legal Services inflation - significantly down on the 10.3% peak in Q3, 2023, and 7.8% in Q2, 2024.

Chart 1: Legal Services Inflation rate is cooling faster than Aggregate Services

Short Term Pricing Outlook

For both Legal Services and Aggregate Services, I'm inclined to believe that the future inflation will run below the medium term trendline (dotted, in chart 1)

The Legal Services index remains volatile and lumpy, but I'll come off the fence (in contrast to previous quarters) and say a downwards trend is establishing and I'd anticipate a reading of around 4% in the next data release in April.

Similarly, I anticipate Aggregate Services to register at the lower end of the 3% to 3.7% range we've seen over the past year or so.

Taken together, we're seeing a narrowing of the gap between the inflation law firms are incurring on the input side (Aggregate Services) and what they have been able to pass onto clients on the output side.

Longer Term Pricing Outlook

Stepping back from the quarter on quarter movements, to take a look at the provisional annual numbers for 2024 across a longer timeframe.

In chart 2, we can see a notable cooling on annual Legal Services inflation at 6.1% heading towards the post-covid average of 5.6%.

Based on the downwards trend that appears establishing in the quarterly data above, I would anticipate the 2025 reading to be notably below that 5.6% post-covid trend.

Chart 2: Post-covid Legal Services inflation looks to have peaked

The main unknown to play out through 2025, is the impact of increased National Insurance Contributions and minimum wage - we could feasibly see increases in both Legal and Aggregate Services inflation as those input costs wash through and businesses adjust.

Other Relevant Commentary

With UK firms currently weighing up budgets and standard rate increases for the new financial year starting in April, I'd draw attention to two pieces of recent commentary over the past three months.

The first is in PwC's 2024 Law Firm Survey, published in October.

Page 11 shows a clear difference in Top 10 firms achieving a 40% increase in rate per chargeable hour from 2019 to 2024, compared to smaller firms achieving a 14 - 24% increase over the same period.

There will certainly be fee earner and work type mix having an impact here, but it's probably fair to say that Big Law has been more effective in raising rates than smaller firms; be that owing to brand power, or for having invested in Commercial Finance and Pricing specialists.

Whilst the datasets are not directly comparable, it is reasonable to assume that the Legal Services inflation we see in the ONS data is predominantly being captured by larger, rather than smaller firms, based on the PwC survey.

The second is in the more recent BigHand Annual Law Firm Finance Report, published in January.

The key finding I would draw out here is the 72% of firms experiencing increased write offs in 2024 compared to 2023, and the 75% expecting these to increase further in 2025.

This is entirely consistent with the pattern we can see in the ONS data - of inflation in realised prices softening - and it suggests that firms are finding it increasingly difficult to pass on rate increases to clients.

Next Steps

It's important not to get ahead of ourselves - Legal Services inflation continues to run hotter than Aggregate Services, and I suspect firms will be able to achieve real terms increase in 2025 profitability by playing into this trend.

However the delta, or gap between the two indices is closing, suggesting that this will be a more difficult strategy to pull off than in recent years.

Smaller firms, who have not realised rate increases to date, have perhaps missed the boat in capturing increased value from blanket, across the board rate rises.

Opportunity best lies in active management of the client base, be that offboarding low margin clients and work, or in actively looking to muscle in on the clients of bigger firms, who are perhaps a little fed up with the year on year increases in fees that Big Law has achieved.

For bigger firms, there will be similar opportunities, for the Magic Circle to poach US firm clients, for Silver Circle to poach from the Magic Circle and so on.

I would encourage firms of all shapes and sizes to pay particular attention to the fixed fee schedules that have perhaps not been updated in recent years, for all the attention given to hourly rate work.

With firms working through budget cycles for the typical April financial year, careful consideration needs to be given to rate increase assumptions; particularly in the context of fee earner salary inflation which I expect will remain hot, and the added complication of the 1.2 percentage point increase in employers' national insurance contributions and increase in minimum wage coming into effect from April.

Compared to recent years, there is likely less upside risk on 2025 pricing to help absorb those wage pressures, and realisation rates will need more closely monitoring to enable adverse trends against 2025/26 budgets to be identified and addressed.

Methodology

Legal Services Price inflation data is taken from Table 3(g) of the latest?Services Producer Price Index (SPPI) for Legal Services.?The Aggregate Services data is taken from Table 1.

The underlying methodology is described in the?ONS User Guidance and Methodology.

In summary, it’s comprised of ~500 prices drawn from a stratified random sample from the?Inter-Departmental Business Register.? This represents law firm submissions of realised rates on actual hours worked, weighted for the seniority of fee earner delivering the service.

The majority (>60%) of legal services in the dataset are classified as Business and Commercial.

This dataset is relevant to B2B legal services providers, but less so for (a) B2C providers and (b) providers to small businesses below VAT and PAYE registration thresholds, as these groups are not represented in the dataset.