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Utopia, Dystopia and Alternative Business Structures

I’ve spent a lot of time over recent months thinking about alternative business structures and how to think about regulatory liberalization.

Except in very limited circumstances[1], only lawyers[2] can have an ownership interest in a legal practice whether organized as a partnership, a limited partnership or a professional corporation. As a practical matter, only legal and strictly ancillary services can be offered to clients by a legal practice.

Individuals and small businesses are overwhelmingly served by lawyers in sole practice or in small firms. Lawyers sell their time to clients. Time is measured in billable hours. The inexorable arithmetic of the number of hours in the year and the cost of overhead together with the market alternatives of most people who have the capacity to become lawyers results in hourly rates of $150/hour and up.

The current business structure is selling time by the hour in sole and small practice with the financing of the practice by the lawyer out of his or her own resources (or by personal bank borrowings). I think of this as the small professional consultancy structure.

In a recent paper[3], Professors Iacobucci and Trebilcock discussed constraint of law firm business structures using two separate economic concepts. Under the “theory of the firm”, there can be economic advantages for owners (and customers) not to have to go out into the market but instead to obtain related services within the firm. Under the heading “capital structure”, constraining access to capital limits what a business can do because capital is required for business and technological innovation and because owners who can only invest their personal resources are naturally conservative. Few individuals are willing to risk everything on a risky innovative venture.

In another recent paper[4], Professor Ray Worthy Campbell looked at the topic of innovation and scholarly thinking about Disruptive Innovation. The point made is that some innovations are disruptive and that some are sustaining. It is difficult for a successful business to adopt a disruptive innovation. In the 1970s, IBM was Big Blue – the manufacturer of 360 and 370 main frame computers. IBM didn’t and couldn’t bring the personal computer to market. Young entrepreneurs like Bill Gates and Steve Jobs came from their garages not from IBM.

For a lawyer, there are sustaining innovations that are easily adopted; like memory typewriters, word processors, fax machines, desktop/laptop computers, smart phones and the like. These innovations sustain the consultancy and are affordable by small consultants. But other innovations are disruptive of the consultancy and require resources and expertise out of the reach of the small consultant.

Professor Campbell discusses three business paradigms; “solution shops”, “value chains” and “value networks”. He says that lawyers, doctors, detectives, engineers operate “solution shop” businesses. To my way of thinking, there are all consultancies with the size of the consultancy being tied to the economic size of the problem seeking a solution.

A “value chain” transforms inputs into products by a process. Think Ford, GM, Chrysler or Google Translate. A “value network” links customers for collective advantage. Think Ebay, an insurance company or Home Hardware. The point is that the competencies required for these different business types are very different. A professional consultancy is very unlikely to evolve into an essentially different type of business.

So why is any of this interesting or possibly useful? One answer is that there are substantial areas in which legal needs are going unfilled because the legal services are simply too expensive according to the potential client. But the only way to reduce price under the small consultancy model is for lawyers to reduce their incomes. In contrast, value chain businesses can develop business and technological processes to deliver services differently. In the 1970s, I worked part time while a student for H&R Block doing tax returns using pen, paper and a calculator[5]. Now I use Quicken downloaded from the internet. Quicken now is cheaper than I was then – and more competent too! While law is more complicated than tax return preparation, technology already exists to address legal problems and the pace of development is only accelerating.

Another answer is that lawyers practicing alone in small consultancies don’t have access to business and legal infrastructures that would make practice better both for the lawyer and for the client. Many lawyers would rather practice law and not have to run a small business as well. Lawyers operating as smalls and soles tend to reinvent the wheel rather than draw on existing knowledge or on the expertise of others.

A third answer is that legal service innovations are occurring but not involving lawyers because lawyers aren’t allowed to combine their legal practices with the innovators[6]. Regulation of lawyers doesn’t stop innovation. It just dictates where innovation won’t happen.

The reformer sees the possibility for clients to be served who are not now being served at all, for current clients to be served better and for lawyers to be innovators rather than to have innovation done to them.

The risk for the optimistic reformer is utopian thinking. It is unlikely that legal practice will be transformed. There is no doubt real value in small consultancies. Lawyers are, by nature, independent and sceptical. Many are probably well suited to practising on their own. And being an employee in a large enterprise isn’t always great. Some employers are better than others. There are advantages and disadvantages. And disruption means that some firms will be winners and some will be losers.[7]

So what is the issue on the other side. There are essentially two issues. The first is protectionism which is rarely, if ever, expressly stated. Lawyers, like everyone else, fear change that could adversely affect them. This fear of adverse consequences of course gets dressed up as something else; sometimes consciously and sometimes not. The deeper and more important issue is independence, both of the profession and of the individual lawyer as professional advisor/advocate.

The pessimistic conservative fears a dystopia; that allowing any alternative business structures will transform the practice of law. Lawyers will no longer be in charge of their practices or of their profession. The rule of law and our free society will be imperilled. Any change could mean total change.

