Mini Series: The Business of Law Firms - Making Sense of Equity on the Balance Sheet​

By Jake Rickman​

What do you need to know this week?

This is the eighth article in TCLA’s series on the Business of Law Firms.

Last week, we looked at how a balance sheet can be used to measure a firm’s liquidity and what the importance of liquidity is for law firms and all businesses more generally.

So far, we have considered assets and liabilities but not touched upon the importance of the third essential element to a balance sheet: equity. This week, we will look at what exactly equity on an LLP (limited liability partnership) balance sheet means and how it differs for companies.

Yet again is a restatement of Clifford Chance’s balance sheet, found at page 12 in its annual accounts ended 30 April 2021.

8th balance sheet.png


Defining Equity

For sole traders and partnerships (including LLPs), equity essentially refers to the value of the business owners’ interest in the company after all liabilities are accounted for. In other words, the value of the equity should be equal to the value of all the business’ assets (£1,797m) less its liabilities (£1,058m).

You might notice this produces the same value as the net asset value of the business (£141m). But does equity and the business’ net asset value refer to the same thing? The answer is, “Kinda.”

While the numbers are the same, the legal and accounting concepts behind what they represent are different. A business’s net asset value is a standalone measure of the business’s underlying value without regard to the fact that the business is owned by others.

But what about the fact that ownership in the business implies a legal interest in the company? The law treats this interest as a special kind of liability, one owed to the owners by the business (rather than anyone else). For companies, the owners are shareholders. For LLPs, it is the equity partners.

For all businesses (not just law firms), equity is a proxy measure for the aggregate value of this ownership interest.

Practical Importance of Equity

Companies and LLPs must file accounts with Companies House largely because the law takes the view that if a company’s owners stand to benefit from the principle of limited liability — that they are not personally liable for the company’s debts — then those who transact with the business ought to have a reasonable sense of how well the business is doing.

On the balance sheet, equity represents the pool of assets available at the end of the accounting period to any current and future creditors, which they would be entitled to before the owners.

The law requires companies to break the equity figure down into different accounts like share capital, share premium, and profit/loss accounts. LLPs break this figure down differently because the law treats LLPs and companies differently.

Importantly, for LLPs, the equity figure does not reflect all the money the partners are eligible to pay themselves. Unlike companies, which cannot as easily distribute money to their owners, equity partners are entitled to regular payments similar to salaries (drawings), interest payments, and other payments which are treated as liabilities on the balance sheet (“Members capital – current and non-current” on the balance sheet).

Why is this important for your interviews?

Admittedly, it is unlikely you will be asked by an interviewer to explain in detail how equity operates differently for a company versus an LLP. However, by appreciating the fundamental accounting and legal principles behind the equity figure, you gain a better sense of how value in a business is measured and what it reflects about the value of the owners’ interests in the business.

From the perspective of law firms, understanding how equity operates gives you a wider insight into the legal differences between LLPs and limited companies and why, for instance, the LLP’s owners can more easily distribute capital than a company’s owners.

How is this topic relevant to law firms?

Slaughter and May is one of the few elite firms that still operates as a general partnership, which means its equity partners have unlimited liability for the firm’s debts. But consequently, it does not have to disclose any of its financial information to Companies House.