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An examination of the Clementi Report on the legal profession_ and

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An examination of the Clementi Report on the legal profession_ and Powered By Docstoc
					EVIDENCE FOR SUBMISSION TO THE JOINT COMMITTEE
       ON THE DRAFT LEGAL SERVICES BILL
                        BY
               GUY MANSFIELD QC




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                London EC4Y 7HH
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           Email: guy.mansfield@1cor.com
   EVIDENCE FOR SUBMISSION TO THE JOINT COMMITTEE ON THE
                              DRAFT LEGAL SERVICES BILL
                                                   BY
                                    GUY MANSFIELD QC




Introduction


I was Chairman of the General Council of the Bar until the end of December last year
(2005). In that capacity and as Vice-Chairman in 2004, I was intimately involved in
the unfolding Clementi process. I have remained interested because I believe it to be
a matter of great importance to the legal system of this country and wider society. I
write in a purely private capacity as I no longer have any role in the Bar Council.


I hope that the observations that follow may assist the Committee in its deliberations
on this topic.


There are many aspects of the Bill on which I do not comment. My silence thereon
should not be taken to be acceptance! I see no purpose in re-iterating points that
others have already made. Instead I have chosen to focus on aspects of how the
landscape might be affected.


My particular concern is that the DCA, having commissioned last summer (2005)
substantial papers from economists and competition theorists, chose:


    1        effectively to make no reference to them in the White Paper, produced last
             autumn;
    2        in the Regulatory Impact Assessment accompanying the Draft Bill to make
             little reference to the papers, and then only in the most selective terms;
    3        thereby, to ignore the very real notes of caution sounded, first about Multi
             Disciplinary Practices, secondly about the risks which will need to be
             addressed in relation to the structures of new types of firm, and, thirdly,
             the types of regulatory framework which will be needed.

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   1
All the theoreticians’ papers broadly favoured the Clementi approach. However they
identified real dangers for regulators and consumers of legal services. They make
plain issues which must be addressed if the broad thrust of the reforms is to be
effected.


Very few people have bothered to read the papers to which I refer. Yet they are
essential to a real understanding of the changes about to be unleashed. My paper
refers to them all. My references are necessarily selective, but I believe fair.


Can I urge, without I hope being impertinent, that they are obtained from the DCA
and digested!


It is essential to bear in mind that Sir David Clementi did not have the advantage of
this later material. Its understanding is critical to an assessment of how the market
may behave and hence what sort of regulatory framework is necessary.


I should stress that I accept that major reforms will happen. There is potential for
benefit. They also carry real risks. My concern is that the reforms should do good.


The DCA’s track record in the related field of the Access to Justice Act in respect of
the availability and operation of CFAs, “After the Event Insurance” and “Claims
Farmers”, was insouciant in 1999. It is vital now that such Panglossian optimism
does not create serious risks in the future. There is a lot at stake.


Background


Sir David Clementi produced his well-known report in December 2004. This paper
discusses the government’s approach to implementation and possible consequences. It
is a simple attempt first to summarise what the government has said it intends to do
and has put into its draft Bill, and then to assess how this may impact on the
profession, those who use it and the wider public. This is inevitably something of a
bird’s eye view. Necessarily there will be much which I cannot address in the space
available.

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   2
It is helpful to begin with the key recommendations of the Clementi report and the
position taken in the draft Bill1.


We start from the position that the English legal profession is substantial. According
to the RIA2, “the legal services market makes an important contribution to the UK
economy.” It is extremely valuable, and has grown considerably in recent years (60
percent growth between 1995 and 2003). Export values totalled £1.9 billion in 2003.
There are about 97,000 solicitors, of whom 75,000 are in private practice. There are
about 14,500 barristers of whom about 11,500 are in private practice. The profession
is held in high regard throughout the world. I believe it is important to foster
development and not to take undue risks with this valuable activity.




