A tech-savvy company does not necessarily have a tech-savvy legal team. Nor, for that matter, does it necessarily encourage the use of tech among support functions. But a supportive environment is at least a start. It is refreshing to see that 81% of respondents said their companies were supportive of the use of technology in the legal function. At the same time, 67% thought their companies were more supportive than their rivals. At least 18% of them must be wrong…
But this support has not necessarily translated into financial backing: nearly half (45%) of GCs said that insufficient budget for was the biggest barrier they faced to obtaining technology for the legal team. Knowing what to buy among the many systems available is also becoming problematic, with 73% of GCs either unsure of what technology was available or feeling that there was no suitable third-party tech to meet the legal team’s needs.
There are also cultural barriers to implementing legal tech, sometimes in surprising places. Japan may be the home of everything high-tech, from robots to video games consoles, but its businesses still lean heavily toward tradition when it comes to ways of operating. Angela Yuen, deputy general counsel at JERA, Japan’s largest power generation company comments:
‘In every Japanese organisation there are more layers than an onion. For instance, taking an approval system from paper to electronic format can be a huge task because under the old system of internal approval there will be a large number of steps required at various levels and no one wants to be cut out of a decision.’
‘Furthermore, while people in Japan embrace technology, the legal field has been slower adopting legal technology due to a conservative, careful approach. I think these are two significant factors in why Japanese corporates have been slower to embrace legal technology’.
The long and costly road
When it comes to wish lists for new technology, GCs are looking for either a simple efficiency boost (38%) or readily customisable software (24%). Surprisingly, value for money (15%) and ease of use (10%) were not big concerns for GCs looking to implement new systems. Clearly, legal teams accept the road to tech-enabled efficiency gains will be long and costly.
But the costliest of all solutions, advanced automation and AI, have yet to gain traction with Asia Pacific’s GC community. Only 23% of those surveyed said they were using an advanced tech solution in the legal team, with many deterred by concerns over the cost and reliability of the such systems (29%), difficulties finding the right software (20%) and their own lack of product knowledge (21%).
There was also a healthy degree of scepticism on display. ‘The maturity of AI solutions for legal work is lacking, and I think there is more marketing hype than real AI solutions on the market’, comments Bernard Tan, Asia Pacific managing counsel at Agilent Technologies. There were also concerns that more advanced software would generate more risk for the business. As one respondent commented:
‘There are a number of advanced technology options, but none so far have I found to be absolutely effective. Those that do exist seem to create another layer of liability, which can add to the responsibilities of the legal team. No single tech platform is able to resolve multiple issue, regardless of what their sales teams claim.’
There have, however, been positive experiences. Ivy Wu is head of legal for Greater China at American business-to-business IT service provider DXC Technology. Recently, DXC signed the largest-ever managed services partnership agreement with UnitedLex, giving them access to a suite of advanced legal technology systems.
‘The AI-based legal research translation tools mean we accrue significantly less time and cost penalties when compared to having a dedicated department for this task’, Wu comments. ‘A document can be translated very quickly and will only require a very simple manual double confirm, which is very useful for some litigations, especially international ones which require a lot of translation. The feedback from the business from seeing this data is very positive because they are able to see the cost saved by the legal department is greater than our budget’.
Friend or foe?
GCs may not be using advanced technology en masse right now, but they are keeping a close eye on developments in the field. More than half (55%) were concerned that legal tech would disrupt the in-house job market, while just over a third (38%) felt that lawyers were well equipped to adapt to technological changes within the profession.
But, as Susan Cattell, senior legal operations manager at AMP, concludes, the end game is not lawyers being made redundant, but lawyers learning to do things more effectively.
‘I look forward to the disruption of the industry when we get this right, as when we do, the possibilities of better service to the end-clients, lower cost processes and better managed teams should promote an even better working environment.’
On behalf of all of World Services Group, I am delighted to welcome you to the third edition of our GC special reports, looking at the importance and impact of technology on the legal profession.
This issue of the report is indeed a timely one, as at no point in our professional lives has the profound effect of technology been more evident. Since the onset of the pandemic, private practice and in-house counsel alike have universally transitioned to new ways of working largely driven by technology, demonstrating on one hand the adaptability of the profession, while on the other, dispelling tired notions of lawyers as technological luddites.
As the legal leaders featured throughout the report illustrate, innovation – particularly as it pertains to technology – is apparent in every corner of the profession. Just as we saw in the first two editions, neither budget nor business size need to be obstacles to innovating, with much of the counsel-driven development originating from little more than an idea and an opportunity.
Yet as we celebrate the shared successes seen across the legal industry, we must remain cognizant that innovation is a journey on which we will never reach a final destination. And with evolution emerging from every corner, it would be all too easy to rest on our collective laurels instead of continuing to build on the progress made. So, while we look on at the innovators and their accomplishments detailed throughout the report, we should also consider what we can do to foster and facilitate the emergence of the next wave of visionaries, set to take the profession further still.
Here at World Services Group, we want to embody the change that we advocate for. As an organization, we have seen that investing in technology, talent and corporate sustainability best practices that foster social and economic development are essential elements for ongoing business success – all of which represent key commitments I have made for my tenure as Chairman in 2020-21. By taking a strategic approach to our proprietary digital platform, empowering emerging leaders across our network, as well as improving training and accessibility to technology for all our membership, World Services Group is committed to ensuring that we are properly prepared to capitalize on the growing wave of technological innovation, for the benefit of both our members and clients.
In closing, I’d like to thank all of those in the legal community who contributed their thoughts and insights as part of the research for this report. By sharing your own lived experiences along this journey, I have no doubt you will help to shape and inspire the coming generation of leaders and innovators, set to once again disrupt the idea of what it means to be a lawyer.
Lawyers across the world like to talk about rubber stamping things, even though few who qualified in the last 15 years will have seen a rubber stamp let alone used one to certify a document. But, as we found out speaking to GCs across Asia Pacific for this special report, when a lawyer in that region talks about rubber stamping something, they often mean it literally.
‘Most documents I deal with require physically stamping,’ lamented one Indian GC. ‘Even if you want to automate some part of that process in the end you will need to get a stamp. That means a trip to another office, a taxi ride somewhere else in the city, a long wait in a queue. All to get that piece of paper stamped.’
