More law firms will face regulatory intervention as banks prove less keen to lend, says expert

Restructuring expert Steve Cottee of Pinsent Masons, the law firm behind Out-Law.com, said that the collapse of highly-respected law firm Cobbetts LLP in February 2013 had changed the perception by banks that "law firms don't fail".

"Banks have always been very keen to lend to law firms, even without the security of a debenture or personal guarantees from members in LLPs," he said. "Law firms hold very large client account balances and in times of high interest rates this was a good source of income for the banks and for the firms themselves. There was also no large law firm failure following the financial crisis of 2007-08."

"The feeling amongst many lenders now is that if a firm like Cobbetts can collapse, then there is a large number of similar firms that will be facing the same problems. This has been combined with a sharp increase in the number of SRA [Solicitors Regulation Authority] interventions into firms already this year," he said. "In addition to this, the UK legal market is going through the greatest upheaval that it has ever experienced. It may be that the legal profession is set to experience its own financial crisis similar to the banking one in 2008."

The SRA is the regulatory body for solicitors in England and Wales. It has a statutory power to intervene in the affairs of a law firm where the firm is unable to wind down in an orderly manner and intervention is in the public interest. When an intervention takes place the SRA takes control of any client money, documents and papers. After a firm has been the subject of intervention it can no longer act for its clients.

Earlier this month the SRA increased its estimate of the total cost of interventions in 2013 after 15 interventions took place in the first four months of the year at an estimated cost of £2 million. Two of those interventions, into Birmingham firm Blakemores and Atteys of South Yorkshire, could eventually cost £800,000 and £1m respectively because of the nature of the issues involved. The total cost of interventions in 2013 may ultimately be as much as £7m greater than the budgeted costs, the SRA said.

The regulator is currently seeking financial information from "firms in those markets experiencing the greatest pressure", such as personal injury and conveyancing, to help it assess whether those firms could be at risk of experiencing financial difficulties. It has confirmed that it is in "intense engagement" with 160 law firms at risk of failure, and that more than 30 of the top 200 UK firms are in "serious financial difficulty", according to restructuring expert Steve Cottee.

Cottee cited a "perfect storm" of professional practice reforms, increased costs and low interest rates combining to increase the pressure on struggling firms. He warned that these issues could lead to "a number of autumn law firm casualties".

"This year alone we have seen a squeeze on legal aid through means testing and restricting the cases for which it is available," he said. "There have also been changes to the recoverability of success fees on conditional fee agreements and after the event (ATE) legal insurance premiums. Competition is gradually being introduced via Alternative Business Structures. Client expectations are constantly increasing and there is a push back on hourly billing and the level of fees, whilst the fixed costs that law firms are subject to continue to rise."

"A low interest rate environment also means little money is now earned on client account balances. Many larger firms have never been able to replace the fee income they lost in 2008, however they find themselves occupying expensive properties they signed up to in 2006/07 on long leases, which now have vacant floors and are dragging down profits," he said.

"The autumn is a key time for many law firms. They will have paid their partners' tax bill in July, will have had an inevitably quiet August and then come back to the office in September facing a rent quarter date, followed soon by having to find the funding for the PI insurance premium due for all firms on 1 October 2013. Many law firms will find that some of the secondary lenders they previously relied on to fund the PI insurance premium will no longer have the appetite for such unsecured lending," he said.