The Clementi recommendations


Sir David Clementi’s main recommendations were:
       The creation of a Legal Services Board (“LSB”) to provide consistent
          oversight of frontline professional bodies;
       The setting of statutory objectives for the LSB;
       Vesting regulatory powers in the LSB with powers to devolve regulatory
          functions to frontline bodies, subject to satisfactory competence and
          governance arrangements. These were to be Front line Regulators, referred to
          in the Bill as “Approved Regulators” (“ARs”).
       FLRs to be required to separate their regulatory and representative functions;
       The establishment of a new Office for Legal Complaints (“OLC”) as a single
          independent body to handle all consumer complaints;
       The facilitation of new legal disciplinary practices (“LDPs”). Such practices
          would permit lawyers from different frontline bodies to practice together and
          would permit non-lawyers to work as partners or to become owners of legal
          practices.


1
    Cm 6839, May 2006
2
    Paragraphs 1.1 -1.7

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   3
The Draft Bill


The Draft Bill sets out the scheme for implementing these reforms. We had the White
Paper and now have the RIA which explain the DCA’s underlying thinking. It will
nonetheless be helpful to refer in due course to the papers from economists which the
DCA commissioned in 2005 prior to publishing the White Paper. These provide
important clues to the reality of what may lie ahead. Examination of those papers, I
suggest, indicates that the DCA has glossed over issues of real importance which the
proposals will bring in their train.


I shall focus on what I consider some of the more interesting aspects of the
Government’s thinking and their possible implications.




Overview


The government proposes to introduce Alternative Business Structures (“ABS”).
These are intended to stimulate competition and innovation3. The DCA believes they
will reduce costs so that efficiencies can be passed to consumers, not least through
one stop shops offering legal and non-legal services under one roof. These, it says,
will provide greater convenience for the consumer.


It is important to note that the proposals in respect of ABS and in particular to
encompass MDPs go beyond the recommendations of Clementi. Sir David was of the
view that MDPs should come later; we should not try to run before we walk.




3
    RIA, paragraph 4.37

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   4
Next, the Department hopes that tapping into external investment allowing different
types of lawyers as well as lawyers and non-lawyers to work together on an equal
footing will improve the infrastructures of firms and generate fresh ideas to the benefit
of the consumer. Robust safeguards will, it asserts, simultaneously ensure that
standards of legal practitioners remain high and consumers are protected.


An attempt to define these safeguards is made in the Draft Bill4. Although at first
blush these may appear substantial much is left unsaid. Until the LSB comes into
existence therefore we do not know how it is proposed to address important matters.


The White Paper proposes major changes to the business entities from which lawyers
will practice. The proposals for external owners and mixed ownership and
management are far reaching and uncertain in effect as all the economists’ papers
make plain. The regulatory framework is critical. How effective will it be?




Risk based regulation – what does it mean?


The regulation, according to the White Paper5, is supposed to be proportionate and
based on an assessment of risk.


Yet in 80 pages of primary text, the approach to the regulation of practices and what is
encompassed by the so called risk based was addressed by the White Paper in one and
half pages6. In the RIA there is little serious reference to risk based assessment or to
Hampton. The key reference is to a need for the LSB to act proportionately,
exercising its powers consistent with the need to ensure consistent regulation7. Nor
does the Draft Bill set out in formal terms any such requirement for cost benefit or
similar analysis to underlie activity. This must be a matter of concern.




4
  Clauses 59 - 90
5
  White Paper, paragraph 4.3
6
  White Paper at paragraphs 4.2 and 4.3
7
  RIA, paragraph 4.46

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   5
In the Draft Bill, the Department imposes five principles to which the LSB must have
regard. These are lifted from the Better Regulation Executive (“BRE”) as being best
practice, the requirement that regulation should be:
       Transparent
       Proportionate
       Consistent
       Accountable
       Targeted only at cases in which action is needed


Finally, the Department referred in the White Paper to four approaches to “risk based”
regulation. It has taken these from one of the papers it commissioned8:
       Setting standards which are applied to a whole set of regulated firms on the
         basis of assessments of the risks posed to society by the activities of firms of
         that type;
       Setting standards tailored to fit the particular risks to which the conduct of
         particular firms give rise;
       Introducing internal risk management systems within the regulatory agency;
       Allocating resources, mainly inspection and enforcement resources, based on
         an assessment of the risk that a regulated person or entity poses to the
         regulator’s objectives.