India may be notoriously bureaucratic, but the problem was far from unique to that country. GCs from Japan, Korea, Indonesia, and even ultra-efficient Singapore told us of cultures rooted in face-to-face contact, deference to senior decision makers and established hierarchies. As a result, even that simplest of legal technologies, the electronic signature, had failed to take root.
The obstacles facing GCs who wanted to introduce technology felt unmovable. Until a pandemic hit. After nearly a year of lockdown, businesses across Asia have embraced new ways of working.
To understand just how much lawyers have adapted to tech in these strange times, GC magazine teamed up with World Services Group to survey over 100 of Asia Pacific’s leading general counsel. We asked them about everything from the impact of Covid-19 on the legal team’s efficiency to their use of AI, how they find the right software (and the money to buy it), and their expectations of outside counsel when it comes to technology.
We found evidence of a region that is almost uniformly embracing technology, a region where even the most entrenched cultural habits may be coming to an end. But let us not get carried away.
Any discussion of how GCs in the Asia Pacific region are using legal tech is liable to fall into the trap of focusing on culture first. Certainly, this special edition shows much evidence of country-specific traits that are restricting or encouraging the use of technology, but it also shows that GCs the world over are facing the same issues when it comes to technology.
Broadly, there are three steps involved in the acquisition of legal tech, all of which are things lawyers have historically struggled with: Knowing what’s out there; understanding and benchmarking the capabilities vs the cost, and convincing the business that it is going to save time and money. Until GCs get to grips with these procurement-driven approaches to buying technology their successes in finding suitable platforms is likely to remain limited.
Legal tech is becoming big business in the Asia Pacific region, so much so that the Singapore Academy of Law (SAL) has opened a legal tech accelerator. But much of the industry’s focus remains on selling to law firms. For GCs and in-house legal teams, making sense of the myriad systems can be a daunting task.
It is no surprise then that GCs would like to see law firms doing more to help them make sense of the market. While more than half of respondents to our survey (62%) said their external firms were using technology to deliver legal services, under a quarter (23%) said their firms had offered to share information on how technology might benefit their legal team’s operations.
‘Law firms need to demonstrate the value to in-house teams of adopting technological solutions’, noted one respondent, a Hong Kong-based legal manager at an international consumer goods company. ‘Right now, I think the focus of law firms is using technology to improve their bottom line rather than creating value for clients.’
Another respondent, an Indonesia-based head of legal at a large insurance provider, added: ‘It would be great if the external firm could also offer the service of helping in-house teams find the right legal tech solution for their team. They are often far more aware of the trends and services being used in the market so this would really help us understand things.’
Given the clear client demand, it is surprising that law firms are not seeing the opportunity here. Then again, law firms themselves may have a lot to learn. Just 22% of respondents were satisfied with the technology being used by their external firms.
Law firms should take this dissatisfaction seriously – 94% of respondents said it was important for law firms to keep up with new technologies, while 59% said they had started assessing their firms’ use of technology as part of their formal panel review process.
The incentive for law firms is clear. While legal tech is often seen as a disintermediator, disruptor or challenger to the established order, it does not have to be treated as a zero-sum game. As Susan Cattell, senior legal operations manager at Australian financial services company AMP, notes: ‘Clients and law firms have to work together to ensure the right tech solutions have been put into place and that they benefit both parties.’
Seemingly unable to move on from damaging #MeToo allegations; suggestions of an inappropriate drinking culture; an incomplete UK move to Bishopsgate; and a succession of high-profile departures culminating in Skadden’s poaching of Bruce Embley on the eve of Dawson’s appointment; all have contributed to keeping Freshfields in the press for the wrong reasons.
At the same time, and perhaps most important of all, there is the reputational elephant in the room: namely, the cum-ex scandal in Germany. This involves aggressive tax strategies that were championed by a former Freshfields partner so as to take advantage of apparent loopholes in German dividends tax law. (See ‘Der Freshfields-Skandal‘ for detailed analysis.)
What seems striking to outsiders is that other prominent (and respected) law firm tax departments in Germany – notably Linklaters and Hengeler Mueller – said no to their clients on these trades and refused to sign off legal opinion letters. So it seems that what Freshfields was doing was not common market practice (in other words, it cannot be said that every other law firm was doing the same, which is the usual excuse when a tax ploy proves to have been ill-conceived).
The consequences have been enormous. Firstly, it is estimated that cum-ex claims in Germany amount to €11bn (obviously, not all were signed off by Freshfields). Secondly, the Freshfields partner, along with a more junior colleague (also a partner at Freshfields), has since been arrested and faces criminal prosecution. Thirdly, Freshfields has settled a claim from the aggrieved administrators of Maple Bank (a cum-ex client of the firm that reclaimed €380m in tax that was never paid – and which has since gone bust) for €50m.
The two Freshfields partners involved have resigned. But the concern must be that there are potentially other cum-ex clients who might be minded to bring a claim against the firm, if only because German tax authorities now take such a dim view of such tactics. No doubt Freshfields has sufficient professional indemnity cover to meet claims that might be made, although it’s reasonable to suppose that partners in London (and other non-German locations) might be unhappy at having to make contributions.
Meanwhile reputational damage is already obvious – the German government has distanced itself from Freshfields and made clear it will not instruct the firm (when asked whether firms like Freshfields or others should be excluded from receiving future instructions, the German finance minister replied: ‘I cannot imagine that new assignments will be placed there’ – which is a nice way of saying they will not get any work). Might other EU governments follow its lead?
Similarly, in the corporate sector, German semiconductor manufacturer Infineon (market cap of $30bn) was forced to justify retaining Freshfields as legal counsel after one of its shareholders challenged the firm’s ethical standards. GCs we surveyed for The Legal 500 Deutschland voiced their anxiety about being ‘thrown into the same pot’ by continuing to instruct a firm associated with ethically suspect advice. And with peer firms in Germany already grumbling about the impact of the scandal on recruitment into their tax departments, how can Freshfields hope to safeguard its own longer-term position in the market?
There are indications that this is not a one-year problem, and that there are more deep-seated causes for concern. At The Legal 500 it is noticeable to me that in recent years there has been a sharp decline in the number of Legal 500 top-tier recommendations globally for Freshfields (compare 90 in 2017 and 51 this year). Perhaps that is due to the firm being less open and transparent about its work, but I suspect it runs deeper than that – and it reflects less enthusiastic recommendations from clients and peers, as well as a change in the culture of the firm.
