Masterclass: Limiting the risks

Converting to limited-liability partnership has proved increasingly popular among UK law firms, but there may still be personal liabilities for LLP members, even after conversion. This is where firms will need to implement some additional protective measures.

A single undetected lapse of concentration on a large transaction, perhaps in the early hours of the morning, could bring financial ruin to all partners of a traditional law firm.

In the face of such danger, an increasing number of firms are responding by converting to limited-liability partnerships (LLPs), with CMS Cameron McKenna, Herbert Smith and Watson Farley & Williams among the latest to make the change. Many more firms are expected to convert during the next twelve months as the move towards LLP status gathers pace.

While LLP members will be protected from claims in contract, however, an individual member may still, in certain circumstances, incur a personal liability in tort. To what extent, then, will members remain personally exposed after conversion and what practical steps can be taken in order to minimise that residual exposure?

Personal exposure of members

There can be no doubt that there is a greater risk of a court finding that a member has assumed a personal responsibility where the members are professionally qualified and engaged in the provision of a professional service than where the LLP is an ordinary trading entity. There is, in particular, scope for misunderstanding as to whether a member was assuming a personal responsibility or merely acting as agent for the LLP. See generally the House of Lords decision in Williams v Natural Life Health Foods (1998) and the Court of Appeal decision in Merrett v Babb (2001).

There is no simple test for determining when a personal duty of care is owed, but a court is likely to consider whether, on all the facts, there was:

An assumption of personal responsibility by the member to the client or third party so as to create a special relationship. This will, in accordance with Williams, be determined objectively and the principal focus will be on things said or done by the defendant in his personal dealings with the claimant;
Reasonable reliance by the client or third party on such an assumption of personal responsibility;
Reasonable foreseeability of loss.

The first and second elements are likely to be critical; the third is unlikely to be in contention.

The principles enunciated by the House of Lords and the Court of Appeal were starkly illustrated in the Hong Kong decision of Yazhou Travel Investment Company Limited v Bateman Starr and Others (2004).

In that case, the claimant investment company sued their solicitors for negligent advice in connection with a substantial property transaction. In addition to the firm, the claimant sued both the assistant solicitor who handled the matter and the consultant who had overall supervisory responsibility.

The claim succeeded at trial. There was no dispute that the firm was vicariously liable for the acts and omissions of the solicitors handling the matter. The court also had little difficulty in concluding that the assistant solicitor and the consultant had assumed a personal duty of care and that the claimant had reasonably relied upon that assumption of responsibility.

It followed that all three defendants (including the two employed solicitors) were jointly and severally liable for the judgement of just under HK$100m.

The judge took the opportunity to discuss the personal liability of individual solicitors in more general terms and made the following observations:

“I venture to suggest that, in most cases, simply because of the personal nature of the solicitor-client relationship, there will be such a special relationship. The solicitor deals directly with the client, takes instructions from him and gives him advice. The client sees the solicitor as ‘my solicitor’ and relies on him as such, whether he is a member or an employee and, indeed, may continue to instruct the same solicitor if he moves to another firm, whether as member or employee. It is reasonable for him to rely on the solicitor with whom he deals. The solicitor sees the client as ‘my client’ and knows that the client will suffer injury if he makes a mistake in his professional work… Necessarily the solicitor assumes responsibility and even if he is an employee, the special relationship comes into being… In the common case where the client deals with an employed solicitor directly, there should be no difficulty in proving a relationship which gives rise to personal liability [emphasis added].”

While the law remains in an uncertain state and cases of this nature are fact sensitive, members are likely to be at risk for a number of reasons:

In the majority of cases, members are likely to have extensive personal dealings with clients (this being the principal focus of the courts in determining whether there was an assumption of responsibility);
Instructions from clients are usually sent to specific members in whom they repose trust and confidence. It will not, therefore, be difficult for clients to credibly contend that there was, in existence, a special relationship of the type referred to above. Indeed, the development and nurturing of such relationships is a cornerstone of the strategy of all law firms;
In practice, firms market themselves by promoting the individual expertise of their lawyers;
A judge is more likely to recognise the existence of a personal duty of care where the individual in question is a senior representative of a firm (particularly a member);
In the case of routine work that is undertaken by more junior staff, clients will rely upon members’ supervisory responsibilities.

Are claimants likely to pursue individual members?