The four approaches to which the Department has referred are not different aspects of
the same thing but different types of risk based approach. Indeed, as the economists
make plain, the crucial thing for the efficacy of regulation and for ensuring
appropriate targeting and regulatory activity with reasonable and proportionate costs,
is to choose the particular approach to risk based activity to be adopted. That is at the
heart of what sort of regulator the LSB will be and how it will approach its task and
conduct itself towards the ARs and practitioners regulated in different activities.


The Department gave no hint in the White Paper how the balance is to be struck. The
Draft Bill is silent. The cost of regulation inevitably impacts on the activity regulated.



8
    Black and Cave

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   6
Smaller enterprises are disproportionately affected as Sir Paul Hampton noted9. With
so many small firms in the legal market this will affect the way the reforms take
effect.


The DCA’s approach to regulation


So when we try to ascertain the true nature of the new regulatory beast, its practical
operation and impact, we are only a little wiser. We have reason to be anxious.
Clementi argued for a light touch. The draft Statute creating the LSB fails to set out
express priorities in the balancing exercise nor does it require the LSB in its turn to
meet strict performance obligations subject to financial limits. Instead, it provides a
progressive series of interventions and sanctions. Indeed, the LSB will require annual
practising certificates to have its prior approval. That is direct interference with the
AR’s budgets and will lead to tinkering at best, second guessing and dictation at
worst.


The Department has failed to meet this critical issue, how to effect true risk based
regulation. This is unfortunate both for the consumers of legal services and the
profession.


As presently drafted there is a substantial risk that the LSB will be heavy-handed and
seek to micro-manage the ARs.


The Bill sets the bar for intervention by the LSB too low. As it stands, the LSB will
be duplicating the activities of the ARs.


In short, there should be a requirement that in considering whether it is appropriate to
take directory action, the LSB must take account of the risk to the public, the cost to
the AR and to those it regulates. The LSB should only intervene in the regulatory
activity of the ARs if the decision-making process has been procedurally unsound or
its decisions or policy are plainly unreasonable in the context of the statutory
objectives.


9
    The Hampton Review, final report (2005), Executive Summary paragraph 3

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   7
Alternative Business Structures


The next important aspect which I address is that of the new ABS10. I have already
noted that the Department goes beyond Clementi by proposing the simultaneous
introduction of MDPs, so-called “one-stop shops”.


Under the new regime it will be possible for different lawyers and providers of
associated non-legal services to obtain a licence to establish ABS firms that combine
multiple disciplines, with external financing, subject to the approval of a professional
body that has been authorised by the LSB to regulate that form of ABS. If one of the
activities the ABS regulator is seeking to license involves an area outside the legal
profession, e.g. financial services, the LSB would also have to co-operate with the
regulators of other regulated services, e.g., the FSA, before giving its authorisation.
Such firms could be entirely externally financed from the outset


Important matters are:
       What types of firm will arise, in particular:
               Will there be a new breed of chain shops externally owned and perhaps
                  selling just one or a limited range of legal service?
               Will we see formerly independent barristers grouping in partnerships
                  with or without solicitors offering litigation services?
               Will we see one-stop shops offering legal and other services such as
                  insurance or estate agency?
       What safeguards the LSB will impose on non-lawyer partners and on external
          owners to prevent abuses;
       What will happen when the LSB and another (non-legal) Regulator are in
          disagreement;
       How will areas such as estate agency (not subject to an external regulator) be
          addressed, when they are linked in a MDP.




10
     White Paper, Chapter 6; RIA, Chapter 5

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   8
The White Paper identified potential benefits for consumers:
     More choice
     Reduced prices
     Better access to justice
     Improved consumer service
     Greater convenience – one stop shops are cited
     Increased consumer confidence


These are admirable goals. The changes proposed may contribute in varying degrees
to achieving them. What I find troubling, however, is the absence of any apparent
appreciation of the possible downsides. As I shall demonstrate, the economists, while
favouring change, point to real risks and do not regard these issues as clear cut. They
emphasise the need for real care.


I believe there are real dangers that if things are rushed and not properly managed we
may see:
     less real choice;
     higher prices;
     a reduction in the availability of certain legal services in socially important
         areas;
     abuses from one stop shops – the impact of Greville’s Law, with bad currency
         driving out good.