Global law firms build their practices on the basis of global expertise (which Freshfields has in abundance), but also on a global reputation. In effect, global clients want to be associated with the best and they want to be associated with legal brands that enhance their own corporate values. The danger for Freshfields is that cum-ex makes it a target of global activism (for instance, by tax-transparency campaigners in the UK) which might escalate into further bad PR. And that may then lead some major clients to question whether there are other law firm brands that they might prefer to be associated with.
That is the big unknown for Freshfields. With good fortune this will remain a localised (German) crisis. With bad luck it could turn into an international embarrassment.
The future reputation of Freshfields will be decided in the medium to long term. In the short term, I note the firm’s decline in our rankings. I note the negative comments from German GCs. I note some significant departures. I note a culture that seems to be more inward-looking and less transparent than it was a few years go. And I worry that the firm may have become over-aggressive in its pursuit of profits.
Above all else, it is client perceptions that matter. On that basis, if Freshfields was quoted stock, my buy/hold/sell recommendation would be: ‘Sell’.
It’s 9 September in the German parliament. Stefan Liebich of the democratic socialist party, Die Linke, stands up to quiz finance minister Olaf Scholz, a member of the Social Democrat Party. His question: ‘Have there been any thoughts on your part whether firms like Freshfields or others should be excluded from receiving future instructions?’
Scholz responds: ‘In relation to the law firm you mentioned… I cannot imagine that new assignments will be placed there’.
For any normal law firm that would be a body blow. For an international firm with 27 offices in 17 jurisdictions, representing financial institutions and governments, as well as national and multinational corporations, it is a humiliation. How did the oldest international law firm in the world end up with such a public slap-down? And what prompted Scholz, one of the candidates to succeed Angela Merkel, to suggest the German government should stop instructing Freshfields?
The answer lies in the cum-ex tax fraud scheme, widely acknowledged as the biggest tax scandal in Germany’s history, in which Freshfields Bruckhaus Deringer has been identified as a major player. Since its offices were first raided in the autumn of 2017, Freshfields has been hit with a steady stream of bad press for its involvement in the scheme. In August 2019, liquidators of the now defunct Frankfurt-based lender and Freshfields client, Maple Bank, which conducted cum-ex trades, sued the firm for damages. Freshfields agreed to a €50m settlement.
Cum-Ex: What is it?
The cum-ex scandal involves a controversial dividend arbitrage trading practice, which took advantage of a loophole in German tax law. It involved banks and stockbrokers rapidly exchanging shares with (cum) and then without (ex) dividends between three parties, in a way that enabled them to hide the identity of the actual owner. At least two of these parties then claimed rebates on capital gains tax that had only been paid once. These trades were executed between 2001 and 2011, and were formally prohibited in Germany in 2012. Because of these deals, billions in tax went uncollected by the German state. Other countries beyond Germany have also been affected by the cum-ex tax fraud scheme. Across Europe, cum-ex trading is said to have cost taxpayers up to €55bn.
Reporting has largely focused on investigations surrounding the departure and subsequent arrest of partner Ulf Johannemann, the firm’s former international head of tax, in November 2019. More recently, in June 2020, another tax partner, who was the firm’s last specialist for tax products in Germany and an alleged adviser on cum-ex products, also left Freshfields and was charged with aiding and abetting serious tax evasion.
Freshfields’ direct response to the whole matter has appeared subdued. The fact that the firm created a German ethics committee, with a code of ethical principles and rules of conduct, in May 2020, perhaps was a belated acknowledgement of the need for change but was unable in practical terms to extricate the firm from the scandal.
What is clear is that the cum-ex scandal has shaken the entire tax sector and in turn inspired reflection on the professional and social responsibilities of major actors such as Freshfields. As a result, law firms’ approach to the circuitous issue of ethics now has greater impact on law firm selection decisions.
We spoke to top general counsel (GCs) in Germany to gauge their reaction: to what extent will ethical standards play a role in choosing a law firm? Should a law firm’s work be not only legally but also ethically and morally sound? Will GCs be content to work with Freshfields (and other firms) implicated in the cum-ex scandal? And what reputational damage – if any – will those firms suffer?
Legal or illegal? Moral or immoral?
Structured finance in tax law is not new, departments for tax-optimised products at financial institutions are not new and, indeed, tax arbitrage and dividend stripping is neither new nor criminal. To the frustration of tax lawyers, some falsely lump together cum-cum and cum-ex deals – two different types of dividend stripping – and most would agree that the illegality of cum-ex is not as straightforward and quite as obvious as, say, the carbon trading tax fraud (which has similarly been dubbed the ‘fraud of the century’).
Nonetheless, to many tax lawyers, cum-ex deals, which essentially involve claiming tax credit twice on taxes only paid once, simply didn’t feel right. The market quickly divided into those who gave legal opinions and those who didn’t. Freshfields positioned itself in favour of these trades and their approval was key to banks going ahead with the transactions. Importantly and – in retrospect – embarrassingly for Freshfields, two of its leading competitors, Linklaters and Hengeler Mueller, both took a more conservative approach – and did not provide the necessary legal opinions to make cum-ex deals viable. So it appears that Freshfields was the outlier – albeit in a highly profitable sector of the tax market.
Looking back, tax lawyers agree that attitudes to tax avoidance have changed since the 2007/08 financial crash. Advice on tax reduction was previously very much the primary focus for many tax departments, and aggressive tax planning was not out of the norm. While this may still be the case for some, the cum-ex scandal has no doubt contributed towards a shift in attitudes. These days, the new key theme is risk minimisation. Clients’ appetite for risk has decreased dramatically and, as one tax partner at a large international firm points out, there are now even sustainability reports in tax law. Today, there is a completely different kind of awareness than there was ten years ago – and that new approach goes hand in hand with a call for transparency.
One might still argue that the tax adviser’s job is to assist the client with paying only those taxes that are required, and the point of tax advice is to arrange fiscal relations in order to pay the least taxes necessary. At the same time, however, as a GC and managing director at a major software company points out: ‘As an independent body responsible for the administration of justice, the lawyer also has obligations to society that exclude representing unethical practices’. While this latter commitment might have limitations, for instance in relation to representation in criminal proceedings, the ethical component of legal advice is actively influencing companies‘ choice of law firm.
