Can an overhead be turned into a profit centre?
By Richard Parnham
Many general counsel claim they can "add value" to a company's business, and help it become more profitable. But now, radical reforms to the English and Welsh legal profession promise to take this proposition to its logical extreme - turning a company's legal function into a fully-fledged profit centre.
When general counsel claim they can "add value" to a company's bottom line, they typically mean something very different from their colleagues in sales and marketing. Unlike their commercial counterparts, whose job it is to boost their employers' profits and market share, "adding value" in legal terms normally means "minimising liabilities" or "reducing legal costs". In most companies that have them, the legal department remains a valuable - but expensive - cost centre.
But radical reforms to the legal market in England and Wales may soon change all that. In a development that is being watched by governments and bar associations around the world, corporations and other non-legal entities will soon be permitted to sell legal services direct to the public. Popularly-dubbed "Tesco law", after the ubiquitous UK-based supermarket that sells everything from groceries to car insurance, the intention is turn the sale of legal services into a mass-market, consumer-driven product.
Some commentators have predicted that the reforms will provoke one of the most radical shake-ups the UK legal profession ever seen. Paul Gilbert, a former chair of the English and Welsh Law Society's in-house lawyers group, has even predicted that in-house lawyers may outnumber their private practice counterparts within a decade - a radical departure from existing business practices. In addition to its far-reaching implications for in-house legal departments, traditional law firms will also be affected by the reforms. Firms will be permitted to form MDPs with other professions - even float on the London Stock Exchange. This, it has been suggested, will provoke an aggressive period of consolidation between publicly quoted legal practices.
For company general counsels, the reforms pose two possible challenges. Firstly, there is the possibility that their employer decides to offer legal services to the public. In this situation, the general counsel will almost certainly play a key role in deciding how such a service should be rolled out. Companies that do offer legal services will then be faced with a second dilemma: how to manage what are, effectively, two separate legal functions within the company. One legal function will continue to serve in-house clients as a cost centre, while the second will be a client-facing profit centre.
At present, practical guidance on how counsel should address these two issues appears all but non-existent. For example, neither the Law Society of England and Wales nor its associated Commerce and Industry Group have yet offered formal "best practice information" to their membership. Nor has the European Chapter of the Association of Corporate Counsel, or the Scottish In-house Lawyers Group.
The Legal Service Bill itself offers limited guidance on how corporate counsel should proceed. The Bill sets out the licensing and approval regime for external shareholders, insists on a designed "Head of Legal Practice" to ensure compliance with the organisation's licence, and establishes a new complaints handling system. However, it does not specify precisely what form a corporate legal service operation should take. This is intentional. The Bill is specifically designed to be a piece of "enabling legislation", giving companies a large degree of flexibility on how they should structure their operations.
Although the Bill is still completing its legislative passage, a small number of major corporations have already begun to actively promote their legal services operations. These companies include:
■ the Co-op, via Co-operative Legal Services;
■ Halifax Legal Solutions offered by HBOS plc subsidiary, the Halifax;
■ The Automobile Association (AA) Legal Service; and finally
■ Tesco Legal Store and Tesco Property Market.
At present, these services are aimed firmly at the consumer end of the legal service market. However, there is no reason why corporate-branded legal services could not soon be offered by banks, property management companies, professional trade associations or workers' unions. Indeed, the profit margins made by traditional legal practices - often between 30 and 40 per cent for a leading provider - may make entry into the legal service market an extremely attractive proposition. Even if new entrants decided to build market share by undercutting existing providers on cost, for those willing to take the risk, there is clearly the potential to make a great deal of money. The past experiences of the UK arms of the "big four" accountants clearly demonstrates a potential market for legal advice offered by non-traditional providers - and the Tesco Law proposals are intended to be significantly more far-reaching. What is more, there are countless examples of new players successfully entering the UK services sector. These entrants typically use aggressive marketing techniques and cutting-edge technology to create an entirely new business proposition - in some cases, virtually overnight. In the UK legal market, one of the best examples of this development was the dramatic explosion in the number of personal injury "claims farms". Until recently, these "no win no fee"-based businesses dominated the daytime TV advertising schedules.
Among the legal service pioneers, a variety of business models have emerged that rival companies could emulate. For example, it is intended that much of the legal advice offered by Co-operative Legal Service will come from lawyers and legal advisers employed directly by the company. In its press statement announcing the launch of the service, the Co-op claimed it intended to recruit around 150 staff over the next five years, and be based in the South Western English city of Bristol. In terms of size, this would be the equivalent of a mid-sized UK regional law firm. However, in evidence given to the Parliamentary committee examining the Legal Services Bill, the Co-op legal chief executive Eddie Ryan then added that the organisation would supplement its core competencies with a "panel" of traditional law firms, covering such matters as matrimonial law. The quality of the external work would be monitored in two ways: firstly by internal auditing by the Co-op itself, and second by a client satisfaction feedback programme.
