Third party ownership of law firms in England and Wales

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Introduction

The Legal Services Act 2007 (LSA 2007) allows lawyers and non-lawyers to share the management and control of a business which provides reserved legal services via a structure called an Alternative Business Structure (ABS). This was to enable the expansion of the legal sector, to “liberalise” it, as Sir David Clementi explained in 2004, when setting out his vision for the regulatory framework for legal services. It was anticipated that the ABS structure would encourage increased competition and a greater flexibility in how legal services would be delivered, which would ultimately benefit businesses and consumers as they would have greater access to more services at more affordable prices.

Background

There are a number of core requirements for a firm to be eligible for ABS status. Firstly, as stated above, the firm must provide one or more reserved legal activities. These are defined in section 12 of the Legal Services Act 2007.
Secondly, the law firm cannot be solely owned by non-lawyers and must have at least one manager who is authorised (i.e. given permission by the legal regulator, in this case the Solicitors Regulation Authority (SRA)) to provide the reserved legal activity delivered by the ABS. Further, it must have at least one non-lawyer manager or owner. The word “manager” in this context refers to a partner in a partnership, a director in a company or a member in an LLP.

Thirdly, the non-lawyers must pass a fit and proper test, undertaken by the regulator and the ABS must have a robust compliance system in place, with a designated and experienced COLP (Compliance Officer for Legal Practice) and COFA (Compliance Officer for Financial Accounting) in place.

ABS Models and Structures

When contemplating the arrival of the ABS, the regulator anticipated that there would be roughly 10 different models which may enter the market.

  • Model 1 – traditional law firm, with the involvement of one or more individual non-lawyer managers, without external ownership and providing solicitor-type services only. This model would be used where firms want to secure a valuable employee, i.e. a finance manager or HR head, by offering them a stake in the firm and a senior position.
  • Model 2 – traditional law firm, with external investment by angel investors and/or private equity.
  • Model 3 – a complete or partial external ownership with the legal services being operated through a ring-fenced entity, where the owner does not have an interest in the legal services being provided by the ABS as it does not impact the rest of the group. The advantage of this model is that the ABS could benefit from the brand of the owner i.e. Nike Law.
  • Model 4 – the same as Model 3, but the owner does have an interest in the legal services being provided for cross-selling purposes i.e. cross selling insurance products, litigation funding and other financial services to clients of the ABS as a component part of the legal services supplied to clients. The external owner may be regulated by a regulator from a different sector (i.e. the FCA for banks or other insurance providers).
  • Model 5 – a multi-disciplinary practice model, which involves a combination of different services within one entity, sometimes known as a “one-stop shop” comprising “managers” from legal and other professions providing legal and other services to clients. No external ownership. The ABS is a joint practice of lawyers and non-lawyers who would share the fees i.e. a niche property practice with surveyors, architects, town planners or builders. The SRA would regulate only the legal services; other professionals would be regulated by their own regulators.
  • Model 6 – Co-op model (external ownership, legal and non-legal services) using a corporate brand, for example, one firm provides funeral services, will-writing and probate services or the ABS could provide a mixture of social welfare advice, administration and legal services.
  • Model 7 – floated company; the ABS firm might be floated on the stock market, subject to corporate governance rules.
  • Model 8 – hub and spoke – non-licensed hub, an administration company for ‘back office” services, but could include some intellectual services. The hub would receive a service charge from the regulated spokes which provide the legal services and could be a national franchise or network arrangements.
  • Model 9 – In-house teams expanding into the local market.
  • Model 10 – not for profit organisations providing legal services (e.g. charities, Citizens Advice Bureaus)

ABS models began to enter the legal market from 2012, with the introduction of firms like Co-Op Legal Services, which used its new licence to diversify into family law to complement its existing services in non-reserved activities. John Welch & Stammers, a traditional law firm appointed its non-lawyer practice manager as managing partner and the Parabis Group, which was the first law firm to be bought by a private equity business (Duke Street Capital). The Parabis Group ABS consisted of a defendant law firm, Plexus Law and Greenwoods, claimant firm, Cogent Law and a range of non-legal insurance services from loss adjusting and rehabilitation to risk management.

