The Business of Law – Marketing and Business for Enterprising Attorneys

At the American Bar Association’s recent midyear meeting in Orlando, an important hearing was held of the ABA’s Ethics 20/20 Commission.  The commission was created last August and charged with reviewing lawyer ethics rules and regulation across the United States within the context of a global legal services marketplace.  If I may paraphrase, the commission was looking to possible reforms to the ethics rules that would allow the U.S. legal market to keep up with the rest of the world.

Much to my surprise and pleasure there was a great deal of debate at the first hearing about the subject of non-lawyer ownership of law firms.  It’s about time.

As we know, Rule 5.4 of the American Bar Association’s Model Rules of Professional Conduct prohibits non-lawyer ownership of law firms.  Simply put, a non-lawyer investor cannot take an equity position in a law firm. The rule was created to ensure that lawyers did not prioritize profits ahead of the best interests of their clients.  We want our lawyers to have a duty to their clients, not be slaves to shareholders.  That seems to make good sense.

However, there are consequences to Rule 5.4 and none more important than the fact that it can stifle growth and innovation in the profession.  But don’t take my word for it.

The February hearing of the 20/20 Commission included differing viewpoints on the subject from Lawrence J. Fox, who practices with Drinker Biddle in Philadelphia, and Richard Granat, who chairs the eLawyering Task Force of the ABA Section of Law Practice Management.  Here are their arguments summarized in brief from the hearing transcript.

Fox compared the idea of non-lawyer ownership to the kind of conflict of interest that existed at Arthur Andersen when it served as both auditor and consultant to Enron. He further argued that the debate over non-lawyer ownership was similar to the debate over multidisciplinary practice that occurred 10 years ago when the ABA proposed allowing lawyers to practice law within entities that included non-lawyers. (A rule that the ABA House of Delegates rejected).

In short, Fox’s argument is that relaxing restrictions on non-lawyer ownership is a bad idea because it could give rise to a conflict of interest. Furthermore, we considered doing it ten years ago and decided not to, so we should reach the same decision today.

Granat, who runs what he calls a “virtual law firm” in Maryland, said that the existing rules limiting non-lawyer ownership stymie innovation in the legal market and prevent firms from finding new ways to  deliver legal services, including online offerings.

In a nutshell, Granat’s argument is basically that our competitors are innovating, and there’s a huge unmet demand for legal services to be delivered in more innovative and efficient ways.  To do that requires capital.

I don’t want to put my thumb on the scale, but it seems to me that Granat makes the better point.  What do you think?

Larry Ribstein is with me!!  A few weeks ago, I laid out the case for outside ownership of law firms, arguing that it was good for firms, and good for access to justice.  Well according to the ABA Journal, University of Illinois law professor Larry Ribstein told the Philadelphia Inquirer that big law firms need a more creative approach to their current woes—one that might include selling shares to outside owners.

Quoting the ABA Journal:

He says changes in legal ethics rules to allow outsiders to own shares in law firms would give firms access to lower-cost financing and the freedom to expand in ways that can serve lower-paying clients. “Ribstein elaborates in a draft paper (PDF) posted on Ideoblog. Law firms are business entities, he argues, but ethics regulations regard them “as the worker cooperatives they once were.”

I was, as I often am…more blunt.  We run our law firms right as if they were country clubs, with the partners gathering around to decide weighty issues and determine what direction to take the business in.

That’s insane.  Let’s run our law firms like businesses they are.  Let’s have the lawyers do excellent client work, which is of course what they do best, and let’s have the investors and professional managers run the business, manage cost, allocate resources, and provide strategic direction…you know the stuff business people do well.

The news is full of one law firm after another announcing office closings, major pay cuts, lay-offs, mergers with other law firms, and worse yet, declaring bankruptcy.  Is our industry really that flimsy that we can’t weather this recession?  Or, is there a deep seeded issue at the core of our business model?

The answer is the latter.

Economic recessions are difficult to manage through, and it is not uncommon for perfectly sound businesses to run into short-term cash flow crunches.  In the business world, to triage these cash flow issues, companies turn to the capital markets.  Short-term bridge loans, follow on or down round financings and other capital investments are often the tools used to stop the bleeding until companies P&L’s stabilize.

For law firms, these options are simply not available.  That’s because Rule 5.4 of the American Bar Association’s Model Rules of Professional Conduct prohibits non-lawyer ownership of law firms.  Simply put, a non-lawyer investor cannot take an equity position in a law firm.

As a result, U.S. law firms have limited options when tough economic times take a toll on cash flow; solicit personal investment from its partners; merge; be acquired or fold.

Not surprisingly, recessions are not the best time to be raising capital from equity partners, so, mergers, acquisitions and bankruptcies have become common place.  The result is not only turbulence in the legal market, but instability in the provision of legal services.

This isn’t sustainable.

Like most rules, 5.4 came from good intentions.  The rule was created to ensure that lawyers did not prioritize profits ahead of the best interests of their clients.  Makes sense, right?

Here’s the rub.  The minute lawyers started taking fees for their services, practicing law became a business like any other.  As such, shouldn’t it be allowed to engage in the same kind of transactions that breed stability in other businesses?

What’s more, this is not just about stability during the seven lean years.  Accessing the capital markets would also help law firms grow and improve their businesses when times are good.   I’m talking investment in infrastructure, recruitment, technology, new offices, and identifying new areas of litigation.

Cue the “sky is falling” ethics crowd.  “Capital investment will bastardize this noble profession” they’ll cry, “making lawyers slaves to the almighty dollar at the expense of their client’s interests.”

First of all, that’s a rather romanticized view of the practice of law.  Last time I checked lawyers are motivated by compensation like anybody else.  In fact, law firms regularly compete aggressively with one another on compensation issues.  Secondly, who’s to say we can’t achieve a balance between running firms like businesses while preserving the duty to clients?

Don’t take my word for it. Law firms in Australia and the United Kingdom have already struck the right balance in accessing outside capital while still serving the best interest of their clients. And I’m pretty sure the skies over London and Sydney haven’t yet fallen.