POSTGRADUATE LAW COURSE

APPLIED CORPORATE LAW

Role of Lawyers in Private Equity Transactions

EXAM NUMBER: B236260

COURSE CODE: 11470

QUESTION NUMBER: 2

WORD COUNT: 5143

 TABLE OF CONTENTS

I. INTRODUCTION ...................................................................................................... 3

II. CASE STUDIES ........................................................................................................ 4

III. WHAT DO BUSINESS LAWYERS REALLY DO? ............................................................ 5

IV. TRANSACTION COST ENGINEERS ............................................................................ 7

A. VALUE CREATION ........................................................................................................ 7

B. CAPITAL ASSET PRICING THEORY .................................................................................... 8
C. REDUCTION OF TRANSACTION COSTS THROUGH TRANSACTION DOCUMENTS ............................ 8
D. OVERVIEW OF A PRIVATE EQUITY TRANSACTION .................................................................. 9

V. REPUTATIONAL INTERMEDIERIES .......................................................................... 13

VI. LOOPHOLE ENGINEERING .................................................................................... 15

A. ENRON DEBACLE ....................................................................................................... 16

B. LEHMAN BROTHERS REPO 105 ..................................................................................... 16

VII. CONCLUSION....................................................................................................... 18

VIII. BIBLIOGRAPHY ..................................................................................................... 19

1. INTRODUCTION

What is it that the business lawyers do? What exactly is the scope of their role? Some
view lawyers as transaction cost engineers that minimize regulatory costs and step in
at an early stage to prevent litigation costs in the future, or as enterprise architects,
who skillfully structure deals in the best interests of their clients. There are also the
negative notions associated with the profession that view lawyers as money mongers
who actually increase the overall transaction costs, point out irrelevant issues that
sometimes result in the falling away of a deal. Some jurists also refer to lawyers as
loophole engineers, that find loopholes in the law to bend the legal system to benefit
their clients. Some consider them the ultimate reputational intermediaries whose
stamp of approval gives credibility to an organization or the deal itself.

As is true for many popular debates, where you stand depends on where you sit.1 For
instance, one could argue that finding loopholes in law to ensure the best outcomes
for one’s clients, is in fact skillfully structuring a deal by the lawyers as enterprise
architects or transactional cost engineers. In my opinion, there is no one way to define
what a lawyer does, it is in fact a little bit of all of these roles, based on what the
circumstance demands.

In this paper, I aim to critically analyse the role of lawyers in private equity transactions.
In order to build a true reflection of what they actually do, I intend to integrate the
academic notions put forth by various scholars and jurists with the practical findings of
what lawyers do, based on informative sessions organized by our course instructor,
Johnny Hardman. These sessions provided firsthand accounts from practicing
lawyers, who shed light and gave invaluable insights of their functions within law firms.
By synthesizing these academic and practical perspectives, I aim to offer a
comprehensive understanding of the role played by lawyers in private equity
transactions.

1
Frank M. Placenti, “Are Proxy Advisors Really a Problem?” Harvard Law School Forum on Corporate
Governance and Financial Regulation November 7, 2018
The structure of this paper is as follows: First, I will provide a brief summary of the two
case studies that I will be using throughout this paper to analyse theoretical
propositions with practical scenarios. Thereafter, I will examine the multifaceted role
of business lawyers under three broad categories, as: (i) transaction engineers; (ii)
reputational intermediaries; and (iii) loophole engineers. It is perhaps important to
mention, that I do not believe that these three categories encompass all the roles that
a business lawyer plays. However, in the world of private equity transactions, these
seem to be the most pertinent forms that a lawyer takes, the reasons of which have
been discussed in detail below.

2. CASE STUDIES

For the purpose of this paper, I will be using two case studies. For convenience of the
reader and some context, I have summarized the two below:

Case Study 1: We had the lovely opportunity of having a very informative session on
the structure of private equity transactions and the role played by various participants
in it. This session was led by Mr. Andrew Gray, a renowned partner, specialized in
corporate and financial services (more specifically private equity) at Willkie Farr &
Gallagher (UK) LLP.2 He gave us invaluable insight into the role of what a lawyer does
in private equity transactions. Through this case study, I aim to establish the following
assertions:

(i) The role of lawyers is multifaceted and hence, there is no one right response to
what lawyers really do.
(ii) Lawyers act as transaction cost engineers who increase the value of transactions
by reducing transaction costs. They do so by skillfully structuring transaction
documents.
(iii) Lawyers act as a one stop shop in a transaction that put together different pieces
of the transaction in one place and validate the legality of the deal, acting as
reputational intermediaries.

