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Merits of modern partnership structure

1 August 03

Firms that have converted to limited liability partnership explain their reasons

by Roger Mackenzie

While the number of legal firms in Scotland reconstituting themselves as limited liability partnerships remains too small to indicate a trend, there is evidence to suggest that in time it may slowly become the corporate structure of choice for new or evolving firms.

Solicitors advising clients on their choice of business medium have, of course, had to present the LLP option since April 2001. But, until now, the profession has been slow to adopt the new entity.

Now with press reports suggesting that Brodies will soon adopt the LLP vehicle, it seems that firms are starting to conclude the advantages of limited liability outweigh their discomfort over the disclosure requirements.

Miller Samuel in Glasgow are one of six firms in Scotland now incorporated as a limited liability partnership. They examined the pros and cons of the LLP structure and decided it seemed to provide a modern format of what a legal business should be, explained founding partner Michael Samuel.

“I didn’t view it as a huge progressive stage for our business. We do not see ourselves as anything different to before. We are still members of the Law Society, practising as solicitors with a duty to clients, to the public and the profession. Our attitudes have not changed.

“But I think this new format reflects that, as well as being professional people, we have businesses to run. The public won’t benefit in any shape or form if we cannot run our business properly, so if we are efficient ourselves, we are efficient to the public as well.”

Stuart Duncan of Edinburgh firm Davidson Chalmers thinks many firms have shirked LLP status because they can’t anticipate the practical effects of incorporation, in particular how clients will react. A lot of the larger firms are probably pondering and hovering on the fence waiting for some of their peers to do it first and see the sort of reaction they get.

For his firm, the main reason for opting to adopt LLP status was the issue of liability. Limitation of members’ liability to contribute to the debts of the firm is of course at the core of the case for incorporating as a LLP.

“There is no doubt that we are now living in a much more litigious society, professional firms are being sued on a more regular basis, rightly or wrongly, and individual partners have got to look at their individual exposure. That exposure will become greater in the future, there is no doubt that limited liability gives partners the prospect of being able to sleep easier at night and avoid catastrophic claims. Our practice is very much split between commercial property and corporate work and the type of work we do means we get involved in potentially very large transactions and significant exposures.”

For Boyd Napier in Edinburgh, LLP was the model of choice as they embark on an ambitious policy of expansion by means of acquiring other firms, said Peter Boyd.

“If it had just been limited liability, we wouldn’t have done it, but it was the new system of corporate governance it gave us that was the main attraction.”

For Boyd, the appeal of LLP was in running the firm like a plc, with independent management, and all the controls that go with that.

He was clear that the only way forward for a modern expanding business was to adopt LLP status.

“We run the business more like a limited company, than a traditional partnership, with shareholder members and “director” lawyers, who either come with the businesses we take over, or are new appointments. No capital is required from solicitors at any level and capital from an existing business is paid out, so there is a one off windfall,” said Boyd.

LLP is therefore fundamental to the firm’s strategy to develop a business which, says Boyd, aims to have all the back up and resources of a large legal partnership with the regional advantages of a small business.

Without the hindrance of the old partnership model, part of the business plan was getting someone skilled in management, rather than a lawyer, to run the business as Chief Executive.

Linda Sturgeon, formerly with Maclay Murray & Spens, was appointed as Chief Executive to manage all aspects of the business including strategy, finance and staff.

“Management by committee just doesn’t work nowadays and once you start taking on more people, it has to be run someone with strong management discipline,” said Boyd.

Duncan agrees that LLP also offers a better basis for streamlined firm management.

“We started looking at what the other advantages would be; from an internal perspective as we are actually a relatively new firm, having been in existence for only ten years, we had always modelled our business management along corporate lines.”

Similarly Michael Samuel suggests it’s probably not the way forward for every firm.

“I would imagine the only firms that would do this would have good internal organisation or they would not have the patience or energy to take this on. It would be more suitable, though not exclusively, for medium sized firms,” said Samuel.

However, for partners seeking to review their arrangement, incorporating as a LLP can offer the ideal chance said Mark Wilson of Glasgow firm Turner Macfarlane Green.  

Yet while internal structures are important, client satisfaction remains key. Emphasising that, at Davidson Chalmers, it was critical to the process to keep clients informed and on board.