Where a claim exceeds (or may exceed) a firm’s available insurance resources, any additional recovery from the member(s) in question is, in reality, likely to be modest in the overall context. Be that as it may, a claimant may perceive there to be a broader tactical advantage in joining members as co-defendants with the LLP, even in cases that clearly fall within the firm’s insurance limits. Hence, this approach may be employed by a claimant:

As an additional pressure point on the LLP, its insurers and the lawyers in question;
To try and flush out an indication of the available insurance cover;
In order to pursue a vindictive claim;
To try and undermine the defence by scrutinising the respective roles and culpability of the individual lawyers involved (both at member and assistant solicitor level). This type of detailed enquiry could prove costly, divisive and damaging. It is, in certain circumstances, conceivable that individual solicitors (be they members or assistant solicitors) might require independent legal advice (even if one firm remained on record for all defendants).

Prevention of personal duty – disclaimers

In order to avoid the scenario set out above, it is necessary to take all practicable steps to prevent any personal duty from attaching to any member in his or her dealings with clients and third parties. The most effective way of achieving this objective is to utilise a disclaimer that operates to prevent the creation of a duty of care, rather than by excluding a liability that has already arisen. The position was explained in the following way by Hobhouse LJ in McCullagh v Lane Fox (1996): “Thus the relevance of a disclaimer is to negative… the assumption of responsibility for the statement. It implicitly tells the recipient of the representation that if he chooses to rely upon it, he must realise that the maker is not accepting responsibility for the accuracy of the representation.”

A contractual exclusion can also be utilised (by way of ‘belt and braces’) in order to exclude the liability of members, while retaining a liability equivalent to the statutory vicarious liability created by section 6(4) of the Limited Liability Partnerships Act 2000.

The application of the Unfair Contracts Terms Act 1977

Such disclaimers and exclusions are subject to the requirements of the Unfair Contracts Terms Act 1977 (UCTA), or in the case of private-client work, the Unfair Terms and Consumer Contract Regulations 1999. So far as UCTA is concerned, it should be possible to satisfy the requirement of reasonableness in circumstances where:

The purpose of a disclaimer is to negative any personal responsibility of the individual, while confirming that responsibility attaches to the LLP through the agency of its members and employees;
Most law firms will have purchased limits of professional-indemnity insurance cover that are commensurate with the size of the firm and the type of work that it undertakes. Where excess layer cover is purchased, conversion to LLP status should have no bearing upon those indemnity limits;
To strike out a disclaimer as unreasonable would arguably undermine the policy considerations underpinning the Act;
The courts are generally prepared to accept that large commercial clients are able to look after their own interests;
In circumstances where the use of such disclaimers is likely to become more commonplace among the profession, such clauses will probably become more familiar (and acceptable) to judges.

Practical steps

A number of measures can be taken in order to protect the position of LLP members:

Ensure that all clients are made fully aware that they are dealing with a corporate body and not an unlimited partnership. The new status of the firm will be reflected in its notepaper and marketing material etc, while all clients should be formally notified of the change. Avoid any suggestion (in marketing notices or otherwise) that the former unlimited partnership is continuing to practice (or that it is being held out as such). Where (as is commonly the case) members are referred to as ‘partners’ of the LLP, this (together with the LLP’s corporate status) can be explained in its terms and conditions of business, retainer letters, website notices and promotional material;
Seek to achieve clarity as to the identity of the contracting party and avoid any suggestion that there is some kind of umbrella partnership or structure in existence. Where separate entities outside the LLP are practising in other jurisdictions (for regulatory or other reasons), care must be taken in relation to any form of words that suggest that overall control is being exercised by the LLP or that the local entity is some kind of emanation of the LLP;
Include disclaimers and exclusions of personal liability in terms and conditions of business and in all client retainers;
Incorporate such disclaimers into retainer letters to ensure that they are brought fully to the attention of all clients. The disclaimers can be repeated in marketing material and website notices etc;
Consider extending proportionate liability clauses and limitations of liability to cover members, employees and (where applicable) any service company. The advantage of doing so is that this provides a further line of defence should any disclaimer and exclusion fail to prove effective in law. Language can be used that does not cast too much doubt on the effectiveness of the disclaimer and the exclusion;
Take care to avoid any suggestion that a member is assuming a personal responsibility, as opposed to acting solely as agent for the LLP. At the basic level, this means ensuring that all correspondence (letters, faxes, e-mails) is signed or written on behalf of the LLP. Most reports and opinions are provided in the name of firms and this is generally the preferred approach. Where the name of a member (or employee) appears, it can be followed by the name of the LLP immediately underneath that of the individual. Use can also be made of standardised e-mail ‘signature blocks’;
Third-party disclaimers (which may be included, where appropriate, in reports or letters of advice) should be amended to encompass members (as well as employees etc);
Opinion letters should be signed in the name of the LLP only;
Consider the position of international offices and how the local law may affect the personal liability of members. One option is to develop separate terms and conditions of business, with limited amendments to reflect local legal and regulatory requirements. Alternatively, where a single set of terms is utilised, a severability clause can be included to guard against the possibility that one or more provisions may prove to be inconsistent with the legal, professional and regulatory requirements of the relevant jurisdiction.

