Grania Langdon-Down investigates the trend towards in-house departments becoming ABSs
In-house lawyers are investigating the opportunities offered by alternative business structures (ABSs) as a way of offering their legal services to a whole new range of clients. This option is particularly attractive because team budgets are being cut in both the private and public sector: this summer, for example, Cornwall County Council warned it will have to cut jobs as part of 16 per cent spending cuts in its legal services department, which could see the culling of a whole team of fee-earners.
But, with only about three in-house ABSs awarded licences by the Solicitors Regulation Authority (SRA) out of around 300 successful applications, these are still largely unchartered waters. Potentially dangerous, too, given that Co-operative Legal Services - seen as the standard bearer for ABSs when it entered the new legal market in 2012 - posted losses of £5.1m for the first half of 2014 and shed about 100 staff.
Interest in ABSs among local authority legal teams can be broken down into three categories, says Judith Barnes who heads DAC Beachcroft’s local government team. ’Some will never do it because they are too small; are content to focus on doing their own work well; or see the market as very competitive and fear the investment would be unlikely to be repaid quickly.
‘Others will watch to see whether it is successful and then join the party and then there are those who want to gain the ‘first mover’ advantages - not least the publicity they are getting.’
The cost of becoming authorised can run into thousands on top of the SRA’s £2,000 application fee, with huge demands on time and resources.
BT Legal’s chief counsel Anchara Makol oversaw the birth of the telecommunication giant’s ABS BT Law Ltd last year. ‘It is both exhilarating and exhausting as you still have the day job,’ she says. ‘But you learn so much about business, sales, compliance and leadership it gives you a new lease of life.’
It is certainly a costly and time consuming process, says Anne Davies, head of legal practice at Buckinghamshire Law Plus Limited. The first local authority ABS, it is a collaboration between Buckinghamshire County Council and the Buckinghamshire and Milton Keynes Fire Authority, and will provide legal services to local authorities, emergency services and charities.
‘Getting all our ducks in order probably cost, in terms of officer time, about £5,000 - at times, it became the day job,’ she says. ‘The thing exercising my mind now is if we go after xyz work and we get it, do we have the capacity to do it? But can we generate the capacity to ensure we can always deliver the service until we know we have the work?’
A brief checklist gives an indication of the issues to be considered - who will own and control the new entity; is the ABS going to be financially resilient, who is going to be the COLP and COFA, is it going to hold client money; what are the financial and tax implications; have you got the right processes to cover conflict checks, data protection and ensure work streams are kept separate? Other critical issues include employment; EU procurement issues; professional indemnity insurance; marketing; business development; training; pricing; client care…the list goes on and on.
The SRA fears setting a hare running by giving generic advice about what information may be required when each application is so different so it encourages potential applicants to have pre-application meetings with its team.
Becoming authorised is certainly a big step which requires a very strong business plan, says Law Society policy adviser Hazel Uppington. ‘Most people shy away from getting extra regulation without knowing how profitable the venture may be’.
“Setting up the legal function as a profit centre brings with it the burdens of cost capture, categories of work and service level agreements, but these can, by their very formality, deliver clear structures for professional independence.”
Local authorities are under enormous financial pressure, so the logic is to consolidate and broaden what they do and offer it to a wider market rather than salami slice their budget and staff which could end up costing their council more in external advice.
The other driver is the move by councils to outsource their services to private companies which means, under the employed solicitors’ code, that the in-house team can’t follow the work. Barnet Council in London has led the way in becoming a commissioning council, prompting HB Public Law (HBPL), the combined legal teams of Harrow and Barnet Council, to become the second local authority legal team to be awarded ABS status to retain the work.
There are less obvious attractions for private sector in-house teams, says Nina Barakzai, chair of the C&I Group’s corporate governance committee, because of potential conflicts of interest between the employer and external clients and questions over who owns and controls the ABS.
But, she argues, there is also much to recommend it. ‘Setting up the legal function as a profit centre brings with it the burdens of cost capture, categories of work and service level agreements,’ she acknowledges, ’but these can, by their very formality, deliver clear structures for professional independence.
‘This gives a quick certainty that the legal team’s efforts will be easy to identify for each of its stakeholders or clients and puts a commercial value on its service, rather than being absorbed into a corporate overhead.’
A private sector in-house team could also set up an ABS offering a discrete service, says partner Iain Miller. He specialises in legal services regulation with public services law firm Bevan Brittan, which acted for the two local authorities which have obtained ABS status.
‘If you have a well-established skill set, such as intellectual property, you could sell that expertise to non-competing companies, as long as it generated enough income to cover the additional costs of being regulated.’
”We see the ABS vehicle as a potential income stream. The flip side of making savings is being able to generate income.”
Mark Hynes, Lambeth Council
At Kent County Council, Kent Legal Services already operates effectively as an in-house private practice with about 125 lawyers, £12m turnover and profits of around £2m.
In 2010, Geoff Wild, director of governance and law, set up a partnership Law:Public with the law firm Geldards to offer a blend of public and private sector expertise nationally at competitive rates.
