This article first appeared on Lexis Nexis PSL on 18th September 2013
Practice Compliance analysis: Is the loss suffered by the Cooperative Legal Services Ltd (CLS) in the first half of 2013 a significant indicator of the state of the deregulated legal market? Robert Forman, senior associate at Murdochs Solicitors, considers the issues.
What prompts the Solicitors Regulation Authority (SRA) to investigate the financial viability of a law firm or alternative business structures (ABS)?
All entities authorised and regulated by the SRA must comply with the SRA Principles 2011. Principle 8 imposes an obligation to ‘run your business or carry out your role in the business effectively and in accordance with proper governance and sound financial and risk management principles’.
The SRA considers that the Principle imposes a requirement that entities remain financially viable. If the SRA does not believe an entity is able to demonstrate such viability, it is prepared to intervene.
The SRA considers that when entities face financial difficulties, clients’ interests are put at risk, and there is a greater risk of regulatory breaches occurring.
Does CLS’s announcement suggest that its business model doesn’t work?
CLS’s announcement that it has suffered a £3.4m loss for the first half of 2013 doesn’t on its own mean a lot.
CLS might be concerned about the apparent financial deterioration from a position of profit in 2011, to a second half of 2012 loss (£674,000) and first half of 2013 increased loss (£3.4m).
In response CLS can, for the first half of 2013, cite an increase in turnover from £17.1m to £18.1m and offer a potentially valid explanation for the loss in the same period, that is, a multi-million pound advertising campaign in June 2013.
CLS may also point to much higher losses in the Cooperative Group’s banking arm (£709m) and an overall group loss of £559m to assure the SRA that it is in fact able to service much higher levels of debt. This may be viewed as double-edged–perhaps indicating greater problems ahead–and it offers no assurance that other Cooperative Group members will meet CLS’ liabilities if needed.
The combination of the deteriorating financial trend and reported loss of £3.4m for the first half of 2013 should and is likely to trigger contact between the SRA and the CLS. That doesn’t mean that CLS is at risk of intervention though. If financial viability is the only issue being considered, the SRA would initially consider whether supervision is required. Whether the SRA place CLS under supervision will depend on CLS’s ability to assure the SRA that:
- its business plan is sound
- its reported losses will not affect the viability of the business
- it is able to meet its’ liabilities to creditors, and
- its losses will not lead to cost-cutting measures that might increase the risk to clients–in particular an increase in the ratio of unadmitted to admitted fee earners
The SRA might be more concerned about CLS’s other announcement–that it will run its banking group, funerals business and legal services as stand-alone businesses from next year. This may raise issues for CLS in light of the separate business rules (chapter 12 of the Code of Conduct), confidentiality (chapter 4 of the Code of Conduct) and independence of the legal services arm (Principle 3).
What can businesses contemplating becoming an ABS learn, if anything, from CLS’s situation?
Potential new entrants might learn that:
- most legal services are not easily commoditised
- marketing has yet to replace personal recommendation as the primary source of instructions
- a strong brand image in other sectors will not instantly be of appeal in the legal services sector
- it is difficult, if not impossible, to make a profit from publicly funded legal services
- a high ratio of unadmitted to admitted fee earners is unlikely to attract more profitable work
- while many consumers are often not immediately able to judge the quality of advice/service they have been given, in the long term, a reputation for lack of expertise may have serious consequences for an ABS’s viability
Nationwide campaigns advertising legal services are still relatively new and infrequent. For CLS, it’s probably too early to tell whether its advertising will be effective. Whether it will succeed could depend upon the campaign’s ability to foster a reputation as a trusted service provider.
Some consumers may consider that they are less likely to be served by an experienced solicitor when instructing a large ABS such as CLS–some may also consider that the legal services they require are too personal to share with what they perceive is a large corporate entity.
However, other consumers may consider they will enjoy better customer service, or achieve better complaints redress with CLS. Its multi-million pound advertising campaign will only be commercially justified if it can capture a large enough market share. At this stage at least, it’s difficult to see how nationwide television advertising will attract profitable work–surely only a good reputation will do that.
Robert Forman is a senior associate solicitor at Murdochs Solicitors and the Lawyers Defence Group specialising in solicitors’ professional discipline and regulation, professional indemnity insurance coverage investigations and voluntary practice closures.
Interviewed by Duncan Wood.
The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.