2
Andrew Gray, 'Willkie Farr & Gallagher LLP', https://www.willkie.com/professionals/g/gray-andrew
accessed 16 April 2024
Case Study 2: The second case study was an interesting session led by Mrs. Lauren
Smit, a senior legal counsel at Abrdn. Abrdn is a global investment fund that helps its
clients with investments and manages and administers their assets.3 This case study
highlighted the role of an in-house lawyer in a private equity fund and the various tasks
carried out by them to help their clients with their investments. Through this case study
I aim to establish the following assertions:

(i) Lawyers add value to transactions as reputational intermediaries; and

(ii) Lawyers act as loophole engineers to deliver best outcomes for their clients.

3. WHAT DO BUSINESS LAWYERS REALLY DO?

Various academicians, jurists and practitioners have attempted to offer answers to this
seemingly straightforward question – what do business lawyers really do? Most of
these responses tend to be both familiar and vague. Some responses were highly
negative portrayals, depicting lawyers as deal killers who incessantly uncover trivial
issues in transactions, ultimately causing parties to walk away.4 Rasmussen asserts
that lawyers are afflicted by self-serving biases and inflate the importance of their
profession.5 When asked about their role, most lawyers often default to the familiar
response of "we protect our clients and secure the best deals."6 Academicians on the
other hand view lawyers’ role as multifunctional, they are presented as “counselor,
planner, drafter, negotiator, investigator, lobbyist, scapegoat, champion, and, most
strikingly, even as a friend”.7

With the help of case studies, I will attempt to analyse the scope of the responses
mentioned above and establish a conclusion as to why there is no one right response
to what a business lawyer really does.

3
Aberdeen Standard Investments, 'About Us' https://www.abrdn.com/en-gb/corporate/about-
us>accessed 24 April 2024.
4
Ronald J. Gilson, “Value Creation by Business Lawyers: Legal Skills and Asset Pricing” (1984) 94 YLJ
239 242
5
Robert K. Rasmussen, ‘Lawyers, Law, and Contract Formation – Comments on Daniel Keating’s
‘Exploring the Battle of the Forms in Action’” (2000) 98 MLR 2748
6
Gilson (n 4) 242
7
Ibid
In the beginning of the session, to give us an overview of what lawyers do, Mr. Gray
gave us a few examples of the recent deals that he was a part of.8 Amongst a myriad
of other deals, he assisted his clients on: (i) the acquisition of an English Premier
League Football Club Bournermouth9; (ii) acquisition of a leading European
chocolatier – Natra10; (iii) sale of Global Risk Partners, an insurance brokerage firm11;
and (iv) acquisition of Recochem, a manufacturer and distributor of industrial
chemicals.12

These examples vividly demonstrate the expansive spectrum of clientele and

industries lawyers engage with, spanning sports, insurance, confectionery, chemicals,
and beyond, and do note that all of their clients are based out of different jurisdictions
with different regulations! This mere snapshot of four examples underscores the
intricate nature of a business lawyer’s endeavours, illustrating why defining the role of
a lawyer is far from straightforward. While one might summarize Mr. Gray's role, based
on these examples, as advising on the sale and acquisition of companies across
diverse industries and jurisdictions, such a description would scarcely capture the
complexity inherent in these transactions.