I say this because the need to address the problems upfront is critical to the success of
the reforms. The bland response of the Department is dispiriting. And its track record
in such matters is unhappy. It was wildly optimistic in its predictions of the impact
and effect of Conditional Fee Agreements. We were told in 1999 that after the event
insurance would be widely and cheaply available. It is not readily available, save for
the simplest cases; even then it is nothing like as cheap as was asserted. The
Department ignored the risks of claims’ farmers for too long. The cost of smaller
claims has escalated. Insurer’s costs have risen. Access to justice was not improved.




Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   9
The Government’s failure openly to address serious regulatory issues


First me let me set out what the DCA proposes. The Department intends11 that there
will be a robust licensing regime for ABS firms


It proposes:
      Mixed firms will have a Head of Legal Practice (HOLP) and Head of Finance
         and Administration (HOFA);
      There will be a “fit and proper person test”;
      A licence , which must specify
         (a) the activities which are reserved legal activities and which the licensed
             body is authorised to carry on, and
         (b) any conditions subject to which the licence is granted;
      Where a company with share capital applies for a licence it must identify any
         non-authorised person who holds or will hold a material interest12 in the
         applicant;
      Where any other body applies for a licence it must identify any non-authorised
         person who holds or will hold an interest in the applicant;
      Criminal offences for breaches of licence conditions etc.
      Power for the licensing authority to refer to an appropriate Regulator or the
         Board any matter relating to the conduct of
         (a) an employees, officer or manager of a licensed body;
         (b) a designated HOLS or HOFA.


To prevent regulatory conflict the DCA proposes that if the licensing authority and the
approved regulator are unable to agree how to resolve the matter, the licensing
authority must refer the matter to the Board, for the Board to determine.



11
  White Paper, page 41
12
  Interest and material interest are defined in Section 90. For share capital the
threshold is 10% or any lesser amount specified by the licensing rules of the licensing
authority. For bodies corporate other than companies with share capital the test is
membership. For partnerships, the relevant matter is being a partner. For
unincorporated bodies other than partnerships, the test is being a member.

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   10
It is important to note that this does not, because it cannot, address the situation where
there is conflict involving an external non-approved regulator (e.g. FSA).




Concerns about the current proposals


Having commissioned and received a series of serious papers from economists on
possible outcomes to different approaches, we were entitled to expect the Department
to grasp some nettles. It should have identified the dangers and stated the risks it is
prepared take and those it is not. It should have set out the possible strategies for
addressing them.


If, as seems inevitable, we are to embark on a new type of legal services market then
it is Government’s job to be honest about the risks as well as the benefits with
consumers, lawyers, the judiciary and the wider public. After all, while some legal
services affect only two parties, the sale of land for example, others do not.


To take two examples:
     wills and probate affect beneficiaries, tax authorities and creditors;
     litigation engages the public interest through the courts – we rightly regard a
         lawyer’s duty to the court as overriding that to the client.


Indeed the relevance of the impact of legal services on a wider public interest was
identified by Davies (2005) (p.5) as a matter of importance – see below.




The economists’ views


Let me turn to some of the economic analysis to try to assess what the future may hold
and what the benefits and risks are.


Grout (2005) in his paper for the Department noted (p.14) that a client who gains from
breach of procedures does not complain – so sharp practice does not come to light.


Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   11
Relationships between claims framers and solicitors are a case in point. I would argue
that, at present, peer pressure is an important control mechanism. This risk, I
acknowledge, is not high where the owner is such as the RAC, with a brand name to
protect. But where the financial interest is held privately by an owner or small group
with more limited perspectives the position is different – see the discussion about the
nature of ownership which follows. Peer pressure will be less of a force for good.
The fit and proper person test will have practical limitations.


As Grout shows, (p.15) there is good evidence that in other professions, behaviour is
distorted by economic incentives. Further (p.19), in a company, the risk trade-off
depends on the concentration of ownership. The fewer the shareholders, the greater
the risk of misbehaviour.


Grout argues convincingly (p.20) that restrictions on outside ownership and
management that are appropriate for a small firm would actually make the underlying
problem of inappropriate incentives worse in a large firm with concentrated
ownership. He asserts that the current proposals on management composition, i.e.
Clementi’s and which the Draft Bill adopts, do not get to the heart of the problem and
may give a false sense of security, be too soft on non-lawyer owners and overly
restrictive on lawyers owners.