The next logical next step, he says, is to set up a joint venture ABS. ‘I expect the Law:Public chapter will end and the ABS partnership will begin a new one. We are going into the procurement process this autumn with a blank canvas, hoping the market will come up with a partner - which could be a law firm or a service operator that wants to get into the public sector.’
This is a complex, expensive and risky move, he acknowledges. ‘There is a huge up front bill and ongoing liabilities, tax and regulatory requirements so it is only worth doing it if you are going to make a considerable amount of money’.
This approach hasn’t been tried before so potential partners are likely to be cautious, says Mr Wild. However, he believes: ‘ We can only do this with a proper commercial partner. If we don’t find one we will continue as we are - a successful, efficient, high quality legal operation.’
Lambeth Council is also putting proposals together, says Mark Hynes, director of governance, assurance and democracy.
‘We see the ABS vehicle as a potential income stream,’ he says, pointing out: ’The flip side of making savings is being able to generate income. We are currently debating having two ABSs. The first would fit with our political DNA at Lambeth in terms of supporting community initiatives, which currently have difficulty accessing affordable legal advice.
‘The other driver, which is potentially more lucrative, is in relation to the sexier work currently done for us by external firms - the big capital projects and regeneration schemes.’
That type of work is traditionally given to external lawyers because of a perceived lack of expertise and capacity in-house. ‘We are wrestling,’ he says, ‘with whether that work could be done by a stand-alone or joint venture where we could build the necessary expertise to supplement our own staff and market it to other local authorities as an alternative to private practice.’
Depending how well those two work, he says they could then look at floating off the whole legal services team into an ABS. ‘We have Grant Thornton looking at the options because they do raise issues of ownership and procurement.’
The structure of the ABS is certainly critical if it isn’t to fall foul of EU procurement rules.
If the ABS is controlled as if it was a department of the council with no private sector involvement and does the greater part of its activities for the council, its parent council can give it work without going out to tender. But it won’t be able to trade widely with the private sector. Known as the Teckal exemption, the latest EU directive codifies that amount as less than 20 per cent of its work and it should come into UK legislation by the new year.
But if, from day one, the ABS offers a commercial service, it will have to stand on its own two feet from the start and tender for the council’s work in direct competition with the rest of the market.
One option, says Ms Barnes, is to set up two entities - one which provides services on a commercial basis and the other which provides in-house services to the council and so is covered by the Teckal exemption.
A key element of the business plan will be staffing. Ms Barnes says one option is the in-house lawyers remain employees of the council under their existing terms and conditions, including being part of the local government pension scheme, and are seconded to work on specific projects for the ABS.
Another alternative is to Tupe them across to the ABS which can then apply to the pension scheme to become an admitted body or set up a broadly equivalent stakeholder pension scheme. If you need private practice specialists, you will need to reconcile the differences in salaries and benefits.
‘If it is down to me,’ says Mr Wild, ‘and there is no guarantee I would have a job in a new ABS as I am probably the most vulnerable person in this scenario, existing staff would be guaranteed a Tupe transfer. I would also want new staff to come in on the same terms - I wouldn’t want a 2/3 tier system which just creates division and jealousy.’
For some in-house lawyers, their hope is the SRA, which already gives waivers allowing them to advise individual charitable bodies, will free up the rules so in-house ABSs become unnecessary.
However, others aren’t prepared to wait. While the SRA has talked a lot about the liberalisation of the rules - tempered by the need to ensure in-house teams don’t gain a competitive edge over traditional law firms - it doesn’t have specific timescales as yet for when this, or even a review, will happen.
And even if the rules are relaxed, says Mr Miller, in-house lawyers will still come up against s15 of the Legal Services Act 2007. ‘This makes it a ‘criminal offence for lawyers whose employers are not authorised by the SRA - the classic in-house lawyer - from acting for the ’public or sections of the public’ - categories which the Act leaves undefined,’ he says.
‘State aid, procurement and competition law are all areas of potential difficulty’, says Nicholas Dobson, solicitor and regular Law Gazette contributor on local government issues. Time will tell, he says, whether the due diligence by the local authority ABSs will have managed to ‘remove the sting from these and the other stormy headwinds in the current tough market conditions’.
But what will in-house ABSs mean in terms of competition? Some practitioners are ‘uncomfortable’ with the idea of government money being used to set up these new local authority entities, says Ms Uppington.
‘Assuming they stick to core competencies, they are unlikely to hit small high street firms,’ she continues. ‘If anything, they will be competing with medium sized firms but this is a very well established sector so those firms are in a good position to hold their ground.’
Ms Davies is surprised at the level of concern from high street practitioners. ‘From our initial analysis, we didn’t see our new ABS as a real threat to local firms because it won’t be competing for their staple diet of conveyancing and property work, family work because of the conflict risks, or probate and trusts,’ she says
Even if feathers are ruffled elsewhere, in-house teams may have no choice but to change their structure - whether as an ABS or not. ‘ABSs are not a silver bullet,’ says Mr Wild. ‘It’s a complicated, time consuming, expensive business with no guarantees of success. But if we want to prosper and build a good business, we need to look at it now.’