Gold rush: Lawyers are flocking to Arizona to take advantage of new rules resulting in a flood of outside investments in law firms

There's a flood of lawyers setting up shop in Arizona, thanks to new rules opening the door to outside investments.

There's a flood of lawyers setting up shop in Arizona, thanks to new rules opening the door to outside investments. 

  • Lawyers have a monopoly on legal advice, and they're mostly prohibited from partnering with nonlaywers.
  • Arizona threw out that rule. Now injury lawyers and marketers are partnering with private-equity firms.
  • But they don't seem to be taking out multimillion-dollar ad buys yet. There are a lot of unknowns.

Steve German spent decades as a top trial lawyer in Arizona. He wasn't the guy with his face on billboards, but those folks would refer good cases to his small firm. German also became a go-to attorney for doctors, lawyers and dentists who were injured or disabled and got stiffed by their insurance.

But now, German — pronounced GUR-man — is ramping things up. In September, he issued a press release announcing that his firm, Scout Law Group, teamed up with a Miami-based private-equity firm in what he called a "first-of-its-kind partnership" between law firms and private investors.  

The $3 million in startup capital Scout secured from 777 Partners, German told Insider, will go toward helping him build and market the practice. 

"I've been meeting with people who do advertising, PR, marketing, branding," he said in arecent interview. "They're involved in a lot of the same social justice issues that I am — Black Lives Matter, all of it."

German's venture is part of a novel experiment unfolding in Arizona that stands to upend the way the legal world operates. In 2021, Arizona changed its rules to let non-lawyers co-own law firms, many of which are highly profitable: They collectively made an estimated $320 billion in the US last year. By opening the door to outside money, the rules stand to create entirely new business models — but not without risks.

Some lawyers and analysts worry that the new rules could have unintended side effects, like causing investors to meddle in legal decisions, or spurring more frivolous lawsuits. But supporters of the new structures — and even some opponents — say they haven't seen any major impacts yet and people shouldn't rush to label the system a success or a failure.

I don't think we have enough evidence of what the effect has really been," said John Hay, an Arizona lawyer who sits on the committee that oversees the new firms.

Arizona threw out the legal-industry rulebook

The legal industry changes slowly. It wasn't until 1977 that the Supreme Court struck down bans on attorney advertising. Today, 47 states — all but Arizona, Utah, and Washington — ban anyone but lawyers from owning law firms. Two years ago, Arizona completely scrapped that ban, known as Rule 5.4, which is now literally completely blank. This year, the state is starting to see the effects.

Arizona-based accounting, tax, and estate-planning firms were the first "alternative business structures," or ABS, licensed under the new rules by the state court system. About a fifth of the new entities are "one-stop shops" for professional tax planning and legal advice, according to a recent Stanford Law School study.

Publicly traded companies like the Rocket Cos. have also taken steps to take advantage of the new rules. LegalZoom, which provides legal self-help to small businesses, got permission from Arizona to start providing legal services through a subsidiary in September 2021, but it only became operational in July, according to a securities filing. The subsidiary lists 20 employees on LinkedIn, mostly focused on trademarks.

Early reporting about Arizona's reforms — and similar legal deregulation in Utah — noted that accounting and consulting firms like KPMG, EY, Deloitte and PwC could move into the market and start competing with corporate law firms. However, this doesn't appear to have happened yet.

Recently, the structure has become popular with personal injury lawyers like German. His firm already has some clients involved in the biggest tangles of lawsuits currently out there: water contamination at Camp Lejeune, the bladder drug Elmiron, and paraquat, a herbicide. These types of lawsuits, known as mass torts, impact millions of people; unlike in a class action, each client must sign up individually, so marketing is important.

German isn't doing much advertising yet. He says the financial backing he's getting from his private-equity partner gives him the time to find the right business partners and the ability to try new things — for instance, giving clients the ability to donate 3% to 5% of his firm's contingency fees to a good cause. 

Of 15 ABS applications approved this year, at least eight focus on finding and representing clients hurt by truck accidents, defective drugs, environmental disasters and other mass torts, according to state filings. Some of the firms Arizona has approved have said they plan to advertise nationwide, and refer cases to other law firms that will actually do the work.

