Selling Law on an Open Market
In late May, Slater & Gordon, an Australian personal injury firm with 21 offices across the continent, became the first publicly traded law firm in the world.
The firm’s modest initial public offering is not an earth-changing event, but since it is almost certainly not the last, lawyers worldwide are taking note. The practice of law is now an international business, and American firms are ever watchful of their international competition.
“Our tradition is so opposed to [nonlawyer ownership] that it’s hard to see,” says William Hodes, professor of law emeritus at Indiana University and a solo practitioner in Indianapolis. “All our rules are against it.”
The idea that U.S. law firms could someday tap the lucrative financial markets is appealing, but it faces one giant, unavoidable hurdle: Ethics rules make such a deal impossible.
Rule 5.4 of the ABA Model Rules of Professional Conduct, adopted or adapted by many state bar associations, specifically forbids lawyers from forming partnerships with nonlawyers or sharing an interest in a law firm with them.
However, other legal experts say law firms will likely be bringing in outside equity investors someday, maybe someday very soon.
“It’s hard to say anything is inevitable, but throughout the history of the law, the rules have changed when economic pressure is applied,” says Ronald Rotunda, a law professor at George Mason University.
He says the District of Columbia Bar “changed its rules so nonlawyers could be part of a firm and the world didn’t collapse.”
Another change promises to put more pressure on U.S. law firms. In the United Kingdom, the proposed Legal Services Bill would allow new business structures in legal services, including outside equity investors. That has reignited debate as to whether large U.S. firms, which are increasingly global companies, should be able to do the same.
LAW V. LUCRE?
The concern voiced by opponents is that outside investors could influence attorneys to put financial concerns above the needs of a client.
But proponents argue that financial services businesses only recently became publicly traded companies and, though there is evidence economic pressure can have a negative influence, these companies have maintained their professionalism.
“You couldn’t have more incentive to maximize profits than you do now,” says Bruce MacEwen, a former corporate and securities attorney in New York City and publisher of the Web log Adam Smith, Esq.
“If you were a publicly held law firm, the stupidest thing you could do would be to put other interests ahead of your clients, because without your clients, you’ve got nothing,” MacEwen says.
It is also possible that law firms could structure their IPOs to insulate themselves from some pressures of public ownership. In its securities filings, Slater & Gordon makes it clear its duty to shareholders is only the firm’s third priority—behind courts and clients.
The law firm also limited its staffers’ ability to cash out their stocks to prevent a mass exodus of suddenly wealthy attorneys. Many businesses also have separate classes of stock for inside and outside investors that limit voting rights and the pressure outside investors can bring to bear.
Even if America’s overseas competitors do put pressure on domestic firms with their newfound capital, it would be very hard to change the rules here.
The rule change has proven easier overseas because Australia and the United Kingdom don’t have 50 state bar associations like the United States. Even if one state bar were to change its rules, they would apply only to firms and lawyers working in that state.
The equity-firm issue was last up for discussion in 1983 when the ABA adopted its Model Rules. Early versions of the rules did not prohibit outside ownership, but Rule 5.4 was added to prevent nonlawyers from acquiring control of law firms.
TIME FOR SCRUTINY
Georgetown University’s center for the study of the Legal Profession is planning a symposium on the business of law and looking at the equity question.
“We need to look at issues like whether it would make that much difference if law firms had outside investors,” says Milton Regan, one of the Georgetown law professors who will run the symposium.
“The fact is, law firms are clearly driven by financial interests now,” Regan says. “Clearly they already have equity owners—a small group of partners at the top of the pyramid—and there is already intense demand to increase profits in the form of per-partner earnings,”
Once the U.K. changes its rules, which seems inevitable, U.S. firms will certainly feel the pressure.
“I used to think there was a natural limit to the size of a law firm because of conflicts of interest,” says Rotunda, “but now you’ve got 1,000 attorneys in offices around the world. You can’t pretend law firms here aren’t influenced by international trends anymore.”
MacEwen points to an article in the Australian Financial Review that extrapolates from Slater & Gordon’s successful debut to estimate
Australia’s top five law firms could each be worth $2 billion or more in market capitalization. The largest firms in Australia have been downplaying the idea of going public, but money—especially great gobs of it—has a way of changing things.
“I think if the rule [against equity law firms] ever had any validity, it’s been overtaken by events,” MacEwen says. “We have perfectly adequate rules against conflict of interest, fraud and malpractice.”
The practice of law does not demand large capital expenditures like manufacturing or other industries, making the need for equity smaller but the attractiveness of investment greater.
Law firms looking to grow can invest the capital in marketing, in acquisitions or in expanding their client base or practice areas.
Some law firms have taken on debt to finance expansion, but with equity investment, MacEwen thinks, firms will be able to experiment with new business models.
FOR THE PEOPLE
The impetus behind the rule changes in Australia and the U.K. is not to enrich law firms but to expand the public’s access to legal services.
With access to capital markets, law firms can take on more high-risk cases and more low-income clients. There is also hope that infusions of cash might bring more technology research and development into the practice of law as firms will be able to use technology to serve clients who can’t afford high billing rates.
It’s not clear what types of firms would benefit most from equity investments. Slater & Gordon is a personal injury practice, but some of Australia’s largest and more diversified firms are reportedly mulling a similar transaction despite their public denials.
“I know I wouldn’t invest in a law firm. I think it’s so dependent on the quality of partners that it would be a risky investment,” says Robert E. Wilson, managing partner with 450-lawyer Haynes and Boone in Dallas. “But I think it could be great for the profession, bringing a more entrepreneurial attitude.”
It’s an interesting proposition, but an entirely theoretical one right now. It’s also worth noting that the last time the ABA considered a related issue—the question of multidisciplinary practice—a compromise position was reached, but the organization has not embraced any change.
The U.S. legal community may be in a fortunate position as a follower and not a leader on this issue. Observers say it’s better to let Australia and the U.K. experiment before the U.S. considers any changes.
“I think the fact that there was a long debate over [multidisciplinary practice] and it ended as an effective draw, there doesn’t seem to be the stomach for changing these rules,” Hodes says.
“You have to remember, once you let go of a rule, there’s no turning back.”