Traditionally, ethics and law go hand in hand. Law firm partners should have an innate moral compass. On that basis no distinction should be necessary between legally sound and morally or ethically justifiable advice, and for corporate counsel this distinction should not play a role either when mandating a firm. Ethics committees and supervisors should therefore – in theory – be superfluous. But that traditional approach is now seen as old-fashioned and incompatible with some aggressive profit-driven clients demanding aggressive profit-driven solutions. The danger for any law firm is that it is obliged to adopt the moral compass of its important (high-profit) clients and place money-making over traditional ethics. That is a problem that faces all major firms, not just Freshfields, although it is Freshfields that is providing a case study in how high-profit work can come at a reputational cost.
What is significant from our conversations with German corporate counsel is the indication that client prerequisites are changing. While ethics were ‘taken for granted as an unwritten law’ (in the words of the GC at a major German manufacturer), that is seemingly going to change, with a greater expectation on firms to take responsibility for clear ethical policies and positions.
Today, nobody would deny that the cum-ex scheme is a crime against the taxpayer, so how is it that some tax lawyers and some firms – not just Freshfields – committed to approving these deals? Several GCs have commented on corporate law firm culture and what they perceive to be changes in law firm behaviour: ‘These institutions change people’, according to the head of legal at a multinational financial services company, adding that they believe there is ‘an attitude that everything which is not legally prohibited is allowed.’
‘Two rotten apples discredit the entire firm’
So, who should take the blame for overstepping ethical boundaries and getting involved in what later transpired to be a huge tax evasion scheme at the taxpayers’ expense? From the GCs’ point of view, some maintain that the focus should remain on individual lawyers or, at most, specific legal teams.
Possible misconduct by individuals does not automatically mean misconduct by everyone else. But the cum-ex scandal has shown that an individual’s actions may lead not only to that individual’s reputation being damaged but that of an entire department will likely suffer as well. By extension it is entirely feasible that repercussions could end up being firm-wide. As a senior regional counsel at a medical technology company puts it: ‘Two rotten apples discredit the entire law firm… the behaviour of individual representatives of a law firm suggests the approval of unethical behaviour by other colleagues.’
Whether flawed culture has afflicted Freshfields is uncertain, but the danger for the firm is one of perception: whether those two malefactors are seen (fairly or unfairly) to indicate a deeper-seated problem in the larger organisation. At the very least, the crisis poses questions over internal checks and balances. The GC at a US retail company makes a blunt assessment: ‘The firm’s role in the scandal must be made clear and there needs to be a statement about the firm’s values, to which it will adhere in the future.’ Freshfields’ May 2020 code of ethical practice might have sought to answer the second part of this, but the risk for the firm is that it is seen as no more than a belated PR exercise to try to distance itself from the ongoing bad publicity without directly confronting the part it played in cum-ex matters.
Conversations with German GCs show that specific individuals’ or departments’ involvement in unethical behaviour is the most relevant factor. However, when it comes to securing new business, the focus is on the entire law firm.
Beyond not wanting to be associated with questionable ethics, some corporate counsel already go one step further and consider themselves to be ethical guides whose job is to set out the right path not solely on a legal level. One respondent, in their role as in-house counsel at a German consumer electronics company, sees themself ‘as a kind of moral compass for the company’. As such, mandating a firm involved in the cum-ex scandal goes against the grain.
‘Legally clean work is no longer enough today,’ they comment. Instead law firms are subjected to a holistic analysis by legal departments, and this in turn means ethics and morality are increasingly and more explicitly incorporated into corporate decision-making processes. If firms do not meet ethical standards, this may be reason enough not to mandate them. This is where reputational damage potentially has a snowball effect. Corporate counsel will be reluctant to be seen as approving of seemingly unethical behaviour. As a GC at a food services conglomerate states: ‘If some clients avoid the firm, remaining clients could feel they have been thrown into the same pot morally.’ In short, clients end up needing to justify mandating a firm whose ethics have already come under question and whose reputation has already taken a hit.
Freshfields has already come close to this scenario. In February, the giant German semiconductor manufacturer Infineon (market cap of $30bn+) was forced to justify retaining the firm as legal counsel after one of its shareholders challenged the decision’s ethical standards. ‘The board of directors instructed the law firm Freshfields, which is said to be responsible for what is probably the biggest tax robbery in post-war history,’ stated the shareholder, pointing to a violation of Infineon’s code of ethics and its code of business conduct.
Fairly or not, that is the context in which finance minister Scholz indicated that the German government should no longer instruct Freshfields. If the German government will not instruct the firm, then the pressure on GCs (German and non-German) not to appoint it may be ratcheted up another notch. The obvious danger for Freshfields with state intervention of this kind is that a local problem becomes a global problem – and that the governments of other countries decide that they should distance themselves from the firm.
The resounding message from clients is that any firm involved in an alleged scandal should not simply keep quiet. Instead, the firm should openly address and deal with its behaviour. As a first step, a firm should ‘fully clarify [the involvement in the scandal] and, if necessary, distance itself from unethical individuals’, says a senior regional counsel at a medical technology company.
A director of legal operations at a multinational pharmaceutical company agrees: ‘What matters to us is that law firms deal transparently and consistently with the issue.’ This includes ‘open communication and consequences of possible participation’. They point towards the need for documentation of measures that are being taken to prevent such a situation from arising again, sustainable instruments for monitoring and control, as well as training.
On top of that, they call for ‘a very clear statement from the firm’s management on the ethical principles to which the employees are obliged’. The Infineon example illustrates the dangers for firms not perceived to have taken up a proactive commitment to ethical standards, where that commitment has often already been taken by the client itself.
Indeed, some GCs report that they already include ‘ethical standards and values’ in their assessment when selecting preferred legal advisers, and law firms are increasingly measured against codes of conduct. This also reflects the larger trend within corporate companies, and the same is now expected of their business partners, including their legal advisers.
An existential threat?
No doubt, the consequences of being involved in the cum-ex scandal are existentially threatening for some individual financial, and also some legal advisers in Freshfields and other law firms (Freshfields was not the only law firm implicated in the global cum-ex market).
But it goes beyond the individual. As the cum-ex tax fraud scheme has engulfed law firms across Europe, departments and firms as a whole may need to delve deeper, openly evaluate the ethical aspects of their own practices and put new measures in place that reflect today’s call for transparency, accountability and ethical standards.
The results of our informal survey of German GCs showed that 88% agreed that firms involved in the scandal would suffer reputational consequences, and the same percentage claimed to take ethics into consideration when selecting a firm. Less than a third claimed to be content to work with implicated firms.
