On a recent M&A transaction, a buyer made a mistake on the day of completion by sending through the final payment of billions of pounds from an account that didn’t have enough money in it. They quickly rectified the error but then the deal was delayed because of a bank administrative fee from the first payment, which meant the amounts did not add up.
A multi-billion-pound deal ground to a halt over a £110 admin fee.
“This wouldn’t have happened if firms still provided client accounts”, said a partner with knowledge of the deal.
But the firm on the transaction, and many others, no longer handle completion money, a system in which firms hold the money on behalf of the client in order to see the transaction through smoothly.
Most U.S.-based firms moved away from the practice years ago. But in the U.K., the change has been more recent, speeding up particularly through the pandemic, and it has mostly taken place at firms that handle large-scale M&A.
The service has been “going out of fashion” for many years, according to Edmund Reed, managing partner at Travers Smith—particularly for firms working in large-scale M&A. The pandemic sped up the move away from client accounts, he added.
“We don’t really set them up now,” he said. “We might offer one or two a year but basically we don’t do it.”
Reed said a lot of U.S.-led law firms and M&A-focused U.K. firms don’t offer such services anymore due to the risk involved. “The risk of online fraud has just gone up and up. It is a different world and a different risk profile compared with when solicitors started to do it 300 years ago. It feels like an anachronism.”
He added that on a large M&A transaction, there could be billions of pounds running through solicitors’ accounts which, if something went wrong, could be “potentially firm-ending.”
Out of fashion
Clifford Chance, Allen & Overy, Freshfields Bruckhaus Deringer, Linklaters and Slaughter and May have all stopped handling client money as a matter of course, according to some partners at rival firms. One private equity partner at a large U.S.-led firm said the largest U.S.-based firms, such as Kirkland & Ellis and Latham & Watkins, no longer handle client money. All of these firms declined to comment or did not respond to requests for comment.
One corporate partner at a Magic Circle firm said their firm’s policy was to “to try and avoid doing it if at all possible because of the risks”.
“We’re not a bank, it’s not our job,” they added. “When you’re dealing with M&A and very material amounts of money, what happens when you give an undertaking and then a client rings you and says don’t let the money go, because there’s been a fraud? Then you’re stuck between a rock and a hard place as you’ve already given that undertaking. You are then really in an impossible position. I would rather use [a bank’s] escrow services.”
The partner added that in “very limited circumstances with a very clear undertaking, I might use them”.
In addition to the risk involved, a London private equity partner at another large international firm said the complexity of the money involved in M&A transactions had also made it increasingly difficult for law firms to keep up. “If you have got dollars, pounds, euros going into 15 different countries, it is a hassle. And firms get no extra money for doing it.”
Another private equity partner said he was once involved in a deal where money was coming into a client account from dozens of sources. One of those failed to pay an administrative fee, which meant the $1 billion deal was stalled by a $30 fee. But the delay was particularly stressful because some of the money was in euros and one of the buyers stood to lose around €70,000 because of negative interest rates for euros.
Clients now have to use banks, such as Citi, JP Morgan or Bank of America Merrill Lynch to transfer their money on transactions, partners said. Custodian services can also be provided by the likes of Global Loan Agency Services, Law Debenture and ABN Amro.
One corporate partner at a transatlantic firm said banks and custodians can charge between £20,000 and £30,000 for providing such services, which can upset clients who had been used to getting the service from law firms for free.
The high fees relate to the complex regulations involved, including Know Your Client and anti-money laundering rules, partners said.
The pivot started in 2017 when three Clyde & Co partners were each fined £10,000 by the Solicitors Disciplinary Tribunal for breaching money laundering rules by allowing the firm’s client bank account to be used as a banking facility. It was a watershed case that set off alarm bells across London’s legal industry.
In the years following, most large firms moved away from providing escrow services, an additional pot of cash that firms would hold on behalf of clients in order to account for late price changes, foreign exchange movements and other things that could change in the final stages of a deal.
But handling client money has not died away completely.
At Fieldfisher, managing partner Michael Chissick said that the firm still provides the service to clients. “Traditionally, one of the reasons law firms are liked by their banks is because they have lots of money hanging around in client accounts. We see it as part of the service [for clients].”
He added that during the financial crisis, there had been discussions about whether it was too risky for firms to be involved with movements of large sums of money. But that concern had died away.
However, there could be future situations where firms could find themselves in an uncomfortable position of holding money at the moment the rules change such as regarding sanctions against Russia, he said.
One corporate partner at a large U.K.-based firm said their firm still handles client money on smaller deals, but added the firm might be reluctant to do so on a large-scale M&A transaction.
From a regulatory perspective, Giles Murphy, a law firm accounts expert at Smith & Williamson, questions whether today the risks of holding client money outweigh the benefits, adding: “You used to be able to earn significant interest on client balances, but not anymore, with low interest rates. The ability to hold client money is often part of the overall service, but increasingly it may not be required, and it’s quite a big regulatory burden. Therefore the upside is not great.”
It is a point echoed by a law firm corporate banking expert, who said that, while many law firms still offer client money services, it is becoming a “thornier” issue, as some firms struggle to contend with the SRA prohibition against providing pure banking facilities.
Rule 3.3 of the SRA Accounts Rules states: “You must not use a client account to provide banking facilities to clients or third parties. Payments into, and transfers or withdrawals from a client account must be in respect of the delivery by you of regulated services.”
Nevertheless, several firms have been fined in recent months for falling foul of the banking facility rule—Mishcon de Reya, Clyde & Co, Womble Bond Dickinson and Ashfords among them.
The law firm banking expert added: “It’s useful [for firms] to provide escrow services. They assist greatly in transactions—particularly where fixed assets are concerned—and help build trust between lawyer and client. But if there aren’t clear legal services attached to these sums, then you slide into ‘unregulated banking’ territory. It raises alarm bells: AML concerns, hidden assets etc.
“That link between ‘legal service’ and ‘banking facility’ can become tenuous,” he added, “particularly for protracted transactions or, oddly, when you’re too close to the client and money is being held for them for something not directly connected to a client matter. It’s sort of trust biting you in the proverbial.”