Let's Buy A Law Firm! – Management Service Organizations

Much has been made in the legal press and elsewhere following litigation funder Burford Capital's announcement of its intention to purchase minority stakes in U.S. law firms. Since, except in a few specific U.S. jurisdictions, legal ethical rules prohibit actual ownership of law firms by non-lawyers, Burford was apparently referring to a structure known as "Management Service Organizations" or MSOs. The MSO structure for law firms entails a law firm essentially splitting into two parts: one part being the legal service providing, client-facing portion and the other part being the MSO, which will take over all other law firm functions: administration, accounting, technology, recruiting, HR, real estate, etc. – anything not directly related to the practice of law. As with any other vendor, the MSO is paid a fee for providing these services.

While MSOs are a relatively new phenomena in the law firm space, they have long been a staple in other industries, most notably in health care. Numerous health care providers, especially physicians' practices, have taken advantage of outside capital and expertise in order to remove much of the administrative burden of running a practice and allow the doctors and nurses to focus on the practice of medicine. The adoption of MSOs in the health care field has been fairly widespread: other service industries like accounting and architecture have also adopted this model on a smaller scale. Many private equity investors (and litigation funders) are now looking to law firms as the next investment frontier.

Advantages

In addition to lifting the administrative burden from professionals, MSOs typically provide the capital necessary for the practices to succeed, including acquiring necessary equipment, software, real estate, etc., and avoiding the need for additional borrowing. Although law firms have not traditionally been considered capital intensive, that is no longer the case. The latest computer technology, not to mention being up to date on the latest cybersecurity safeguards and artificial intelligence tools, has become prohibitively expensive for many smaller law firms. Accessing outside capital through MSOs may just be a perfect solution for many firms. Finally, demographics play a role. Many U.S. "founder" law firms are led by an aging "baby boomer" population looking to scale back and/or take some money off the table. Being relieved of the administrative responsibility of running the firm, as well as being able to take some cash off the table by selling the non-legal assets to the MSO, may be an attractive solution for many.

Drawbacks

As stated above, MSOs are still fairly new in the law firm space, and whether they are compliant with legal ethical rules is still uncertain. Not only do the vast majority of states prohibit ownership of law firms by non-lawyers, they also prohibit firms from sharing legal fees with non-lawyers. The pro-MSO argument is that they are simply vendors, no different than the outside messenger services that most law firms employ. The counter argument is that MSOs are so entwined with the day-to-day management of the firm that it is simply not realistic to believe that they are not interfering with the attorney/client relationships of the firm. Only one decision so far, from the Texas Commission on Professional Ethics, has touched on the issue: the Commission ruled that MSO fees based on a percentage of the firm's revenues would constitute prohibited fee sharing. So, it would seem that MSOs' fees that are fixed or are "cost-plus" may be permitted, at least in Texas. But it remains to be seen how MSOs will be viewed in other, more conservative jurisdictions.

Finally, another big challenge for MSO investors in law firm is that their most valuable assets walk out the door every evening: the partners are free to move to other firms at any time, as most forms of non-compete agreements are unenforceable. As such, investors must ensure that the key rainmaking partners of the firm are sufficiently incentivized to stay. Providing these partners with minority equity in the MSO itself is one common tool used by investors in health care providers.

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