For months, Freshfields took little obvious public responsibility for its cum-ex advice. Only in late February did the firm for the first time issue a self-critical statement, when managing partner Stephan Eilers spoke with the German weekly newspaper Die Zeit. Previously, the firm’s official line focused entirely on the legality of its advice with no comment on the criminal legal proceedings against its partners or the damage claim settlements over its advice to the now defunct Maple Bank.
In a tentative change in communications, Eilers acknowledged that its advice in the context of cum-ex deals is not a glorious chapter in the firm’s history. The timing of this first open recognition of reputational damage strongly suggests it was spurred by the Infineon incident: it shortly followed Infineon’s AGM, where the Freshfields client was forced to justify using the firm.
Only a few months later, in May, Freshfields recognised the need to address its ethical standards by establishing an ethics committee and publishing its code of ethical principles and rules of conduct. But by then much harm had already been done. The clear message from some German GCs is that they still feel they are waiting for clarification from Freshfields on the role the firm played in cum-ex advice. Instead, Freshfields has become known for a wall of silence.
‘What matters to us is that law firms deal transparently and consistently with this issue.’
What will the firm do next? One suggestion from the reputational-damage casebook might be to appoint a credible outsider to conduct an independent review, which would then be published. That might go a long way to reassuring clients that the firm retains its moral and ethical compass. The model might be the searingly honest review commissioned by house-builder Persimmon in 2019 (which confronted the issue of whether high earnings had come at an unacceptable cost). There is no historical precedent for a Magic Circle firm doing that; Freshfields had no comment in response to this suggestion being put to them.
GCs report that relationships with firms allegedly involved in the scandal are likely to come under increased scrutiny, although relationships would not be immediately terminated. However, when it comes to new instructions, alleged involvement in cum-ex deals is seen as much more likely to rule out a firm from selection.
In short, existing relationships may – for now – continue, albeit harmed, while new relationships have unquestionably been jeopardised: ‘I consider it impossible to instruct law firms known for such practices,’ says one GC. ‘Freshfields Bruckhaus Deringer will suffer reputational damage for a long time due to Ulf Johannemann’s advice,’ states another.
There is also an expectation that there will be more accused parties, more proceedings and more who will suffer the consequences. When speaking to tax lawyers at firms and to their clients there is certainly the sense that the entire sector has suffered a blow.
For Freshfields’ new leadership team of senior partner Georgia Dawson and the three joint replacements for Eilers – Rafique Bachour, Alan Mason and Rick van Aerssen – these problems are first-hand and real. The firm’s reputation has been trashed in Germany in a way that would have been inconceivable a few years ago. There may be other global issues to contend with, ranging from the strategic (can the firm establish itself in the US and what additional pressures do those efforts place on the already brittle lockstep pay structure?) to a series of significant departures (notably that of M&A co-head Bruce Embley to Skadden, Arps, Slate, Meagher & Flom on the eve of Dawson’s election). However, those may yet pale into insignificance compared to the potential damage to the firm’s standing caused by the cum-ex scandal. Ultimately a Magic Circle law firm trades on its reputation – damage that, and you can end-up damaging the whole firm.
Stop press
At the end of January it was reported that Freshfields had made a voluntary payment of €10m to the Frankfurt Public Prosecutor’s Office (PPO), and that the PPO no longer pursuing the firm as a concerned party in connection with Maple Bank. Freshfields said that the move followed “constructive dialogue” with the PPO and had not admitted guilt and/or liability. While Freshfields’ hope will be that a line can be drawn underneath the affair, their efforts to move on seem unlikely to be helped by the cum-ex scandal rumbling on in Germany and beyond (with Danish prosecutors now investigating and charging traders with tax fraud). Cum-ex long since moved from dramatic incident to long-running saga, and the consequent fundamental problem for Freshfields seems likely to be one of long-term reputation, heavily damaged by association with the largest tax scandal in modern European history and unanswered questions over how the firm allowed itself to be implicated in the first place. €10m will not buy back that reputational damage.
Research: Anna Bauböck, Editor of The Legal 500 Deutschland.
Commentary: John Pritchard.
All interviews with German GCs and corporate clients were carried out in September 2020.
The COVID-19 pandemic hit Paraguay’s economy very hard and just when the country was recovering after a period of stagnation (-3% year-to-date in the first half of 2019). 2019 wasn’t a good year for employment either, the combined unemployment and underemployment rate reaching 14.5% in the first half of the year and retracting to 12.9% in the second half. This favorable path continued during the first two months of 2020 but with the beginning of COVID in March, began to slow down. Social distancing measures have most severely affected the service sector although informal labor was also badly affected.
The Government and the Paraguayan Central Bank (BCP) adopted a series of exceptional measures to address the economic and financial needs of both individuals and companies. In this regard it’s worth mentioning the BPC’s decision to reduce the policy interest rate by 175 basis points to 2.25% and the temporarily relaxed provisioning rules not to penalize credit restructurings and prolongations as well as the Government’s anti-crisis fiscal package approved by Parliament.
Another measure to alleviate the crisis has been low interest loans granted by the National Development Bank (BNF) to finance MSME’s payroll during the outbreak; in line with this it is worth mentioning that in June credits granted to the private sector grew by 4.1% YtD and loans granted to MSMEs reached USD$217m in July, while in May they totalled USD£130m.
Nevertheless, in 2021-22 growth is expected to return to 4% due inter alia to consistent macroeconomic policies, anchored in inflation targeting and a gradual return towards the FRL ceilings. Another key role in economic recovery will and is being played by public investments particularly in public works.
Legal Updates
The pandemic has represented an opportunity to introduce major and necessary changes that have helped modernize the local legal framework.
Corporate Law
The Executive Branch enacted Decree 3605/2020 allowing PLCs to hold their board and shareholders meetings through telematic means provided that a series of requirements are met such as, inter-alia:
a) Real time presence and participation of authorized participants is ensured;
b) Meetings are recorded and kept within corporate files for 5 years and;
c) Mechanisms for the accreditation of rights to participate are established.
This provision represents a breakthrough in Paraguayan corporate practice and a clear advantage for foreign investors and shareholders as they can now take part in company decisions avoiding delays and fines especially during the pandemic. This exceptional measure will remain in force until 31 December 2020 and we are confident it will become a definitive practice.
