Lawyers Incorporated?
Jan 29, 2009
In 2007, Australia’s Slater & Gordon became the world’s first publicly-traded law firm. This begs the question of why no law firms have been public corporations before now — as well as whether this development is a good thing. We tend to take for granted that law firms are organized as private partnerships. In fact, law firms are actually prohibited from being publicly-traded corporations — legal regulations around the world prohibit non-lawyers from being owners of law firms. But these prohibitions were recently lifted in Australia and in the UK. This has fueled debate within the Canadian and US legal professions about whether law firms should be allowed to go public and, even if allowed, whether they should bother.
Opponents to outside ownership of law firms warn that it could lead to a decline in the integrity and quality of service to clients. The foremost concern, which underlies the prohibition on non-lawyer owners, is a presumed conflict of interest between obligations to clients vs. obligations to shareholders. The idea is that outside shareholders will influence lawyers to mis-advise their clients in ways that enrich the law firm — by, say, recommending expensive services that the client doesn’t need. A second concern is that without the ability to offer the traditional lure of making partner, a firm won’t be able to attract the best lawyers and so the quality of its service will decline. The fear is sometimes expressed as: “Do you want Wal-Mart selling legal services?!” Furthermore, many wonder why a law firm would bother with the burdensome administrative costs and reporting requirements entailed in public ownership, given law firms’ lack of need for investment capital.
Against this, proponents of outside ownership tout benefits for clients and lawyers. By bringing capital and more corporate-style management, outside ownership could foster competition and organizational innovation that would compel more efficient delivery of legal services, hence lower fees. In other words: “yes, we want Wal-Mart selling legal services!” This was the motivation behind the reforms in Australia and the UK.
For law firm partners, the potential benefits of going public are straightforward. By creating a liquid market for the firm’s shares, public ownership helps monetize the firm’s intangible value, allowing for much higher share prices – thus much wealthier partners. Slater & Gordon’s shares, for example, sold at twice the firm’s book value, effectively doubling the partners’ wealth.
With only this single data point for evidence, these arguments remain pure conjecture. However, the collective experience of other professional service firms that have made the move to public ownership may offer valuable insights to this debate. Prior to the 1960s, similar professional prohibitions on outside ownership existed in the U.S. in advertising, securities trading (stock brokerages and investment banks), and management consulting. Amidst very similar debates – about client service, the ability to attract talent, and the value of outside capital – these prohibitions were lifted in all three industries (in 1962, 1970, and 1968, respectively). So what happened?
A quick look at only the firms that went public in these industries might suggest that outside ownership was a disaster. Among public ad agencies, the median stock return five years after IPO was -32%, and almost 30% of the firms that went public ultimately went private again. Securities firms’ stocks also sank soon after their IPOs. And one of the most prominent consultancies to go public, Booz Allen Hamilton, saw its stock price fall from the IPO price of $24 to $2 just two years later, and it re-privatized several years after that.
However, a systematic comparison with the performance of other firms in these industries over the same time period suggests that contrary to the anecdotal evidence, public ownership was not the source of these travails. Publicly-traded ad agencies did not grow more slowly or fail more frequently than privately-held ones. And the publicly-traded securities firms and management consultancies suffered not because they were public but because their industries were hit hard by economic downturns in the early 1970s.
More to the debate, service to clients does not appear to suffer under public ownership. Public ad agencies are as or more creative than private ones, as measured by winning of creativity awards. And public securities firms are not less ethical than private ones, as measured by the rate of adverse arbitration decisions in disputes with customers.
Thus, key fears about the consequences of outside ownership for law firms and their clients may be overblown. That said, these other professional services also offer some cautions about potentially negative aspects of public ownership. First, smaller professional service firms have fared poorly under public ownership, with slower growth, poor returns, and greater likelihood of failing or re-privatizing. In addition, the emergence of publicly-traded firms ultimately contributed to greater consolidation in both the advertising and securities industries, thanks to increased acquisition activity fueled by richly-valued public stock. Lastly, while public ownership did not adversely affect firms and clients in any particularly visible way, many partners in firms that went public ultimately expressed a sense of loss: that work became more boring and business-like, compared to the collegial, “fun” days as a partnership.
The history of public ownership in other professional services suggests that Slater & Gordon’s IPO does indeed portend important changes in the legal profession around the world. But there is little evidence that these changes will be systematically harmful to lawyers or their clients, and they may yield benefits to both (in wealth and lower fees, respectively). Of course, if North American law firms are allowed to go public, the headlines will focus on the isolated financial disasters and the pervasive lamentations by lawyers about the golden days of how the profession used to be — although given the proceeds they will have realized in their IPOs, we should imagine them crying all the way to the bank.
Andrew von Nordenflycht is as Assistant Professor in the Faculty of Business Administration at Simon Fraser University. This article was published in the January 20, 2009 edition of the Financial Post. To read it online, visit http://www.financialpost.com/story-printer.html?id=1196263