Legal Services Regulation Reform in Scotland: Consultation Analysis Reviewed – Part 4: Business Structures

This post, on business structures, is the fourth in a series of five blog posts, each one looking at different aspects of the Consultation Analysis on Legal Services Regulation Reform in Scotland.

That consultation comes on the back of the ‘Roberton Review‘, which was an independent Review commissioned by the Scottish Government in 2017 and chaired by Esther A. Roberton.

The Consultation Analysis sets the scene on what it seeks to cover with regard to business structures by stating:-

The consultation document set out the current legislation around the acceptable business structures and ownership rules for legal service providers. Currently 51% (i.e. a majority stake) of the business must be held by regulated professionals. This differs from the model in England and Wales, where solicitors and barristers are able to operate in a variety of business structures that their Scottish counterparts are not – thus impacting the latter’s ability to be competitive and sustainable. The consultation set out the possible benefits of removing the 51% majority stake rule and sought feedback on this.

Thus with regard to business structures the consultation asks just one question:-

To what extent do you agree or disagree that the 51% majority stake rule for Licenced Legal Services Providers should be removed?

Alternative Business Structures in Scotland

Esther Roberton, in her Report, states:-

In Scotland, progress towards establishing an Alternative Business Structure regulator or regulators is being made. The current statute includes a mandatory 51% ownership rule for solicitors or named regulated professionals to own most of the business with no external investor ownership. In England and Wales, up to 100% non-lawyer ownership is allowed in Alternative Business Structures, although at least one of the managers must be a regulated lawyer. The 51% rule does not fully enable Scottish firms to compete with non-domestic competitors and puts them at a disadvantage with regard to sourcing capital. The rule also prevents employee or community ownership schemes.

Esther states that “in Scotland, progress towards establishing an Alternative Business Structure regulator or regulators is being made”. However, the fact is that such progress is painfully slow.

The Legal Services (Scotland) Act 2010

The Legal Services (Scotland) Act 2010 (enacted on 9 October 2010) introduced for the first time the concept of Alternative Business Structures in Scotland.

It has taken over 11 years for appointment of the Law Society of Scotland as an approved regulator. This was announced on 22 December 2021. However, the scheme still has to launch. The Law Society’s press release stated:-

The Society is currently building the policies and processes that will support the approved regulatory scheme, which is due to launch in 2022.

We are more than half way through 2022 and still await the launch. So still no Alternative Business Structures in Scotland. However, we are ever closer. Even if it may end up happening 12 years or more after the passing of the 2010 Act.

Alternative Business Structures – Rarer than Nessie?

In 2016 the Law Society Gazette (i.e. the Gazette of the Law Society of England & Wales) looked at the question of Alternative Business Structures in Scotland with the headline ‘ABSs in Scotland – rarer than Nessie‘. They commented on the delays in implementing the Legal Services (Scotland) Act 2010:-

Four years ago the Law Society of Scotland reported an upsurge in interest in law firms north of the border becoming ‘licensed providers’, but warned that new regulations enabling them to convert remained ‘some way off’.

So it has proved. The issue, then as now, was the regulatory framework, encompassing matters such as spent convictions, rules relating to investors and limited partnerships. The Law Society submitted a proposed draft outline in 2012, but this has since gone through a number of iterations.

The Society’s website discloses that in early 2014 a revised draft scheme for licensed legal services providers was submitted to the government following further revision. That bounced back once again, until 18 months later – in December last year – the Society’s submitted another revised draft. This ‘followed further amendments made in light of comments from the government and other stakeholders’.

What those amendments are is unclear. The Society told the Gazette the December draft is not available.

It gets still more involved. A government consultation on the Licensed Providers Regulatory Regime – consumer watchdogs responded to it in May this year – is now closed. The Scottish government was initially unable to supply any further information and there is nothing posted on its website – but it did issue a statement to the Gazette later, making it clear there is still no timescale.

A spokesperson said: ‘The Law Society of Scotland has applied to Scottish Ministers for approval as an approved regulator in terms of the Legal Services (Scotland) Act 2010 so that it may license entities seeking to be licensed providers of legal services.

‘Before Scottish Ministers can approve, they must consult those who have relevant interests in the Law Society’s Regulatory Scheme, and the Lord President. The targeted consultation ended in May and responses analysed. Timescales for the approval and authorisation process are being considered.’

Of course, with Scotland’s profession ticking over nicely, stakeholders in government and the profession could be forgiven for not being greatly exercised about liberalising legal services.

The 51% Rule

The scene now set, back to the Consultation Analysis.

Should we keep or remove the 51% majority stake rule for Licenced Legal Services Providers?

The Consultation Analysis states that:-

There was a clear divergence of views for this question. Of those who indicated their level of agreement, just over half (52%, n=39) agreed that the 51% majority stake rule for Licenced Legal Services Providers should be removed, compared to 48% (n=36) who disagreed.