Another important provision enacted is the suspension until 15 September 2020 of the application of fines and sanctions for non-compliance with the mandatory requirement of converting bearer shares into nominative shares.
Labor Law
This may be the field that saw the biggest changes. These sought to help businesses and employees cope with the crisis and reduce the negative impact on employment. Some of the most important decisions adopted by the Government are:
a) Contributions to the Social Security Institute (SSI) may be refinanced without interest for up to 18 months.
b) During the pandemic and whenever the nature of their work allowed, employers are encouraged to implement home and teleworking so as to avoid the spread of the virus; this measure is provisional and will last until the 31 December, nevertheless a draft bill has been presented to Congress in order to make it definitive.
c) A new regulation aimed at simplifying the application process for requesting employees’ job suspension was enacted. The procedure will remain in force during the pandemic and will benefit MSMEs only.
Anti-Trust and Regulatory Law
As a consequence of the COVID-19 crisis a lot of effort was made by the Government as well as the media and citizens in general aimed at controlling the public expenditure and public bidding processes. As a result of this, the National Competition Commission (CONACOM) undertook a series of formal investigations under Paraguayan Competition Law.
a) One was aimed at determining if prohibited agreements practices had been performed; the investigation was focused on public bidding processes for the purchase of medicines and medical related goods.
b) In another, CONACOM’s Investigation Department initiated preliminary investigation proceedings in order to identify possible violations of the Competition Law in connection with the latest operation involving a concentration proceeding between the biggest meat processing company and one of its competitors.
This is the first time CONACOM has used its investigative powers and its power to initiate ex officio proceedings; we believe this will improve the level of transparency of our public system and, at the same time, will force local businesses to strengthen their compliance policies, in particular those businesses in a dominant position.
Tax Law
Along with labor, tax law was the other field to see the greatest number of significant changes. During the crisis the Government enacted a series of important tax relief measures such as, inter alia:
a) Tax Deferrals;
b) Exception of penalties for late filing;
c) Exception of import duties and VAT reductions on all goods qualified as of first need;
d) Deadline extensions for filing and payment of the Withholding Tax on Dividends, Corporate Income Tax, Income Tax on Individuals, Income Tax on Agricultural Activities and Income Tax on Commercial, Industrial and Service Activities.
Procedural Law
The Executive branch enacted the Law by which the Judiciary’s summer recess is suspended thus all judicial activities and deadlines remain.
Bankruptcy Law
A draft bill to modifying the bankruptcy law is being studied by the Legislative branch. The current law dates back to 1969 thus its modernization is seen as being key to improving the country’s business climate; the new law will allow companies at risk of insolvency to swiftly put their accounts in order and hence re-emerge more stably while also benefiting creditors. This law will be particularly important in the aftermath of the pandemic crisis.
Data Protection Law
Currently Paraguay does not have a general Data Protection Law, however, as a result of the increase in social and commercial activity on the internet due to social distancing measures it became apparent that the country could no longer remain without such an important provision; as a consequence a bill is currently being studied in Congress and is expected to be enacted by the end of 2020 or the beginning of 2021.
Conclusion
We cannot ignore the negative effects produced by COVID-19. However, we believe that Paraguay will re-emerge stronger wherever we can capitalize on the opportunities arising from the crisis aimed at accelerating the modernization process and increasing transparency of institutions.
So far, our country has taken adequate measures and has better coped with the crisis than some of the other countries in the region. In truth, the pandemic’s impact has been less harsh than in those countries whether in respect to fatalities and infections or in economic terms.
As for opportunities for the years ahead these will certainly come from the public sector particularly public works (civil and road) and from telecommunications as both sectors have shown a very dynamic performance over this period.
A lot is different in Latin America, compared to the Anglo-American world. This is also the case as regards litigation or arbitration funding. The language to start with, civil law v common law, duration of court proceedings, popularity of arbitration, the price of legal advice and much more. Whereas litigation funding has a long history in the UK and in the United States, its twin brother – arbitration finance – is still in its infancy in Latin America.
However, the trend in many (not all) Latin American jurisdictions is obvious. Arbitration has become more interesting as proceedings appear to be more reliable, duration more predictable and international enforceability – relatively –easy. The legal skillset is also at hand.
All this led to the establishment of local third party funders in the past years like Leste in Brazil, Lexfinance in Peru or specialised Carpentum Capital operating out of Switzerland but with lawyers on the ground in LatAm. Most recent Hakamana was set up in Chile. These funders are perfectly suited to serve growing local demand and complement or replace bigger Anglo-American investors, usually only funding investor state disputes or other very pricy cases.
Whereas demand is increasing, awareness of arbitration finance in Latin America is still very low. And even if the very basics are known, there are a couple of misconceptions around.
The biggest being that arbitration funding would only be required by clients, lacking of resources to finance a legal proceeding. This is a very traditional view of third party funding and may indeed be the case in jurisdictions who have a very young market in that respect. In the US according to a study on litigation funding from 2019, less than 30% of clients revert to litigation funding for that reason. The vast majority makes use of it as a financing tool in order to hedge litigation risks, outsource legal costs or free up working capital.
Another common misunderstanding is that a funder would acquire the litigation rights, which is not the rule (but it is possible under certain circumstances, eg by way of monetizing an award). Funders usually assume the cost risk. All expenses relating to arbitrators, arbitral institution, experts or law firms are borne by the funding partner up to an amount of committed capital, which is agreed beforehand. In case of a successful outcome, the result is shared – it could be a percentage of the result, or a multiple of the investment or a combination. If the case is lost, investment is also gone. Hence the risk is high, which is why only a fraction of cases will pass the scrutiny.
The Process
In order to survive this process, you should first know, how it works. Each investor may break its process in to various stages, but it always comes down to three crucial steps:
At the outset confidentiality will be agreed, conflicts must be cleared and the funder will check whether a potential investment would be in line with internal guidelines or appetite. Specific proceedings may be ruled out, minimum or maximum investments set and ethical standards applied. That’s the easy part.
In a second round essential documentation is shared, such as basic contracts, correspondence, legal opinions, financial information of counterparty, expert valuations etc. Also important: the budget of the case with an anticipated cash-flow. This phase is the internal due diligence or ‘first level’ review. The funder will decide, if it can invest in the case and calculate on what terms it would do so potentially. If positive, a non-binding offer is made and the client signs a term sheet. At this stage the investor gains exclusivity to pursue the investigations for a certain time frame. Most cases won’t pass this stage either because the probability of success is not high enough, realistic outcome is lower than expected, the counterparty not sufficiently solvent or the case may take too long.