Advertisers and litigation funders now own equity in law firms

Other investors taking advantage of the new rules include executives who hail from legal financing companies like Counsel Financial, Stonehill Capital Management and Virage Capital Management, which typically lend money to plaintiffs' firms with cases in the works that could lead to big payouts. One new firm, Case Partners, is run by three mass-tort marketers, while LegaFi Law is a new Arizona entity owned by Scott Hardy, who runs the legal information website TopClassActions.com.

Trial lawyers from all over the country are piling into Arizona, too. Mike Morse, a Michigan injury lawyer, and Keith Givens, the managing partner of the firm that bears Johnnie Cochran's name, are Virage's business partners. Eric Boss, a partner at the Texas firm Pulaski Kherkher, said in a regulatory filing that he plans to use his Arizona entity, called Bad DrugLaw Firm, to bring in outside capital and have lawyers at the Pulaski firm handle the cases.

All of them declined to be interviewed or didn't respond to interview requests.

Letting nonlawyers own and run law firms is a win-win-win, according to Boris Ziser, a lawyer at Schulte Roth & Zabel who has advised litigation funders on deals. It's good for lawyers, who can leave marketing and operations to their professional partners. It's good for clients, who can have confidence that their firm isn't going to suddenly go belly-up. And it's good for funders, who as equity holders, can be hands-on managers, rather than just putting restrictions on how a firm can use money that it borrows. 

The returns could be lucrative for funders, too. Pre-settlement funding, which is one of the riskier kinds of loan for plaintiffs' law firms, often has interest rates of 12 to 20 percent, Zisersaid. Equity is riskier and tends to offer even higher returns, he added.

Milan Markovic, a law professor at Texas A&M, said letting lawyers partner with investors could incentivize them to take on lower-quality cases. The UK has allowed outside investment in law firms since 2007 without major scandal, he said, but it also takes a loser-pays approach to lawsuits that can cut down on frivolous claims. In the US, both sides paytheir own legal fees, so it can be cheaper to settle a weak case than to fight it.

I think we have to be very, very careful when we try to transform the plaintiffs' contingency market," he said. "I'm not saying it's going to be disastrous; I'm just saying it's a very different model from what we have.

There are still some important unresolved questions. Ziser said some of the new firms might not just need to look into buying legal malpractice insurance, but also at D&O insurance and errors-and-omissions coverage because they might face risks that traditional law firms don't.

Out-of-state lawyers may also want to make sure that they aren't violating their own state's ethics rules if they agree to split a contingency fee with an Arizona law firm with non-lawyer owners, said Tim McKey, a consultant to plaintiffs' law firms. Some of the new shops might sit idle until there's regulatory clarity, he added.

It's gonna be an evolution," McKey said. "It's not gonna be a light switch.


Access to justice, or access to cash?

Law firm ownership wasn't the only thing Arizona changed last year. Credentialed non-lawyers can advise clients on niche areas like family law, in the same way a nurse practitioner can do some things a doctor can do, according to David Freeman Engstrom, a Stanford law professor.

Lawyers in Arizona can also pay referral fees to accountants, realtors, and other non-lawyers. And they can cold-call businesses and pitch themselves. In most states, lawyers have to rely on introductions from mutual contacts. 

But allowing non-lawyer ownership was probably the most controversial change.  

Arizona and Utah have argued that allowing non-lawyer investors into the fold will help more people gain access to the legal system. While criminal defendants have a right to counsel, most people don't have lawyers in debt collection cases, child-custody disputes, evictions and other high-stakes legal proceedings, according to Engstrom. By one estimate, every lawyer in the US would have to put in more than triple the average number of pro bono hours to deal with the country's unmet legal needs.

But some lawyers say they haven't seen any evidence that the new rules are helping more people gain access to legal help. Scott Palumbo, a Phoenix personal injury lawyer who is the former head of the Arizona Association for Justice, opposed the rule changes. He said people still don't seem to have processed the changes — doctors aren't asking for referral fees left and right, for example — but he's skeptical that they'll improve things.

Investors "don't say, 'hey, I'm giving you this money to lower the cost of legal services,'" he said. "I haven't seen one iota of proof that any progress has been made."

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