Although when looking at these percentages you have to be careful to remember that, as mentioned in my first blog post in this series, the Consultation Analysis highlighted that:-

there was evidence of coordination of responses. Mostly, this was respondents supporting the Law Society of Scotland’s organisational response.

Which possibly and maybe unrealistically adds more into the disagree camp.

Arguments against Removing the 51% Rule

The Law Society of Scotland’s position is:-

We are now at such an advanced stage of being able to introduce alternative business structures that we believe it would be sensible to delay any amendments until such a time as an evaluation can be made of how the legislation operates in practice and the extent to which this encourages – or discourages – new entrants into the legal services sector.

We have waited, and arguably slowed down the process, for 12 years for Alternative Business Structures. Should we really wait even longer before ridding ourselves of the 51% rule?

It doesn’t take a rocket scientist to work out that maintaining the 51% rule will discourage rather than encourage Alternative Business Structures. This is no doubt why that rule was lobbied for in the first instance. The unfounded fear of ‘Tesco Law‘ and the need for protectionism.

The experience from England & Wales is clear. They have had Alternative Business Structures for over 10 years now, with no 51% rule and no problems. We do not need to wait and see. We can look across the border. Realise we are already 10 years behind our more enlightened neighbours. Then decide not to fall behind again but to catch up as quickly as we can.

Reasons given by respondents, and highlighted in the Consultation Analysis, for maintaining the 51% rule included:-

I believe it is important for the profession and consumer confidence that the 51% rule continues to apply.

Law firms should be owned and controlled by qualified lawyers to protect the public.

Trust in the legal profession may be diluted if non-lawyers are allowed to control law firms.

Respondents forget that regulation of Alternative Business Structures is the same as any other legal services provider. And that to protect the public, the profession and consumer confidence.

These are all non-arguments that exhibit nothing other than unwarranted fear and inward thinking on the part of the respondents in question.

Arguments for Removing the 51% Rule

Those in favour of removing the 51% rule made comments such as:-

There is evidential support for the argument that a relaxation of ownership rules helps to sustain the supply of legal services in rural areas and to make previously small or solo practices more viable.

There is no evidence that the public interest or consumer protection requires a limit on ‘non-lawyer’ involvement. The assertion (usually by lawyers) that those who are not lawyers will inevitably and somehow interfere with or influence the independence of those who are is simply not proven.

By relaxing this requirement, it will likely encourage more cost efficient, innovative businesses which complement the provision of reserved activities with new technologies to enter the market.

Allowing ABS [Alternative Business Structures] without overly restrictive authorisation processes or overly tight requirements will unleash that innovation and bring it within the regulatory system… A lesson from England and Wales is that this innovation will spur a significant increase in multi-disciplinary practice.

There is now a long track record of the successful operation of ABSs in England and Wales without such restrictions.

We believe that any risks to the operation of ABSs from a relaxation of this ownership rule are minimal, as demonstrated by the experience in England and Wales.

Lifting this restriction would allow for efficiencies and streamlining of processes, which may result in reduced costs and increased choice for consumers.

The Australian Experience

Whilst I and respondents to the consultation have mentioned the experience in England & Wales we can also look a little further away to see what the experience is at the other side of the globe.

In New South Wales in Australia Alternative Business Structures are a 30 year reality.

The Journal of the Law Society of Scotland in 2010 reported on an interview with Steve Mark, Legal Services Commissioner for New South Wales:-

Mark comments: “All these changes have not, contrary to popular belief, destroyed the legal services marketplace in New South Wales. We have not seen a disturbing change in the practice of law. Nor have we seen a rise in the number of complaints concerning incorporated legal practices. In fact, we have seen a significant decrease in the number of complaints for incorporated legal practices.”

It is his belief that one of the main reasons why they have not experienced the predicted doom and gloom is because of the way they have decided to regulate incorporated legal practices, focusing on entrenching and promoting ethical behaviour and encouraging the profession to remain a true profession as well as operating like a business.

“We must remain vigilant but, by working with and educating the profession, the challenges have proved manageable”, he continues. “All of a sudden, after the financial crisis, everyone is looking at ways of moving away purely from shareholder value while providing better protection for consumers. We have got it – the legal community in New South Wales is leading the charge.

“Whatever system is adopted in Scotland, the experience here has shown that regulating for professionalism and ethical behaviour has allowed solicitors to respond to the shifting pressures and challenges of the marketplace while maintaining their well-deserved reputation for the highest of standards.”