On the other hand, Mrs. Lauren, who is an in-house lawyer, has an entirely different
scope of work altogether. She assists her clients in their investments through funds in
companies such as Formula One, Wagamama, Jimmy Choo, etc.13 As an in-house
lawyer for a private equity fund, she works for a regulated manager, who is responsible
for managing assets and investments for their clients14. As in house lawyers are

8
Andrew Gray, Case Study 2 Recording, Minute 23:41
9
Willkie Advises Bill Foley-Led Consortium on the Acquisition of Bournemouth Football Club' (Willkie
Farr & Gallagher LLP, 12 December 2022) https://www.willkie.com/news/2022/12/willkie-advises-bill-
foley-led-consortium-on-the-acquisition-of-bournemouth-football-club accessed 16
10
CapVest to Acquire Chocolate Maker Natra' (Willkie Farr & Gallagher LLP, 7 July 2022)
https://www.willkie.com/news/2022/07/capvest-to-acquire-chocolate-maker-natra accessed 16 April
2024.
11
Searchlight Capital Partners Acquires Global Risk Partners' (Willkie Farr & Gallagher LLP, 10 March
2022) https://www.willkie.com/news/2022/03/searchlight-capital-partners-global-risk-partners
accessed 16 April 2024.
12
'Willkie Advises CapVest Partners on Acquisition of Recochem' (Willkie Farr & Gallagher LLP, 16
November 2023) https://www.willkie.com/news/2023/11/willkie-advises-capvest-partners-on-
acquisition-of-recochem accessed 16 April 2024.
13
Lauren Smith, Case Study 1, Minute 3:45
14
Lauren Smith, Case Study 1, Minute 37:13
employees of the fund itself, they are the go-to people for everything, Lauren jokes
about how anything written on a piece of paper translates into her job as a lawyer.15
They hire external law firms to help them with their transactions, and based on the
advice given by these external lawyers, choose what is best for the company from a
business perspective.16 One can see how different the roles are for an external lawyer
and in – house lawyer. For an in – house lawyer, the aim is to strike a balance between
the legal risks on one hand and business interests on the other.

The varied roles that lawyers take and the diverse clientele they work with spread
across jurisdictions, could possibly be the reason for lawyers to often resort to the
succinct yet broad statement “we help our clients and get them the deals with their
best interests”. Regardless of the jurisdiction, nature of work, or industry involved, the
primary objective of a corporate lawyer remains consistent: securing the optimal
outcome for their clients.

4. TRANSACTION COST ENGINEERS

A. Value Creation

Of all the notions of what a business lawyer does, Gilson’s characterization of business
lawyers as transaction cost engineers that add value to a transaction is perhaps the
most pertinent and a foundational basis for other theories. He states that “if what a
business lawyer does has value, a transaction must be worth more, net of legal fees
a result of the lawyer’s participation.”17 While value creation doesn’t answer the
question of what role a lawyer plays or what is it that they do, it builds to the argument
that they add value to deals by reducing transaction costs, and thus act as transaction
cost engineers. He uses the capital asset pricing theory, to show the differences that
exist in an ideal market v/s a real market. He then goes on to explain how the lawyers
use their expertise to bridge this gap of differences and assumptions between the ideal
market and the real market by skillfully drafting and negotiating acquisition

15
Lauren Smith, Case Study 1, Minute 37:49
16
Lauren Smith, Case Study 1, Minute 38:47
17
Gilson (n 4) 243
agreements. Using case study 1, I will discuss below: (i) the theory of capital asset
pricing theory; and (ii) how lawyers use transaction documents to reduce costs and
add value to a transaction and therefore act as transaction engineers.

B. Capital Asset Pricing Theory

Capital asset pricing (CAP) theory is based on several assumptions on how a market
runs.18 In an ideal world where these assumptions were all true, there would be no
transaction costs or information asymmetry.19 CAP theory assumes that in
transactions, the main aim of the parties is to accurately value assets being sold by
the seller to the buyer.20 In an ideal market, all assets are perfectly priced and there is
no information asymmetry between the parties. However, there are a lot of deviations
that occur in the real world – sellers often misrepresent the condition of their assets,
to get a better price for them, investors and sellers almost never have the same level
of information, there are multiple agency costs that get included beyond transactional
costs. This is where the lawyers’ step in as transaction cost engineers, to reduce
excessive costs by bridging the deviations that exist in the real world as against in an
ideal market.21

C. Reduction of Transaction Costs through Transaction Documents

Gilson attempts to establish the value lawyers add to a transaction by examining the
clauses of a standard acquisition agreement. He states that most transactions have
similar problems and lawyers adopt similar approaches to tackle these problems, most
of which are reflected in how an acquisition agreement is structured.22 I aim to carry
out a similar analysis using Case Study 1. However, I will broaden the scope of my
analysis to also include the steps involved in the transaction prior to signing an
acquisition agreement.

