With the dust having settled on 2013, David Johnstone, managing director at Recovery First, takes a look at what 2014 is likely to bring in terms of legal practices seeking assistance from the restructuring and insolvency profession.
The last quarter of 2013 saw 136 firms close for a variety of reasons, many of them to do with the Professional Indemnity Insurance (PII) debacle. However, numerous others closed prior to the PII renewal date of 1 October. In all likelihood, 2014 will see that number rise significantly as the legislative changes that came into force in April last year start to bite.
Change is difficult for most in any walk of life and while shock at the level of change in the legal sector is gradually translating to acceptance, a high proportion of legal practices remain in denial, failing to seek external advice early enough for there to be many options left for the business. Whether that trend changes remains to be seen. 2014 has already seen further activity in respect of formal processes and the number of strategic decisions to exit the personal injury (PI) market has risen.
The level of change and the very narrow and niche nature of claimant PI firms may influence earlier engagement. The legal press regularly carries features advocating early engagement and it is also promoted by the Solicitors Regulatory Authority (SRA).
Regardless of the timing of the approach for assistance, it is imperative that IPs have a clear understanding of the principle asset held by claimant PI law firms and PI departments within multidisciplinary firms’ work in progress (WIP), if a sale or restructure at an undervalue is to be avoided.
Unlike WIP in a manufacturing scenario, WIP in a claimant personal injury file is a highly sought after commodity by firms that have invested in IT, processes and business structures they believe will allow them to remain profitable, despite the dramatic reduction in revenues achievable from new matters opened today. Albeit diminishing over time, the fact that a proportion of books of business transferred will have pre-31 March matters within them, attracting remuneration under the old regime allows practices continuing in claimant PI to bolster the percentage of work performed at the old levels of remuneration.
When reviewing a balance sheet on a break up basis, WIP is immediately discounted heavily, unless it involves raw material or finished goods. The general assumption is that if work is part way through a process, that process will be substantially unique to the business concerned and a market for something half-baked will be very restricted indeed. Claimant PI files, however, offer the opportunity to add value taking the matter to a conclusion. The processes and progression of such legal matters are fairly standard across the sector therefore, other than an investment in time getting up to speed as to where in the process the file is, the matter can slot into the firm’s own case management systems. Value can be added by taking it to conclusion and the defendant then billed for all work, both pre and post transfer, performed on the case.
The contingent nature of the work – only having any value if concluded successfully, the mix of matter types, the assignability of Conditional Fee Agreements, client care around the transfer process, attrition rates and the different settlement profiles by matter type – does complicate the issues.
Other factors also come into play – successor practice issues, TUPE if the whole book is transferring to one firm, the quality of the work performed on the files, the lack of time to identify a purchaser, the covert nature of the tendering process. These factors, while justified, all play into the hands of the existing buying community. If the risks are not fully understood by the selling party, heavier than necessary discounts will be negotiated by the very experienced buying community.
Rather than fully discounting, there is a growing trend for work transferring on an earn out basis. While this can improve the percentage of the WIP value that flows back in to the process, care must be taken to ensure visibility of case progression. In addition, agreements require tight drafting to ensure equitable apportionment of fees recovered. To be managed successfully there has to be investment in monitoring skills, as well as the demonstration to the buying party of a deep understanding of the processes, if time delays and under settlement on individual matters is to be avoided. As such cost/benefit analysis is required and sub-contracting to specialist providers needs to be considered in respect of the niche element of the work.
By understanding the risks, mitigating them and achieving full value for the WIP that will ultimately be liquidated, IPs can significantly improve the returns achieved for creditors where a formal process is required.
To find out more visit www.recoveryfirst.co.uk
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