While LLP status will not obviate the risk of a personal liability for members, where the conversion process encompasses the type of measures referred to above, the level of residual risk will be very significantly reduced.

A case study: CMS Cameron McKenna LLP

Depending upon the individual circumstances of the particular firm, the process of conversion to LLP status is likely to take at least 12 months from inception. Most firms (including my own) establish project teams in order to manage and implement the process, with responsibility being allocated for matters such as the preparation of key documents (for example, the Business Transfer Agreement, The Liabilities Agreement and the LLP Articles); liaison with the firm’s bankers and landlord; and (in my case) consideration of liability and related aspects.

From the liability perspective, clarity of the contracting party is of critical importance, as is the need to avoid any suggestion that there is, in existence, some kind of umbrella partnership or structure under which the LLP is exercising control over separate entities in other jurisdictions. Thus, where certain international offices operate outside the LLP, it can be made clear that they are separate and distinct entities, without derogating from the message that the capability exists to provide international legal services in many different jurisdictions.

Focusing for present purposes upon liability issues, the period leading to CMS Cameron McKenna’s conversion to LLP status on 1 May 2005, involved the introduction of a number of measures. They included the following:

The firm’s general terms and conditions of business were amended in order to reflect its LLP status and to explain that, while the LLP is a body corporate that has ‘members’, we (in common with most other LLPs) refer to our members as ‘partners’. Other amendments were introduced in order to protect the personal liability position of members and other representatives of the firm;
An internal commentary on the revised terms and conditions was also prepared in order to highlight and explain the new and amended provisions, so that all fee earners would have a clear understanding as to the thinking behind them;
Revisions were made to the firm’s specimen retainer letters, both to reflect the LLP conversion and to draw clients’ attention to certain provisions in the general terms and conditions, notably, those designed to protect individuals from a finding of personal liability. In this respect, leaving aside the need to adopt an open and transparent approach with clients, a client’s knowledge of a provision will be an important consideration in the event of any challenge to the reasonableness of any disclaimer or contractual exclusion under UCTA;
General disclaimers of personal liability were prepared for inclusion in LLP brochures and other promotional material;
Revisions were made to specimen wordings relating to limitation of liability to clients, and to exclusions and limitations of liability to third parties;
Notices were prepared in order to reflect the firm’s new status on its notepaper and e-mails, and to meet the relevant statutory and regulatory requirements;
Guidance was prepared and issued to all representatives of the firm in order to try and avoid any suggestion that a member (or employee) might be assuming a personal responsibility to a client or third party, rather than acting solely as agent for the LLP. This guidance was reinforced by a series of presentations from the LLP project team covering, inter alia, the potential exposure of LLP members to claims in tort and the practical steps that can be taken in order to minimise such a risk;
Our international offices developed their own terms and conditions of business, with limited amendments in order to reflect local legal and regulatory requirements;
Detailed consideration was given as to how best to try and protect the position of partners who (for regulatory or other reasons) will continue to practise outside the LLP structure. External legal advice was sought on this issue from Allen & Overy. Various insurance products (operating outside firms’ professional-indemnity programmes) are also now available in the event that a partner’s personal assets come under attack;
Having obtained initial feedback from clients, a letter was prepared and despatched centrally from our senior partner, Richard Price, in order to formally advise all clients of the LLP conversion. As well as communicating this important change, the process provided us with an excellent opportunity to ensure that the LLP’s terms and conditions were incorporated into all client retainers in respect of instructions received after 1 May 2005 (save where different arrangements have been specifically agreed);
Finally, consideration was given to specific assignments where it was considered appropriate to seek a formal novation of the existing retainer from the unincorporated partnership to the LLP (a decision having been made not to seek novations on a ‘blanket’ basis).

The implementation of these matters and the raft of other steps required in the conversion process involved a great deal of work, with an inevitable concentration of activity in the last few months before conversion. The time and effort involved should not be underestimated, although LLP conversion is now a well trodden path for UK law firms and, where the process is properly planned and resourced, it can be achieved without undue disruption to a firm’s core business of serving its clients.

Peter Maguire is responsible for professional indemnity insurance and risk management at CMS Cameron McKenna LLP. He can be contacted at peter.maguire@cms-cmck.com