The dystopian naturally does not see sufficient advantage in reform to justify perceived real risk of devastating change. Any change may lead to this dystopia. The dystopian looks in vain for promises of transformation of access to justice and legal services that could justify such a risk but there can be no such promise.

The truth of the matter is that the advantages of ABS liberalization are probably limited and that the risk of significant harm from ABS liberalization is probably remote and capable of mitigation.

Where I end up is that we should try to be more sensible and less visionary in our approaches and in our justifications. It is not necessary to throw caution to the winds in order to permit greater innovation. We should look hard at specific rules and think clearly about whether there are sensible less restrictive alternatives.

In Ontario, the Law Society Act instructs that the Law Society has duties to (i) maintain and advance the cause of justice and the rule of law, (ii) facilitate access to justice for the people of Ontario and (iii) to protect the public interest. All of these duties are in play in the alternative business structure discussion. The reformers see the prospect for greater access to justice (and legal services). The conservatives fear impairment of the cause of justice and the rule of law. Both seek to advance the public interest. Neither is wrongly motivated.

But there is another relevant instruction in the Law Society Act which states as a principle that:

“Standards of learning, professional competence and professional conduct for licensees and restrictions on who may provide particular legal services should be proportionate to the significance of the regulatory objectives sought to be realized.”

I think that there is much wisdom in this pragmatic non-utopian non-dystopian principle. The issue of ABS regulatory liberalization is best addressed pragmatically and incrementally.

In sensible Canadian fashion, we should be able to renovate the kitchen without destroying the house. Throwing all caution to the wind risks real harm. Being unwilling to reform for fear of revolution fails to achieve attainable advantages but also ultimately risks radical change imposed by others.



[1] In BC, family members can own shares in a professional corporation. In Québec, regulated professionals can be partners and shareholders in multi-disciplinary corporation. There are a few, very few, Multi-Disciplinary Practices (MDPs).

[2] and regulated paralegals in Ontario

[3] Edward Iacobucci and Michael Trebilcock, An Economic analysis of Alternative Business Structures for the practice of law, Commissioned by the Law Society of Upper Canada for its ABS Symposium held October 4, 2013

[4] Ray Worthy Campbell, Rethinking regulation and innovation in the U.S. legal services market, 9 NYU Journal of Law & Business 1 (2012)

[5] In 1973, the HP Calculator was a new technological innovation. It was a sustaining innovation for consultancies including tax preparation.

[7] Which doesn’t necessarily mean that the people in the disrupted practices won’t find new and perhaps better opportunities.

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Comments

  1. A thoughtful and helpful blogpost — thanks. I agree that the way forward likely lies somewhere between dystopia and utopia. In relation to the potential of ABS to improve access to justice, I think your point that we need to think beyond the threshold question of ABS v Not-ABS is especially important. In other words, I think we need to do more than just cross our collective fingers that ABS can produce improvements in access to justice. We need to consider how best to structure the introduction and regulation of ABS so that the production of gains in access to justice is built into the new reality. That means taking a close look at what regulatory incentives or directives (or, perhaps as a last resort, taxes on the new capital investments) might ensure the development of affordable, effective and fair legal services and products for people with currently unmet legal needs. For instance, the UK is seeing the emergence of charitable and not-for-profit ABS, while Trebilcock has also written about the potential of our public legal aid agencies to become legal services innovators in the public interest (although that piece looked to a public legal expense insurance scheme as the possible source of capital). So, as usual, the devil will be more in the details of ABS than in the threshold debate of ABS v Not-ABS.

  2. I enjoyed reading your analysis complete with cautionary warnings about calculating the real costs of a simple renovation (kitchen vs. whole house). I do not think the public perception of the legal profession includes a “sense” of the profession being early adapters to change or visionaries especially, when it comes to affordable pricing policies. I know some professionals, who bill on an hourly rate basis always bill 100% (Premium pricing) for their time while others “write off” unproductive time (Cost-effective pricing). What is really at stake here? The risk for the public is great. Can they even afford to hire a lawyer let alone sustain these costs (taxable) over time? What are the person’s chances of being fairly and justly heard without legal representation? The public’s hiring practices of lawyers, by and large, are dependent on the lawyers successes in dealing decisively with adversity in a cost effective manner. For some lawyers, innovation in service offerings and pricing policies, is an important factor weighing on the decision to offer specialized services and provide “awesome” customer service. In the long run, the success of this business model (ABS) will depend on the quality of customer base and the customers staying with this business model. How can you value your own business if you don’t understand the changing markets and trends for the services provided by your competitors? How should you choose the most appropriate method? “The pessimist complains about the wind; the optimist expects it to change; the realist adjusts the sails.” In the end, I have little doubt that lawyers and their firms (will thoughtfully and carefully) negotiate the winds their own way.