Unlike the Co-op, the Halifax, The AA and Tesco have all opted to outsource all of their branded legal work to trusted parties. Both the Halifax and AA's conveyancing service is provided by law firm bulk service spin-off, HammondsDirect, while Tesco's conveyancing service is run by MyHomeMove, a venture backed by a law firm and a licensed conveyancer. Halifax is also making use of a document assembly service powered by Epoq, while the AA's trust and will-writing service is backed by UK national law firm Irwin Mitchell Solicitors. Whether other new entrants will go down this "outsourcing" route in the future remains to be seen. Tony Williams, a strategic adviser to the legal profession, says the decision to "buy-in" legal services from outside agents may just be a temporary phenomenon in the run-up to full liberalisation. "It's possible that some companies may adopt this business model as a holding position, until it becomes possible to create a wholly-owned law firm," says Mr Williams, who is principal of the Jomati legal consultancy. "Some providers have already 'bought out' existing law firms, but they can't technically own them until the regulations change."
However, even post-liberalisation, outsourcing to trusted third parties may have some advantages over developing a Co-op-style internal legal offering. In a new regulatory environment, it is possible that new conduct rules and business practice may take time to settle down and become established. By instructing a third party to provide their branded legal service, companies may be able to transfer the financial and technological risks associated with any subsequent regulatory "tweaking" that may occur. The third party would also be responsible for dealing with all of the burdensome regulations traditionally associated with legal practice, such as conflict checking, money laundering obligations and lawyers' CPD requirements.
Whether a company could escape any reputational risk associated with a legal service they offer is less clear. Inevitably, the more prominently the company chooses to promote its own legal service brand, at the expense of the actual "back office" provider, the more reputational risk the company may be exposed to. Consumer-focused legal services may be a potentially lucrative mass market. However, it is not impossible to imagine that the companies who provide them may find themselves caught in a tabloid newspaper-driven backlash. For this reason, it may be advisable to focus on offering non-contentious legal advice until the scope of the potential legal market has properly been assessed.
The outsourced model may also neatly sidestep any possible problems of how the commercial legal service should relate to the company's own in-house legal function. For example, should an in-house commercial legal function be fully integrated within the company as just another department, or should it be structured as an entirely separate entity - perhaps with its own offices, management team and corporate identity? Both alternatives have their own advantages and disadvantages in terms of cross-selling, cultural cohesion and legal and operational risk management. Again, the past experiences of the linked accountancy law firms may provide useful. Because they operated under a generally hostile international regulatory environment, the accountancy legal practices were forced to develop sophisticated legal structures, to overcome any accusation that they were involved in the unauthorised practice of law. Typically, these would involve "side-by-side" organisational structures, intra-firm service level agreements, and agreements relating common branding, IT infrastructure and property assets. Multinational companies who wish to offer branded legal services only within the UK may have much to learn from the accountants' tried and tested arrangements.
Whether company's general counsel should take on operational responsibly for an in-house commercial legal function is another matter for debate. Opponents of legal service liberalisation have long argued there is the inherent risk of a conflict of interest between a company's general commercial objectives, and the advice provided by a linked legal service. In reality, this argument is generally thought to be spurious, and already covered by established rules governing conflicts of interest. It is unlikely, for example, that a client of a bank would attempt to use the bank's own legal service to sue its credit card division - they would be far more likely to instruct a specialist litigator - even a commercial legal service provided by a rival provider. Nevertheless, a company's general counsel may well feel wary about taking on oversight responsibility for their company's commercial legal service. General counsel tend to view themselves as the enforcer of their employers' legal best practice, rather than the head of an overtly commercial operation. It may therefore make sense for the head of the company's commercial legal practice to report to a sales or marketing manager, rather than the company's internal legal function.
In terms of how companies should make money from their legal operations, the current pioneers also provide a few clues that rival companies may decide to emulate. For example, the Co-op service is bundled in as a free telephone service for all group members who shop, bank, travel or insure themselves with the Co-op. The service is therefore being offered as a marketing exercise, as a way of enhancing customer loyalty. By contrast, Halifax Legal Solutions is specifically intended to raise revenues. Its conveyancing services are generally offered at a fixed price according to the value of the home. More general legal advice is bundled together for a fixed annual fee of just ?89 - a figure likely to cause despair among traditional law firms. For this, clients get access to a large number of legal documents, ranging from divorce requests to constructive dismissal claims - even templates for complaints to the Legal Services Ombudsman are available. Inevitably, the Halifax offering makes extensive use of a document assembly system to produce its products, albeit backed up by all-inclusive, 24-hour-a-day telephone service. Finally, the AA also uses a fixed fee system for its conveyancing and will-writing service, with personal injury claims offered on a "no win, no fee" basis.
At this stage, it is probably true to say that the overwhelming majority of UK in-house counsels have not even begun to consider the possibilities offered by the Legal Services Bill. An informal survey of UK-based recruitment consultants reported that, at present, there is no evidence that companies are beginning their recruitment of client-facing legal advisers. Nevertheless, it is often regarded as a general counsel's key role to scan the legal horizon, looking for risks and opportunities that may affect their business. Within the English and Welsh legal market, the Legal Services Bill represents a golden opportunity for counsel to transform their department into a genuinely profitable activity. Although the Act has not yet come into force, one thing is already certain. If counsels do not act to embrace this change, there is every possibility that their rivals will.
Last updated -23 January 08