“We looked at it from the client’s perspective and thought what are they going to think about this, are they going to conclude we’re hiding behind the cloak of limited liability, but we thought that was unlikely in view of the fact that the vast majority of our own clients realise the benefits of running their own companies as LLPs,”  said Duncan.

After speaking to a selection of their clients none expressed any reservations about them going down that route. “Actually quite a few gave us a pat on the back”.

Duncan suggests for any firm contemplating LLP status, consulting their clients is imperative.

“I think many legal firms see the advantages but the big fear factor is what clients will think. You are never going to find out unless you speak to them.”

Like Boyd Napier, Davidson Chalmers saw LLP as being attractive to new partners coming into the firm, to show there is a corporate structure in place with the benefit of limited liability.

At Boyd Napier, LLP also serves as a recognition that firms will have to capitalise differently. Boyd regards LLP as an acknowledgement that under the old model,  everybody had enough capital invested in the business as well as taking on personal liabilities beyond that.

“We are not simply taking what we had with the old partnership model and saying we are becoming a LLP. This is a totally different structure.  

“What we are trying to do is almost turn the clock back to become a large legal business as firms were 20 years ago before the estate agents, IFAs and surveyors picked off all the nice bits.”

But what of publication of accounts? Lawyers’ traditional reticence to disclose financial details must serve as a deterrent to more widespread adoption of limited liability.

“A lot of firms see the publication of accounts as being a downside”, said Duncan. “Many professional practices are very secretive and they do not like imparting confidential information about financials. From our point of view we have never seen that as a problem because part of our philosophy is very much open-door, we are transparent about what we do and don’t see publishing accounts as being a huge problem.”

In fact, Duncan suggests, publishing accounts may be positively advantageous if you’re doing well. In any case, the amount of information firms display at Companies House is very limited and anyone contemplating joining a firm at partner level would always be advised to examine a firm’s accounts in advance.

“I think commercial clients and third parties see firms as being forward thinking and commercial in their outlook if they are prepared to divulge financial information,” said Duncan.

On the other hand, some firms will be contemplating LLP because of the prospects of reducing their PII cover. On page eighteen, Alistair Sim answers frequently asked questions as to the impact of limited liability on firms’ PII cover.

Duncan said Davidson Chalmers looked at the firm’s PII and decided to raise their cover to make sure that clients were aware that they were not using the LLP as a means of trying to reduce the level of comfort to them.

“Clients are looking at the strength of your relationship with them and your track record in dealing with them as opposed to looking at the personal worth of the individual partners in a situation when something goes wrong,”.

Of course it’s likely that one barrier to prevent firms from incorporating is the existing partnership structure, for example you may have an agreement that says all, or 75% of partners, have to agree if they want to convert or change the operation.

In practice it’s such a fundamental change, it’s unlikely that any firm would do it unless they had full support of each of the partners.

In a medium sized firm, like Davidson Chalmers ,with seven partners, it was much easier to harness support and that may explain why for larger firms, getting the necessary consensus is difficult.

For firms setting up in partnership for the first time, choosing LLP ought to be a “no-brainer”, says Mark Wilson. “I would be most surprised if anyone setting up now would do so under the 1890 Partnership Act.”

A further impediment to more firms setting up as LLPs may be the natural coyness of many in the profession. As Wilson states “lawyers are by nature afraid of change”.

Stuart Duncan said: “Many small firms who do not do corporate or commercial work might not know what the process actually involves. Lawyers are proud by nature and might not be prepared to stand up and say we like the idea of LLP but we do not know what is involved in doing it.

“Firms won’t like the idea of hiring other lawyers to do this, you are going to have to disclose huge amounts of information and personal details.”

So, do those who have incorporated as LLPs think it will become commonplace?

“I think more and more people will do it,” said Michael Samuel.

 “In some ways I would say come back in five years and I will tell you if it’s a good thing or not. It’s probably a bigger step forward for larger firms who would have more people that would need to agree to it, everyone has got to agree to buy in and it’s not always easy to do that in a large firm. But it certainly wasn’t the most momentous decision I’ve ever made.”

Stuart Duncan also isn’t so sure it will catch on. “I think more accountancy firms will do it rather than law firms. For small firms it could take up a lot of resources. The other barrier is possibly the culture change that more traditional partnerships might still not be comfortable with.”