18
Gilson (n 4) 252
19
Ibid 253
20
Ibid 254
21
Ibid
22
Gilson (n 4) 257
 D. Overview of a Private Equity Transaction

To explain the role of a lawyer in a private equity transaction, Mr. Gray used an
example to take us through the various steps in which a lawyer gets involved and what
is it that they do. I have briefly summarised the example below for reference:

Example: A private equity fund acquired a company that manufactures and distributes
antifreeze coolant. The company had its headquarters in Canada, and distributed its
product across the United States, Australia, and Canada.

When do the Lawyers Step in?

The groundwork for a potential private equity transaction commences well before legal
professionals are engaged. Private equity funds proactively scout for investment
opportunities and diligently monitor market trends to identify suitable ventures.23
During this preliminary phase, investors engage with company management, conduct
thorough commercial due diligence to assess risks and rewards associated with
potential investments, and negotiate commercial terms.24 Lawyers are hired only after
the initial commercial terms have been agreed upon and a transaction appears
imminent. Mr. Gray stated that clients don’t involve lawyers until this point to avoid
paying legal fees.25 This echoes Professor Gilson's viewpoint, that the role of lawyers
goes beyond mere distributive bargaining, and that any person would hire a lawyer
only if lawyers were to increase the value of the transaction.26

Limitation of Gilson’s Arguments

The narrow interpretation of the role of lawyers as people who help facilitate mergers
and acquisition is perhaps the biggest limitations of Gilson’s theory. As witnessed
above, both Mr. Gray and Mrs. Lauren are lawyers who undertake diverse

23
Andrew Gray, Case Study 2 Recording, Minute 27:21
24
Andrew Gray, Case Study 2 Recording, Minute 29:43
25
Andrew Gray, Case Study 2 Recording, Minute 32:43
26
Gilson (n 4) 245
responsibilities. However, since this paper is specifically focused on role of lawyers in
private equity transactions, the accuracy of Gilson’s theories hold good.

Gilson states that the lawyers must not perform mere distributive bargaining, but
instead they should engage in joint problem solving, that would ensure equal increase
in value for all parties.27 While Gilson’s theory on value creation holds a lot of
credibility, it is important to note that the increase in value of a transaction by involving
lawyers may not always be an increase in value for all parties.28 This proposition,
articulated by Professor Dent, broadens the understanding of value creation to a more
nuanced level. For instance, legal due diligence of company for any institutional buyer
is a must, and they would want to hire a lawyer to get an approval of the compliances
and ensure good health of the company before they choose to invest in it. There is a
good chance, that the results of the diligence may not deviate significantly from the
originally available information. However, buyers would be willing to pay the legal fees
to ensure that nothing is being misrepresented by the sellers and that there are no
potential risks.29 Sellers on the other hand, would be more than happy to forego the
diligence process as the outcome of this process would be the same to them, if not,
like in most cases, detrimental.

The problem of information asymmetry is very common in private equity transactions,

and lawyers have structured two broad solutions to deal with this problem: (i) provision
of such information to the party that doesn’t have all the information, this is facilitated
by lawyers during the due diligence process, where they ask sellers for more
information in relation to the company, and (ii) solutions that enable the party without
information to be put in a place as if it had all the information – lawyers enable this
through inclusion of representations and warranties in relation to the company and its
business in transaction documents.30

27
Ibid
28
George W. Dent Jr. “Business Lawyers as Enterprise Architects” (2009) 64TBL 279
29
Ibid
30
Michael S. Knoll and Daniel M. G. Raff, “A Comprehensive Theory of Deal Structure: Understanding
How Transactional Structure Creates Value” (2010) 89 TLR 35
 Mr. Gray gave us an overview of the steps involved in a PE Transaction. I will attempt
to analyse these steps with the academic notions of how lawyers act as transaction
cost engineers. I would request the reader to refer to the example above for context.