If terms are agreed in principle and no smoking gun detected, the funder will spend even more time and money on an external due diligence or ‘second level’ review. Another lawyer than the client’s one will opine on various aspects of the case. If claim evaluation is an issue, an additional expert may be required to review damage reports, or arbitrators for a specific industry may be asked to share their view on custom and practise in that industry. All this should happen in a speedy and transparent fashion, as the client will be eager to get the final approval for his arbitration finance.
In theory the whole process should take a couple of weeks only, but depending on the complexity and value of the case it may easily take months. Don’t be shy to ask your funder for transparency and commitment to timelines.
The Funder’s View and How to avoid Pitfalls
On the other hand, you can also accelerate the process of arbitration finance in Latin America, if you know what the investor will look at.
You may be surprised, but the merits of the case are not the core issue. It will just be assumed that you don’t come around with a hopeless case, invented stories or a useless lawyer.
It’s the economy of the case. Starting with the collectability and ending with the cost-to-demand ratio. Your case may be as good as it gets on paper, but if you pursue this against a soon to become insolvent party, it does not really help. The quantification of a realistic outcome, rarely equalling the demand, comes next.
The funder will also look at a worst case budget and how it will be paid out. Worst case in our world not being a lost arbitration or litigation, but a proceeding going through annulment and up to execution. Too many lawyers or general counsels omit to think beyond the first award.
Therefore and in order to shorten the time up to a positive funding decision, you should:
target the right investor. Ideally someone with the appetite for your arbitration in terms of size and jurisdiction as well as understanding for the local legal culture;
think twice (at least) about the economics of the case. Potential outcomes, realistic result, duration and cash-flows are to be considered;
work with a capable lawyer having a good track record in the legal sector at stake;
have crucial documentation at hand and avoid piecemeal production of documents;
be transparent and disclose the good, the bad and the ugly. Rest assured that the investor will find the weak spots anyway.
If you understand the process and know that the investor tackles a claim from a slightly different angle, arbitration finance in Latin America or elsewhere will be no secret science, but an accessible tool of dispute resolution.
This article contains an overview of the impact that COVID-19 has had around various sectors of the Dominican legal market, as well as some of the legal solutions that have emerged to tackle the crisis that the pandemic has brought with it.
Firstly, it should be recalled that the Dominican Republic has traditionally been characterized at the international level by its strengths in trade, the service sector, the tourism industry and agricultural production, but it has also positioned itself in recent years as the fastest growing economy in Latin America – being at the same time one of the most important economies in all of Central America and the Caribbean according to various indicators. This has been achieved on the back of its industries and the Free Trade Zone sector, which generate about 60% of the country’s exports and have a great impact on local employment.
However, the impact of COVID-19 in the Dominican Republic has been felt in a very negative way in several of the industries that have traditionally served as a pillar for the national economy, especially the tourism sector, which has been the worst hit by the pandemic.
The Central Bank, through the Monthly Indicator of Economic Activity (IMAE for its initials in Spanish) indicated the reality of the various industries in terms of their economic performance for the period January-May 2020 compared to the same period of the previous year, noting that the industries most affected were: hotels, bars and restaurants (-42.6%), construction (-23.2%), mining (-16.3%), transport and storage (-11.0%), free zones (-9.8%) and local manufacturing (-7.8%). On the other hand, the sectors that have established positive markers according to this indicator are the following: health (12.4%), financial services (10.5%), agriculture (5.2%), real estate activities (5.0%), communications (4.1%) and energy and water (2.0%).
In this sense, the Dominican legal community has had several challenges in terms of how to face the crisis and provide the different markets with the relevant legal solutions to mitigate the impact that COVID-19 may have in the various productive sectors of the country.
Labor advisory services have been among the most in-demand legal services today as a response to the uncertainty caused by the unprecedented scenario in which the pandemic has put Dominican workers. In our country, as in most of the international community, telecommuting practices and the suspension of employment contracts have increased, and, consequently, brought a mechanism of legal procedures that allow for the proper management of work in accordance with the law and the established processes.
On the other hand, as far as trade is concerned, there has been an accelerated transition to e-commerce and the use of digital platforms. Both public and private institutions have adapted to the digital trade model, promoting modern tools such as the use of electronic signatures and online payment systems that contribute to the agile development of trade practices without the need for physical contact or transport to the distributor.
An unfortunate aspect of the crisis in the economic and social sphere is the inevitable insolvency of single-owner businesses and small- and medium-sized enterprises due to the lack of liquidity generated by the suspension of business, and the consequent drop in sales. These businesses developed a negative cash flow, paying employees, suppliers and other fixed expenses, without incurring any – or little – income.
Faced with this reality, the first steps that businesses can take are to invest more capital, if possible, or turn to bank financing to help pay for the drop in sales. However, if none of these options is feasible, then corporate restructuring should be considered as a solution so that businesses can reorganize without having to cease operations. In this regard, we count with the Law 141-15 on Restructuring and Liquidation of Companies and Natural Persons that entered into force in 2017, and that availing to its provisions is a highly feasible and currently required option to face the economic crisis, allowing, among other things, the restructuring of businesses facing economic difficulties, with a process leading to a reduction in the liability burden to enable the business to continue its operations, thereby benefiting its creditors and employees.
Finally, with regard to future options in the context of private investment, the Law on Public-Private Partnerships (PPPs) was recently enacted in the country, which seeks to facilitate the development of infrastructure and services of social interest, by channelling private sector funds to finance infrastructure and projects that contribute to the country’s sustainable development. PPPs have the potential to become one of the main mechanisms of support and cooperation for the reconstruction of the country’s economy, as they enable budgetary constraints to be addressed in a more timely manner, the execution and operation of works and services by the private sector, as well as diversifying the range of public services and infrastructures, allowing the incorporation of innovations and new initiatives in the sector, among other advantages.
At EY Law, we have the knowledge, experience and different lines of services aimed at meeting the legal needs that may be had in any of the aspects addressed in this article. We have innovative solutions and proposals that favor the development of an excellent business climate at local and international level, based on good business practices, ethics and responsibility with an integral and multidisciplinary team.