This is a worrying observation and goes to the heart of Government’s blandly
optimistic approach. If, as seems inevitable, we are to have major changes in the
types of structures from which lawyers practise and legal services are offered, then we
deserve better analysis of the risks and a clear statement of how these are to be
addressed.


Indeed Grout (p.22) says that the primary (that is financial) risk of large LDPs and
MDPs needs to be separately regulated. That is because those with large returns at
sake adopt risky strategies if survival is uncertain.


So, Grout argues, rules are needed to prevent LDPs and MDPs getting into a position
where owners benefit from adopting risky strategies. That means preventing too high
debt/equity ratios. For debt holders are external and cannot monitor the behaviour. I

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   12
would add that we must also remember these organisations will have substantial trust
accounts. Existing compensation fund provisions will need attention.


So Grout (p.23) reasons that for large, highly concentrated LDPs and MDPs, the focus
must be on financial not management structures. The core of the problem is the
inability of those outside the organisation to monitor the process before the outcome
of a bad event occurs. A few owners in a large firm will be well placed to hide
inappropriate action. Clementi did not identify or address this.


Effective monitoring will be critical. The task is to ensure this without imposing
expensive, intrusive and irrelevant interference.


Grout makes it plain that identifying the appropriate financial regulation is not
straightforward and will require careful consideration. Indeed, (p.25) new financial
reporting will not work to achieve the regulatory objective.


Finally, there is the question of share incentives for lawyer managers in new entities.
Grout (p.25) points to the substantial body of evidence that these incentivise risky
strategies.


These are substantial points. It is a noteworthy omission that the Department does not
refer to these important issues and gives no views how they may be best addressed.


So a separate regulator with relevant financial expertise will be required for a
proportion of firms or corporations with new financial structures. That is
independent of whether the firm is also offering non-legal services.


It also seems pretty obvious that such matters lie beyond the current expertise of the
Law Society. This body has little or no experience in such matters. Nor does it seem
feasible that it will readily acquire such sophisticated know-how. Past history, in the
context of referral fees, claims farmers and the NUM cases, does not give cause for
optimism in respect of the Law Society.




Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   13
Thus the future for regulation of the new entities will likely lie elsewhere. The FSA,
for example, would be much better placed to approach that aspect of risk assessment.
To date the Law Society has assumed that it will be the regulator for LDPs and indeed
of lawyers in MDPs. I do not believe this follows at all. Indeed the provisions for
licensing ABS clearly envisage new regulators for such entities.


If this analysis is correct, then a new AR (or ARs) for certain models of LDP and
MDPs may also suit certain of the bigger firms of solicitors whatever structure they
have. In the new regime they will be free to choose their AR, provided it is
appropriate for their activities. The big firms have been arguing that a “one size fits
all” approach to regulation is not appropriate and that the existing regulatory model is
not adapted to their very different needs. This is their opportunity and I would not be
surprised if some take it.




LDPs


Another related and important problem for the LSB will arise with LDPs. It is known
as “tying in”. Vidal, Jewitt and Leaver (2005) refer to this in their paper (p.9 and
paras 3.1.1 ff). They point to the experience in financial services which has
highlighted the potential for various forms of miss-selling in which customers are
advised on the basis of what the adviser benefits most from selling rather than what
the customer needs.


This can take contractual and non-contractual forms. It can mean switching costs
which make it hard to switch to another supplier. The example the authors give,
interestingly, (p.10), is of a failure to give advice on the choice of external advocates.
This can happen by simple but deliberate omission. Some believe this already
happens.


As the authors state (p.11), if tying in occurs in a way that is not transparent to
customers seeking to buy solicitor and advocacy services then they may opt for the
cheapest solicitor notwithstanding that this ties to advocacy services. LDPs can then
“cross-subsidise solicitor services” and so undercut independent solicitors using

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   14
outside advocates. Non transparent tying in is thus a bad form of organisation which
drives out the good, cited here as an example of Gresham’s law.


The authors describe such effects as “major risks of the Clementi proposals”. They
continue (p.12) that the problems will be greatest when the customers are naïve, have
poor access to credit are infrequent users, etc., and will be greatest where the LDPs
are under sharp pressure from creditors.