1. Legal Due Diligence: As mentioned above, parties more often than not, already do
their commercial due diligence on how the company is placed in the market, what
would be the commercial advantages and risks of investing in such company, etc.31
The lawyers are then hired to engineer and fast track the process, once the parties
wish to make a deal happen. If representing the buyer, the first step is to conduct a
legal due diligence on the investee company. Legal due diligence is a process where
lawyers collate information from the company to ensure regulatory compliance, check
for any associated risks, such as pending litigation claims, consumer complaints,
product failure, breach of intellectual property, effective contracts with employees and
vendors, etc.32 If we consider the example above, it will additionally include ensuring
compliance with laws pertinent to selling and distributing chemicals in the US, Canada
and Australia.33

The aim of conducting a legal due diligence is twofold: (i) analysing the information
received from the sellers to identify non compliances and potential risks and liabilities;
and (ii) communicating these risks to the buyer and advising them on how to mitigate
these risks. This takes us to the next step of drafting transaction documents.34

2. Transaction Documents

Transaction documents are contracts between parties that dictate the terms of a
transaction. A huge part of a corporate lawyer’s role is to engineer a transaction by
skillfully drafting and negotiating the terms of these documents with the counterpart to
reduce costs for their clients. The most commonly used document to govern a sale
and purchase of assets, is referred to as the Share Purchase Agreement.35 Due to
excessive number of transactions that happen in the present day, most lawyers are

31
Andrew Gray, Case Study 2 Recording, Minute 33:41
32
Andrew Gray, Case Study 2 Recording, Minute 33:59
33
Andrew Gray, Case Study 2 Recording, Minute 36:12
34
Andrew Gray, Case Study 2 Recording, Minute 23:53
35
Andrew Gray, Case Study 2 Recording, Minute 46:06
 well versed with what they can expect from the counterparty, therefore, these
documents have been fairly standardized.36 However, the role of a lawyer comes into
play when they skillfully customize these standard clauses to suit what is in the best
interest of their clients.

For instance, if on conducting a due diligence on the manufacturing company in the

above example, Wilkie finds out that there is a pending litigation in the company which
may cost them 100 Million USD in the future, Lawyers step in to mitigate this potential
risk in the SPA in the following ways:

1. Delayed Closing – In a standard SPA, there is a signing date on which the parties sign
the SPA, post which there are certain conditions that need to be fulfilled before the
closing date (the date on which the buyer puts in the money). If the decision of the
pending case is to take place soon enough, the closing of the transaction could be
conditional upon successful dismissal of the potential claim.37

2. Deferred Payments – Lawyers could structure a payment plan where they decide to
pay 100 Million USD lesser than the original payment as the upfront payment, and pay
the rest once the claim is dismissed. If the company loses the litigation, the second
payment would stand cancelled. However, lawyers need to think of every possible
situation that may arise. For instance, while the litigation claim could be for only 100
Million USD, the company could suffer reputational loss, or additional costs such as
advisors fee for the case, and other ancillary costs. In such scenarios, lawyers need
to do a cost benefit analysis on how much risk do they need to mitigate. If lawyers
push too hard and ask for excessive protection, the sellers may walk away from the
deal. Therefore, lawyers need to strike the exact balance.

3. Representations, Warranties, and Indemnities – A standard way of risk mitigation in

most deals is by way of structuring indemnity clauses. The sellers give representations
and warranties on the various aspects of a company’s management, assets, day to
day happenings, etc. If the lawyers identify any potential risks in the future, they cover

36
Gilson (n 4) 257
37
Andrew Gray, Case Study 2 Recording, Minute 43:25
 their client’s from those risks by including indemnities.38 For instance, in the current
case the lawyers would include a clause in the transaction documents to say that in
case the company loses the litigation and has to pay money to the claimants, the
sellers will then reimburse the buyer for the loss that the company suffers as a result
of such loss. This ensures that even though the buyer has purchased the company,
the risk of the litigation still stays with the seller.39

4. Conditions and Covenants – The buyer could ask the seller to get an insurance for the
amount of anticipated loss as a pre-condition to sale of the company.40

Conclusion: As can be seen from the above examples of risk mitigation through
documentation, Gilson’s assertion that lawyers are transaction cost engineers who
reduce costs and add value to a transaction, stands true. Lawyers do so, by skillfully
analyzing the situation, doing a cost benefit analysis on what may be the best suited
outcome for their clients, and then draft in clauses in the transaction documents and
negotiate them to achieve those for their clients. In the example given above, Wilkie
acted as a transaction cost engineer and reduced the costs for its clients by mitigating
the risk of suffering from potential litigation costs in the future.

