Ann: FY19 Half Year Results Announcement Date, page-45

The SHJ price fell 75% in early 2016 when the company did a review of its modelling and recovery rates and changed the way it accounted for WIP (work in progress) in its accounts. The same happened to SGH when it undertook the same task.

My background is in law so I felt I understood the business model but I accept my knowledge of the accounting side of the business was inadequate when I bought. The manner in which WIP was accounted for by SHJ (and SGH) prior to January 2016 had the effect of making the balance sheet seem stronger than it was (when amended) and resulted in a substantial reduction in guidance and share price when it was amended.

By buying practices between 2013 and 2016, and so adding to the WIP, the company continued to appear profitable until the accounting methodology changed in January 2016 resulting in the the balance sheet / P + L becoming vastly weaker. That is, buying practices for the WIP kept the accounts looking buoyant.

A second issue is that if a law firm that is valued at $20 with $2 of earnings buys another firm for $2 with $1 of earnings, its $3 of earnings should increase the value of the law firm to $30, assuming the market still values the acquirer at 10-times earnings.The problem arises, however, if the acquired earnings are not sustained, increasing the need to do ever large acquisitions. That in turn pressures the balance sheet, forcing the company to raise more equity, and debt. Finally, every legal practice is unique so achieving synergies of scale is more difficult such that buying WIP doesn't equate to improved profitability. It's the reason why private legal practices most often grow organically rather than making regular purchases of smaller practices.

I am emboldened in my view insofar that once the manner in which WIP was accounted for in the accounts the purchase of smaller practices ground to a halt for nearly three years.

I am not sure that it affects the share value but I am also a little troubled by the concept of the listed law firm. The law firm has an obligation under the Corporations Act 2001 to act in shareholder's best interests but under the various legal profession acts its first duty is to the court. That is probably an academic/philosophical arguments but may show why most other common law jurisdictions haven't taken to listing law or accounting firms with the vigour Australia has.

I have had more success researching and buying miners (OMH) or tech (NEA and APT) so will steer clear of lawyers from here on.

For the avoidance of doubt (to use a legal phrase) I am not a down ramper. I am sure there are plenty of people here who have a lot more knowledge of the merits of SHJ. I am more from the "once bitten twice shy" school.