For the first few years, many ABS licences were granted more to firms like John Welch & Stammers who wanted to appoint non-lawyer managers, as the rationale had been around ownership and risk, rather than building new business models. However, SRA statistics show that the number of ABS licences continues to increase, particularly around private investment and now account for around 1 in 10 firms and that ABSs are incorporated companies, followed by sole practitioners (with non-lawyer management), LLPs and partnerships.

One of the biggest effects of the change in the market has been the rise of the multi-disciplinary practice, for example, the Big Four have built an integrated global model combining law, consulting, accountancy and outsourcing; Elevate became the first legal services provider to acquire ABS licences in the UK and the US to offer lawyer-led, tech-­enabled services to its customers and Rocket Lawyer and Legal Zoom have continued to see an expansion.

Further, there has also been more interest in firms becoming publicly listed; Gateley became the first law firm to be listed on the London Stock Exchange, followed by The Ince Group, Keystone Law, Rosenblatt Group Plc, Knights and DWF Group. Mishcon de Reya considered it, but decided that the timing was not right for them.

Whilst access to ABS models has not caused a revolution, it has brought a diverse range of models to the market and greater competition, keeping the market focused on providing good professional services, with competitive pricing structures and ease of access to advice. Importantly, it has also encouraged traditional law firms to expand their offerings by investing in people in legal technology and, as such, firms have not seen their profits impacted adversely by the new structures.

Although the liberalisation of the market has been positive overall, there are some disadvantages to the model, as detailed below, and, as with any model, there have been some casualties along the way:

The AA – acquired its licence in December 2013 to handle personal injury and car-related litigation on behalf of its members and customers. Ceased to trade in 2015 as “the level of customers did not justify the maintenance of a standalone business”.”
The Parabis Group, due to a downturn in the personal injury market, ended up being broken up and sold.
Stobart Barristers – the haulier was granted ABS status in 2013 and positioned itself as an alternative to the traditional chambers set-up, offering access to barristers directly on a pay-as-you go basis. One year on, Stobart Barristers exited the legal market.

Disadvantages to the model

  • Private investment in law firms – those investing generally want a return on their investment, within a defined period, which may involve the sale of the firm to a third party. This focus may not be aligned with the focus of others within the firm and it may also mean that there is not the same quality focus on the professional delivery of client services, potentially leading to regulatory issues.
  • Non-lawyers may not understand how a law firm is run and this may have an adverse impact on the culture of a firm.
    An ABS is deemed to be riskier than a traditional law firm and is therefore required to have at least £3 million of professional indemnity insurance in place.
  • Not all jurisdictions recognise ABSs, which can be problematic for international firms.
  • Although the regulator for law firms, the Solicitors Regulation Authority (SRA) will only regulate the law firm and its owners and employees, if the rest of the business (the non-law firm arm) does something which affects the reputation of the law firm, or the terms of its licence, the SRA may review the terms on which it was granted or even revoke the licence.
    Increased likelihood of financial collapse for the ABS model if there is a failure of an external owner’s other business interests.
  • The SRA can only fine traditional law firms and their staff up to £2,000 (albeit, they are lobbying for this to be raised to £25,000). After this, it must refer them to a disciplinary tribunal. However, under the LSA 2007, ABSs are liable to be charged up to £250m, and individuals within them up to £50m.The SRA flexed this power when, in January, Mishcon de Reya was fined £232,500 for breaches relating to money laundering rules.
  • More strenuous licensing requirements, including that all external owners pass a “fit and proper” test.
  • Greater regulatory control is required, due to potential commercial breaches. Examples of this are:
    • Auditors, who are often under a duty to disclose information, whilst lawyers are, on the whole, required to keep information of clients confidential.
    • In a multidisciplinary practice or business with an ABS arm, the non-law firm section may want to utilise the client data and information for marketing purposes and may not understand the restrictions in place.
    • An ABS with an insurance arm would probably be unable to offer legal services to a client whose claim was against an organisation or individual insured by that ABS. This is because it would be in the interest of part of the ABS (the insurance arm) for the client to lose the case and this creates a conflict.

clarbey@trowers.com

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