5. REPUTATIONAL INTERMEDIERIES

Based on Gilson’s theory of value creation by lawyers in transactions as transaction

cost engineers, Okamoto attempted to go beyond the economic value delivered by a
lawyer to understand what is it that lawyers do for them to be getting paid such
exorbitant amounts of legal fees.41 He focuses on legal opinions given by lawyers and
states that legal opinions are not products of applied knowledge and legal rules, it is
just research that even a non-lawyer can perform.42 Then if it’s not the competence
and expertise, what would explain the monopoly held by the legal profession. He then
suggests the base for legal profession is their reputation. He makes five valid
assertions:

38
Andrew Gray, Case Study 2 Recording, Minute 49:48
39
Andrew Gray, Case Study 2 Recording, Minute 51:35
40
Andrew Gray, Case Study 2 Recording, Minute 45:15
41
Karl S. Okamoto, “Reputation and the Value of Lawyers” (1995) 74 OLR 15
42
Ibid 17
 i. in-house lawyers cannot serve the same function as outside lawyers
because they are in fact insiders.
ii. law firms are already ordered along a reputational spectrum that allows
clients to differentiate among them and pay accordingly.
iii. the function of law firms as reputational intermediaries is declining.
iv. decreased in-formation asymmetry has decreased the demand for legal
opinions.
v. with the decreased demand for lawyers as reputational intermediaries, there
is an opportunity for lawyers to reassert themselves as experts in essential
areas where clients actually need counsel.43

I will now try and analyse some of these assertions with the help of case studies.

The first assertion made by Okamoto states that in house lawyers cannot serve the
same function as external advisors. As Lauren explained, the key role of any legal
function is risk management.44 For in house lawyers the best way to mitigate risks is
by hiring external advisors to guide them on the transactions.45 It is interesting to note
that lawyers themselves need to appoint external lawyers to help them with their tasks
and mitigate risks. This validates three assumptions made by Okamoto: (i) in house
lawyers and external lawyers do not perform the same functions; (ii) the value in what
lawyers do go beyond their expertise, as all lawyers essentially have the same legal
knowledge they start from, but in house lawyers still tend to get external help; and (iii)
the degree of reputation a law firm holds differentiates their positioning in the markets.
This is exactly why in house lawyers hire external advisors with good reputation to
advise them on the transactions and give them a stamp of approval.

Another interesting takeaway from this case study was that Lauren mentioned the
main reason they hire external counsel is to get indemnity insurance46. Indemnity
insurance would protect the in-house legal counsel for any detrimental advice that they
give to their clients during the transaction, if it was approved by an external counsel

43
Praveen Kosuri, “Beyond Gilson: The Art of Business Lawyering” (2105) 19 L&CLR 463 468-469
44
Lauren Smith, Case Study 1, Minute 38:41
45
Lauren Smith, Case Study 1, Minute 38:41
46
Lauren Smith, Case Study 1, Minute 41:10
that gave them an indemnity insurance. The company could then claim insurance from
its external advisors.

To emphasise on the accuracy of the second assertion made by Okamoto and the
overall idea of how law firms act as reputational intermediaries it is perhaps important
to specify Mrs. Lauren’s claim that hiring external advisory and maintaining
relationships with them is extremely important for in house legal counsels, as they can
then tell the other people in the business that these firms are the best in the market to
help with such deals.47 Good reputation of a law firms gives comfort to the clients on
the expertise they hold and the accuracy of the advices delivered by these firms.

On the fifth assertion that Okamoto makes about law firms asserting themselves as
experts in different areas to increase their reputational value, Mrs. Lauren stated that
as in house counsels, they tend to keep a small knit circle of different law firms, that
they engage with on a regular basis. This is essentially because they know which firm
is good at doing what. An important takeaway from this is that the law firms can
increase their reputational value by selling their expertise in specific areas to serve
their clients better.