A Canadian’s View on Business Structures in Scotland

In ‘The Great Legal Reformation: Notes from the Field‘, Mitch Kowalski makes the following comment about my own law firm Inksters and our ‘Plug & Play Law‘ model:-

It’s hard not to notice the marked difference between Inksters operating in Scotland’s traditional regulatory environment, and gunnercooke, which has taken advantage of England’s more enlightened approach to legal services regulation. Both have found success with virtually (pun-intended) identical models, but one can’t help but feel that Brian Inkster (and by extension a new generation of Scottish lawyers) is being unnecessarily held back from greater success by Scotland’s antiquated regulatory regime, which encourages short-term thinking by forcing lawyers to fund all innovation from firm revenue or personal loans.

Equity Investment and Law Firm Funding

On the question of equity investment and law firm funding an article in the Journal of the Law Society of Scotland by David Calder in 2015 stated:-

Are Scottish firms at a disadvantage? Put simply, yes. If one firm has fewer funding options than another, the firm with more options has an advantage. The question, however, is what impact that will have. I suspect not much.

Or rather, not much until a ‘Scottish’ McMillan Williams gets an investment of £5 million or more to put an office on every high street north of Berwick. The question then will be – how can firms that operate as small business units continue to enjoy the very real benefits of doing so, but still reap the benefits of scale enjoyed by a much bigger entity.

English law firms (who have these advantages) are increasingly looking north of the border and elsewhere for expansion. The Scottish Government cannot allow Scottish law firms to be disadvantaged any longer. And the Law Society of Scotland should not be encouraging such disadvantages.

Conclusion

The 51% rule should and must be removed without delay. There is no good argument for not doing so.

Indeed, as Scottish Ministers can do so by regulation (under Section 147(1)  of the Legal Services (Scotland) Act 2010) there is no need to wait for a new Legal Services Act.

They could and should now do it before the first Alternative Business Structures are licensed under the 2010 Act.

Other Posts in this Series

There are five posts in the series on the Consultation Analysis. The other four are:

• Legal Services Regulation Reform in Scotland: Consultation Analysis Reviewed – Part 1: Overview
• Part 2: The Potential Regulatory Models
• Part 3: Legal Tech
• Part 5: Complaints and Redress

For all blog posts on this topic see: Legal Services Regulation Reform in Scotland

Reactions on Social Media

On LinkedIn the following comments have been made:-

Graeme Johnston (Software for mapping work and getting things done):

I agree, for the reasons you give. A 51% rule is a rather simplistic way to seek safeguard independence anyway.

All that said – and just by of miscellaneous observation – it’s interesting to see that in England there are now some high profile minority investments coming into niche law firms, albeit in financial services / high stakes litigation. Probably not so suitable for the kind of capital needed for scaling up a service for the broader public.

Legal Futures: Litigation funder keen on taking more stakes in law firms

Legal Futures: Entrepreneurs group takes minority stake in boutique law firm

Me:

Thanks Graeme. And thanks for sharing the information from Legal Futures on minority investments coming into niche law firms. That is interesting.

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Mitch Kowalski (European/Canadian, General Counsel/Head of Legal, Legal Innovation Advisor – Works Globally):

The argument in favour of no change boils down to Stephen Mayson comments 10 years ago – lawyers believe they are inherently incorruptible, and those who are not lawyers are inherently corruptible and unworthy of the public’s trust.

Me:

Indeed. And the reality from the 10 year experience of England & Wales appears to be no increase in corruption.

In most cases the non-lawyer ownership is simply an investment with lawyers still engaged to do the legal work. The fear of losing work and jobs has never materialised. And supermarkets were not interested in providing legal services. Why would they have been?!

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Paul Ryan (Mobile and Web Apps For Legal):

It’s something of an aside to the main debate but for all the great law firms we have (and have had) in Scotland the lack of diversity in ownership is pretty striking. I’m sure better educated people than me can explain the benefits of the protected model but Law in Scotland looks to an outsider as very much a closed shop.

Me:

The first ABS regulated by the SRA in England & Wales applied to become one so a female (non-lawyer) practice manager could become a partner. As she said: “After we became an ABS and I went to conferences about them, 90% of people were doing it so financial people could become partners – not for any other reason.”

Much more likely to achieve diversity by opening shop ownership up. Scots Law needs to waken up.

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Iain Buchan (Trainee Solicitor (Dispute Resolution) | Notary Public (Scotland) | Thorntons Law LLP | ACIArb):

Thanks for sharing. IMO the 51% rule is not required. The ABSs in E&W work perfectly well. Provided they are regulated properly, there is no reason to require a majority of lawyers. I know of at least one ABS in England which would open in Scotland but the 51% rule is a barrier.

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Kate Burt (Advising Law Firms, Real Estate Businesses and Regtech Verticals on compliance, strategy and innovation | Industry Speaker):

I can see how this rule hinders progress and potential for investment. It’s time to level the playing field in my view.

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