They see potential for opportunism in LDPs to drive out independent practitioners in
precisely those fields where customers most need independent advice. They say that
the experience in the financial services industry suggest that these problems can be
very real. They require very stringent conditions before any form of contractual tying
in can be allowed.


I believe it is not clear how easy it will be to address effectively the more subtle but
no less damaging problem of de facto tying in.


Addressing future regulation as a whole, these authors conclude that setting up the
appropriate regulatory systems to strike the balance is likely to be a task of delicate
judgment.


Brealey and Franks (p.32) take a similar line. They note that conflicts of interest may
result in inefficiencies (as these economists so delicately put it) when consumers are
not fully aware of the conflicts and their likely impact on the advice they offer. These
conflicts are likely to arise when there are potential synergies between the firm’s legal
services and its other activities. This must be met by enforcing transparency and
prohibiting a firm from taking business where it has an adverse interest.


They conclude (p.33) that incremental change is more desirable than abrupt change,
pointing to the limited empirical evidence of a world without ownership restrictions.
Indeed, they state that almost the worse thing that could happen would be a failure of
the regulatory regime to support change. Thus the regulatory regime must be fit for
purpose and properly resourced.


Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   15
MDPs


In addition to the matters touched on above, there is the additional well known point -
Grout (p.13) - that the introduction of MDPs brings a tangible risk that a number of
accountancy firms will come to dominate the market.


We should not be complacent about this. De-regulation saw the end of the separate
brokers and jobbers and then their absorption by the investment banks which in turn
have merged and become increasingly small in number. That is why there is now
justified concern about the disinterested nature of analyst’s advice, not to mention the
fees charged for IPOs and rights issues when the risks of failure are not
commensurate.


Applied to the market for legal services in complex commercial matters this suggests
a lack of choice in the longer term for all but the largest international companies if
MDPs come to dominate the sector. How to control the accounting and legal services
firms which may emerge with enormous influence will be a real test for the
competition and regulatory authorities.


This move to permit MDPs is important because it brings other quite separate matters:
various conflicts of interest, coupled with the need to protect client confidentiality and
legal professional privilege.


Dow and Lapuerta (2005) in their paper for the Department refer (p.8) to the well
known problems concerning the objectivity of investment analysts employed by
investment banking or of audits provided by accounting companies that also provide
management consulting services.


As Davies (2005) in his paper points out (p.5) there are two particular issues which
make for market imperfection and which regulators will have to address in the de-
regulated legal service sector.


The first issue is asymmetry of information – many consumers are not equipped to
judge the price or quality of their legal service. The second is one which has few

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   16
counterparts outside the law: the lawyers’ obligations to “the Law”, i.e. responsibility
to the courts and justice coupled with equality before the law. So (p.5) normal
assumptions about perfect competition and the market are not appropriate for legal
services.


It is clear that the Department thinks that one stop shops are a good thing. Some
solicitors think so too. Brealey and Franks (2005) in their paper (p.19) referred to one
firm of solicitors which had discussed seeking an interest to an estate agent not just to
cash out capital but to obtain synergies from wider co-operation.


However, when the same authors discuss this aspect (p.21), they draw immediate
attention to the difficulties which arise when an outside owner seeks to exploit
synergies, namely the improper or excessive cross-selling of services. They note the
ease with which estate agents would encourage house buyers or sellers to use the
conveyancing services of the law firm which is commonly owned. They point to the
conflicts of interests between the auditing and consultancy wings of accounting firms.
These, I interpose, were of course subject to the strictest rules about auditing. But
these were insufficient. The reason was human frailty, greed and major client power.


Brealey and Franks believe (p.27) that such problems are likely to be “particularly
acute” where the purchasers of legal services are infrequent buyers. They suggest
(p.30) that if a law firm shares a common ownership with another firm, it may be
desirable to ring fence the law firm by requiring it to be separately incorporated and
not to share client information. In this way, legal services and accountancy or estate
agent services could not be provided by a single entity even though there was a
common owner. Indeed, they conclude that such a restriction is probably desirable
albeit costly.