A good place to conclude the role of business lawyers would be to discuss the answer
given by Mr. Gray. When asked what a corporate lawyer does, he said they “facilitate
business transactions”.48 He added that more than anything else, lawyers are trusted
advisors that come with a seal of approval. The reason lawyers are differentiated from
other service providers such as accountants, is because lawyers are the ones who
ultimately pull together the threads from all aspects and apportion the risk in
transaction documents.49 Once a lawyer puts together the pieces and puts their stamp
of approval, the clients get the comfort of a full-fledged and legal transaction.

6. LOOPHOLE ENGINEERING

47
Lauren Smith, Case Study 1, Minute 43:03
48
Andrew Gray, Case Study 2 Recording, Minute 1:00:16
49
Andrew Gray, Case Study 2 Recording, Minute 1:01:57
The role of lawyers as loophole engineers always attracts the question of morality. I
do not wish to delve into the debate. However, lawyers often use their legal knowledge
to find loopholes and gaps in the law to serve their clients with optimal outcomes.
Regulatory arbitrage is a refined term used for loophole engineering. Professor
Fleischer defines it as “the manipulation of the structure of a deal to take advantage
of a gap between the economic substance of a transaction and its regulatory
treatment.”50 Some of the biggest corporate scandals have been a brewing result of
loophole engineering by lawyers. In this paper, I will discuss two of those: (i) Enron
Debacle; and (ii) Lehman Brothers’ Repo 105.

A. Enron Debacle

Enron’s lawyers helped Enron create special purpose vehicles and other complex
structures that enabled Enron to internally hedge itself. However, to the outside world
it appeared as external hedging. They did this to mask the company’s financial
situation. The interesting part was none of the lawyers involved knew the extent of
sham that was going on, this is because Enron hired multiple lawyers to carry out
different pieces of the transaction. This doesn’t take away from the fact that lawyers
knew that there was going around the law to some extent, they were just not aware of
the degree of what was happening. None of the lawyers raised any questions, they
were okay not knowing what their work was leading to, what mattered to them was to
give their clients what was asked for and get paid hefty amounts in return.51

B. Lehman Brothers Repo 105

Another classic examples of loophole engineering has to be Lehman Brothers’ Repo

105 case, wherein Linklaters assisted the company in carrying out a sham transaction
by issuing a legal opinion in their favour. To conceal the company debts on its balance
sheets, Lehman entered into temporary sales of its bad assets with other financial
institutions before the end of each quarter. Lehman used the cash from these sales to
pay their debts and would then buyback these assets from the financial institutions a
few days later. Under English Law, a transaction was considered as a ‘sale’ if the
repurchased assets were valued at 105% of the cash paid. None of the lawyers in the

50
Victor Fleischer, “Regulatory Arbitrage” (2010) 89 TLR 227
51
Richard W. Painter, “Transaction cost engineers, loophole engineers or gatekeepers: The role of
business lawyers after the financial meltdown” in Claire A Hill and Brett H. McDonnell (eds) Research
Handbook on the Economics of Corporate Law (2012)
United States agreed to classify this transaction as a sale. However, Linklaters agreed
to opine on the same. Any person who has a basic idea of what was happening in the
transaction, would call it for what it is – a sham! However, Linklaters claimed that they
were not aware of the transaction and very skillfully drew up an opinion that spoke of
everything but the transaction – and this was their loophole. Linklaters opined what
would constitute a sale, how it was different from a charge, all of which was true under
the law, however they never really described the actual transaction being taken place.
Using qualifiers, they artistically categorized the approval of sale.52

These were examples of bigger scandals that caught the public eye. Lawyers take
advantage of the loopholes in law on almost a daily basis. For instance, Lauren
mentioned that Scottish limited partnerships are extremely popular because they have
a separate legal personality, which is not the same for limited partnerships in most
other jurisdictions. An English limited partnership, or a limited partnership in Cayman
Islands do not have separate legal personalities, which means that they cannot hold
investments in their own name, and instead the title rests with the general partner.
While advising their clients on what structures they should set up, Abrdn looks at the
advantages of the laws in various jurisdictions and offers advice accordingly. They
recently set up a special investment vehicle in Cayman Island for the purpose of
avoiding hefty taxes. UK Law never intended for these tax benefits to be given to the
residents, and therefore, choosing to set up a vehicle in a different jurisdiction is a
classic example of loophole engineering by lawyers that helps their clients achieve
better outcomes.

Another example is the setting up of multiple LLP structures, wherein the general
partner is another LLP. This structure enables Lauren’s clients to take advantage of
the changes in 2016 filing of balance sheets and audit to circumvent the law by setting
up structures that have the features of a corporate vehicle but aren’t actually corporate
vehicles. This is a clear example, that lawyers know the advantages and benefits of
various structures and loopholes within the law, they can take advantage of this
knowledge without actually going against or breaking the law.

52
Ibid
7. CONCLUSION

The role of lawyers encompasses multiple variations depending on the needs of their
clients. Roles also differ based on the industry lawyers are employed in. For instance,
an in-house legal counsel would be required to integrate their legal knowledge with
the business of the company they work for, to give optimal solutions to their clients.
They act as a one stop shop for all and any legal concerns that their organization may
have. On the other hand, transactional lawyers often deal with a diverse clientele and
help them buy or sell their assets, depending on which side they are representing.
They also offer legal opinions and undertake corporate advisory work for various
clients.

However, in the realm of private equity transactions, if one were to attempt to classify
the role of lawyers, Gilson’s original model of business lawyers as transaction cost
engineers still holds strong. Transactional lawyers adopt various approaches to
structure transactions in a way that would help their clients reduce transaction costs
and increase the value of the deal. Most lawyers do this by skillfully structuring
transaction documents, mitigating potential risks, and negotiating contracts.

If the deals are more complex, lawyers act as loophole engineers and take advantage
of the law. Loophole Engineering if used beyond means can result in tarnishing the
reputation of lawyers, which as established, adds value to their entire profession.
Therefore, if engaging in loophole engineering, lawyers should always be aware of the
thin line between, skillfully structuring a deal as against the scope of that being illegal.
Law often has gaps within the structure, this is mostly because anticipating all
scenarios on what may happen is not possible, this was never meant to allow
participants to go against the basic intents of law. However, lawyers are known to
adapt and conquer, and if engaging in loophole engineering, they must remain careful.

Lawyers act as reputational intermediaries whose stamp of approval legitimizes the

transaction and gives comfort to the clients of its legitimacy. For most high value deals,
people prefer hiring the magic circle law firms, the fact that this distinction of magic
circle law firms exists, is itself proof enough to show that reputation adds value to the
legal profession. Students from law schools have their preferred picks of law firms,
usually the dream law firms for any law student are the ones that pay well, have areas
of expertise that align with the interests of student, but most of all have a reputation in
the market for being the “best law firms”. This is probably why ranking accreditations,
and awards such as legal 500, 30 under 30, etc. are given extreme importance. These
raise the reputation of law firms in the market.

Lastly, it's possible that an overall read of this paper inadvertently confirms
Rasmussen's assertions regarding lawyers inflating their significance.53 However, as
a law student and someone immersed in the workings of law, I firmly maintain that the
role of lawyers in any private equity transaction is indispensable. It's not uncommon
for professionals in any industry to hold the belief that their work is crucial; after all,
such conviction often reflects dedication and commitment to excellence in their field.
If a professional doesn't believe in the importance of their work, they are probably
doing it wrong!

8. BIBLIOGRAPHY

1. Placenti FM, “Are Proxy Advisors Really a Problem?”, Harvard Law School Forum
on Corporate Governance and Financial Regulation November 7, 2018
2. Gilson RJ, “Value Creation by Business Lawyers: Legal Skills and Asset Pricing”
(1984) 94 YLJ 239 pg. 242
3. Rasmussen RK, ‘Lawyers, Law, and Contract Formation – Comments on Daniel
Keating’s ‘Exploring the Battle of the Forms in Action’” (2000) 98 MLR 2748
4. Dent Jr. GW, “Business Lawyers as Enterprise Architects” (2009) 64TBL 279
5. Knoll MS and Raff DMG, “A Comprehensive Theory of Deal Structure:
Understanding How Transactional Structure Creates Value” (2010) 89 TLR 35
6. Okamoto KS, “Reputation and the Value of Lawyers” (1995) 74 OLR 15
7. Kosuri P, “Beyond Gilson: The Art of Business Lawyering” (2105) 19 L&CLR 463
468-469
8. Fleischer V, “Regulatory Arbitrage” (2010) 89 TLR 227

53
Rasmussen (n 5)
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