It is frankly breathtaking that such clear statements of the hazards of one-stop shops
and the desirability to prevent them in effect have been ignored by the Department. It
is not as if there is anything counter-intuitive or obviously flawed about the
economists’ reasoning. It follows common experience.




Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   17
Finally, Vidal, Jewitt and Leaver (2005), in their paper (para 6, p.33) raise the concern
whether the various professional disciplines within MDPs will be able to maintain
their independence. How will the LSB and the FLRs under it co-exist and interact
with the non-lawyer professionals who are regulated by outside bodies and may face
different legal obligations – client confidence versus the auditors’ duties of disclosure
being an obvious example. This alone may mean that MDPs are in fact a long way
off.


The Office for Legal Complaints


Finally, I touch briefly on the Office for Legal Complaints. Suffice to say that in the
case of both the Law Society and the Bar Council I foresee disadvantage to the public
if the OLC does not have power to delegate back to these ARs those complaints which
are likely to raise both so-called service and disciplinary matters.


The Department has without explanation ignored the reasoned recommendation,
number 30 (para 3.7.3), of Baldwin, Black and Cave (2005), that the OLC should, in
cases involving conduct issues, have power to delegate the whole complaint (both
conduct and service aspects) to the AR.


This is an egregious error on the Department’s part and seems to be driven by dogma
rather than reason.




Privilege13


This topic is vital if MDP’s are adopted. I readily endorse the analysis contained in
the paper by Bankim Thanki QC attached to the Bar Council’s submissions in
response to the Draft Bill.




13
     Clause 139

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   18
How will the legal profession react – sole trader, partnership or incorporation?


I now turn to two rather different questions. These relate to the future behaviour of the
profession: Will solicitors opt for incorporation? What of the self employed sole
trader Barrister?


Incorporation for Solicitors?


Based on experience in other fields, Dow and Lapuerta believe (p.6 ff) that within the
legal profession partnerships might be more efficient than corporations in the
provision of those services that are most difficult to value, and less efficient for
services that are relatively straightforward. Thus corporations might provide
conveyancing services more efficiently, while partnerships would be best for more
complex, diverse and relatively infrequent transactions such as corporate takeovers.
Indeed they suggest (p.9) that some legal services are ripe for commoditising, by way
of example from conveyancing, through many cases of labour law, divorce and debt
collection - although the latter examples are not of the same degree.


Brealey and Franks consider the ability of partnerships to raise capital and the
possible needs for this. They point out (p.8) that for partnerships debt capacity is
relatively limited compared with corporations because the principal asset is their
human capital. To date, they suggest (p.10), that limited access to the capital markets
has not hindered the development of the biggest firms. They remain much less capital
intensive than say investment banks.


However, these authors point out that consultancy firms also have low capital
requirements but since 1995 many have incorporated and expanded their equity by
IPOs. They believe it would be open for solicitors to raise equity capital in the same
way if they wished. Their discussions with law firms suggest that some will. Indeed
the demand for outside funds may be higher for firms that are trying to change their
position in the size league, especially if they wish to expand by acquisition.




Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   19
The Bar


Dow and Lapuerta’s view of the Bar is that existing structures (sole traders) may be
well suited to advocacy unless there is a radical change in the way that advocacy is
used as part of the legal process. Thus, they point out that barristers do not have the
same capital needs as solicitors for significant IT investment and have highly
individualistic working practices. So natural market forces may, they suggest,
perpetuate the existing structures even as government permits outside equity.


Davies, in his paper, makes this point, if anything more forcefully. He believes (p.18)
there is competition between individual barristers and as between sets of chambers.
He starts with the possibility that the attractions of working conditions, independence
and the range of cases which come to a sole practitioner barrister may be compelling
considerations why barristers will not opt for partnership. But if that is not enough he
believes there is another compelling reason why independent barristers would not
wish to join large partnerships: it would clearly reduce the number of cases they could
take. Advocacy involves at least two parties – two sides or more to the case. So
dominant partnerships of practitioners in a specialism would deny custom to members
of such partnerships and be a disincentive to their creation.




CONCLUSIONS


A        Types of business structure


    1)       The very largest city firms will not rush to incorporate.
    2)       It is likely that at least some firms in the next lower bracket who wish to
             grow aggressively will try incorporation and fund raising by IPOs. The
             success and number of such offerings and how the new entities and their
             share values then fare will influence the conduct of the big players.
    3)       Many firms will take non-lawyers into partnership. Some of these will be
             managers of the business, others will be outside investors.
    4)       A range of other outside investment models will emerge:
                 Simple investment partners in individual firms;

Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   20
                 Outright ownership of firms, with all lawyers being employees, and
                    indeed chains of firms – so called “Tesco law”;
                 Joint ventures on a wider basis of lawyers and outside investors,
                    some incorporated, some not;
                 Franchising of brands, e.g., by existing well established firms of
                    solicitors or by commercial entities trading on their own existing
                    non-legal brands or new brands altogether.
    5)       The new entities will not all wish to offer services on the traditional model.
             Many will aim for services which can be commoditised. Thus we shall see
             firms or chains which only offer one service – e.g., conveyancing or
             personal injury litigation.
    6)       Lawyers and their backers will focus even further than already on the
             financial bottom line and drop less profitable areas of practice.
    7)       Such tendency to specialisation in services offered will, I fear, be likely to
             lead to further diminution in the supply of less financially rewarding
             services such as welfare or housing law: certainly it will not solve the
             existing shortages.
    8)       There is a real risk of market abuses such as tying in, formally or
             otherwise, if the regulators are not sufficiently astute, proactive and
             rigorous.
    9)       Subject to the practical caveats above, we face the real possibility of MDPs
             comprising lawyers and others such as accountants or estate agents – this
             type of synergy is fraught with difficulties and dangers.
    10)      Some barristers will join LDPs as advocates.
    11)      A few barristers may form small partnerships, still practising on a referral
             basis and not undertaking litigation services.
    12)      Most barristers will continue to practice as independent referral
             practitioners from chambers but not in partnerships, selling their services
             to anyone.




Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   21
B        Regulation


    1)       The new structures will require sophisticated frontline regulation and
             equally skilled oversight by the LSB.
    2)       The LSB will need to import skills from the field of financial regulation
             and be able to prevent market abuses.
    3)       The LSB must avoid expensive, ill-targeted and inefficient regulation. The
             primary and secondary legislation must address this in sufficient detail.
             Costs must be kept firmly under control.
    4)       The requirements for mixed firms
              to have a Head of Legal Practice and Head of Administration;
              to be subject to a “fit and proper person test”;
              to be subject to other controls;
             have a real likelihood of being insufficient and inappropriate. More is
             needed.
    5)       So a new AR will be likely be needed to regulate the larger enterprises
             with outside capital investment, because of the need for sophisticated
             expertise in finance in approaching the debt and risk management of the
             new business structures.
    6)       The Law Society is unlikely to be equipped, or ultimately, to wish to
             regulate across the whole of this wide new spectrum of legal service
             providers.
    7)       The largest firms of solicitors, even if they do not opt for incorporation or
             outside investment may well look for their regulation to a new financially
             sophisticated regulator as their AR. Quite simply it will be more
             attractive.
    8)       The Law Society will regulate conventional solicitors other than the big
             players and the smaller or less complex models of LDPs.
    9)       The question how the LSB will seek to regulate MDPs involving lawyers
             will require great care. The LSB will have to depart from the basic
             Clementi model of regulation which is by type of business activity because
             the MDP will not simply be supplying legal services.




Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   22
    10)      The Bar Council will continue to regulate self-employed referral barristers.
             It will continue to regulate employed barristers who do not work for legal
             firms offering services to third parties, such as those in the CPS,
             Government Legal Service or General Counsel. It may take under its wing
             those solicitor advocates who operate on a referral basis.
    11)      The Bar Council has no plans to regulate barristers operating in
             partnership. For the moment it looks as if these will be passed to the Law
             Society.


In short, I see greater opportunities for lawyers and non-lawyers alike, coupled with
real risks as well as benefits for the users of legal services. Coupled with this I
foresee heavy and much more expensive regulation.




1 Crown Office Row, Temple                                                Guy Mansfield QC
London EC4Y 7HH                                                           28 June 2006
t: 020 7797 7500
e: guy.mansfield@1cor.com




Evidence for submission to the Joint Committee on the Draft Legal Services Bill   Guy Mansfield QC   23

				
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