As the COVID-19 pandemic creates significant uncertainty and unique challenges in the global investment environment, its impact on Latin America presents several opportunities for private equity funds. In navigating the new investment landscape with respect to their Latin American investment programs, there are number of corporate, finance and tax issues PE funds should consider before proceeding with Latin American acquisitions or increasing investment in existing portfolio assets. This article discusses certain tax structuring, transfer pricing, and tax compliance considerations relevant for PE funds holding Latin American portfolio assets or expanding their investment in Latin America.
Tax Structuring Considerations
Acquisition of Distressed Latin American Companies
PE funds are seeking acquisitions of distressed Latin American companies or those requiring capital infusions to survive the economic downturn. For example, targets include, among others, family-held companies with shareholders seeking liquidity or diversification, companies unable to restructure their debt or continue with an existing IPO plan, and real estate holding companies with immediate cash needs but steady revenue flows.
In structuring acquisitions of Latin American targets, PE funds must identify the appropriate vehicles through which to invest. For example, a PE fund might analyze whether it should establish a tax treaty structure to effect an acquisition. In a private equity context, the primary tax consideration for most fund managers is taxation on exit (ie capital gains tax). For example, among others, Argentina, Brazil, Chile, Colombia and Mexico generally impose, with some exceptions, tax upon the sale of shares by nonresident investors. Accordingly, funds might establish a Spanish or Dutch investment structure because of Spain and the Netherlands’ significant tax treaty network in Latin America, or structures with transparent investment vehicles such as Canadian limited partnerships (eg Alberta or Ontario) and certain Luxembourg entities. Funds might also consider establishing local investment vehicles to mitigate taxation on exit, such as Brazilian Fundos de Investimento em Participações (FIPs), which can eliminate Brazilian capital gains tax on exit (although such structure has been scrutinized by the Brazilian tax authorities in recent years). Fund sponsors are rightly concerned that exit taxes in Latin America can reduce a fund’s IRR, especially if some taxes are not creditable against taxes of fund investors.
Tax due diligence is as important as ever. Among other things, deal teams should carefully examine items such as operating loss carryovers, permanent establishment risk for multinational targets, tax compliance, accrued and outstanding income, payroll, and VAT tax liabilities etc. Also, a target’s receipt of government subsidies, credits, or other assistance in response to the global pandemic could restrict its ability to pay dividends or even alter the timing of a future exit. If indeed a target has received such assistance, funds must consider whether the proposed acquisition will jeopardize continued assistance or if a sale or change of control will require immediate repayment of such assistance.
Debt Restructuring and Acquisition of Portfolio Company Debt
Dealing with portfolio company debt is another area that has recently received significant attention. In order to preserve cash to meet operational needs, leveraged portfolio companies have developed strategies for managing their debt service, including working with lenders to obtain a combination of additional borrowings, forbearance and standstill agreements, and debt covenant waivers.
In order to ease the process with lenders, some PE funds have chosen to request capital calls to fund their struggling portfolio companies, while others have lent to their Latin American portfolio companies. Other PE fund groups have instead opted to acquire their portfolio companies’ third party debt. In certain cases, funds seek to acquire the debt at a discounted price and sell it at a premium when market conditions improve, while in other cases, the motivation is simply to maintain some modicum of control over a portfolio company’s debt service. Some funds have considered raising credit funds and/or establishing a special structure for that purpose, such as an Irish intermediation structure.
PE funds must address the Latin American tax consequences arising from each alternative for both the fund and the portfolio company. Some key considerations include:
Cancellation of debt considerations. As part of a debt restructuring, portfolio companies must consider whether income or other taxes are imposed on any amount of cancelled debt.
Deductibility of interest payments. To the extent a PE fund lends to a portfolio company or acquires its third party debt, the fund should consider whether the interest paid by the portfolio company is a tax deductible expense, particularly if the fund and the portfolio company are considered to be related or if the fund is organized in a low-tax jurisdiction as determined by local law.
Withholding taxes. Withholding taxes imposed on interest payments must also be analyzed. Most Latin American jurisdictions, including Argentina, Colombia, and Mexico, impose withholding tax on interest paid to nonresident lenders. An income tax treaty may reduce the withholding tax rate for PE funds using a treaty platform for their Latin American investments. Spain and the Netherlands, for example, are jurisdictions commonly used by PE funds (and other investors) for investing in Latin America.
In addition to the considerations listed above, PE funds must also address transfer pricing concerns, particularly as it relates to whether the terms and conditions of related party debt is arm’s-length and otherwise compliant with local transfer pricing rules.
Transfer Pricing
Reviewing, updating and, if needed, revising transfer pricing arrangements is a method by which portfolio companies may preserve cash and otherwise manage tax positions. For instance, adherence to the arm’s-length principal, in conjunction with contractual provisions in intercompany agreements (e.g., force majeure), permits related parties to adjust their intercompany arrangements to reflect economic reality. For example, in the absence of an advantageous income tax treaty, many Latin American jurisdictions impose significant withholding taxes on service payments, royalties, and management/monitoring fees paid abroad. Analyzing existing arrangements may yield opportunities to mitigate or otherwise restructure the payments, resulting in potential tax savings.
In any case, as Latin American governments seek to raise revenue through taxes and increased tax audits, portfolio companies should ensure their transfer pricing documentation and cost-sharing policies are compliant with local country transfer pricing requirements and of course, reality. They should examine whether their transfer pricing has reacted to supply chain and operational changes brought on by the pandemic, and whether such changes require remedial changes to internal pricing of goods and services. While Chile, Colombia, and Mexico are the only Latin American members of the OECD, the domestic legislation of a number of Latin American jurisdictions contain many of the same or similar principles set forth in OECD transfer pricing guidance. For those Latin American jurisdictions that do not explicitly adopt OECD transfer pricing principles, such principles may serve as secondary or supplemental guidance in interpreting domestic transfer pricing legislation (eg Brazil).
In assessing transfer pricing risk, portfolio companies should examine their current intercompany transaction flow and supply chain and corresponding intercompany agreements. Mature portfolio companies with older transfer pricing policies may discover their intercompany transaction flow and supply chain has evolved over time, such that their intercompany agreements do not accurately reflect current reality. For example, the method of compensation (eg profit split, cost-plus etc) originally provided for in an agreement may no longer be appropriate. Similarly, an intercompany agreement may not describe services actually provided between related parties. Because it is common for government auditors to request intercompany agreements in connection with a transfer pricing audit, such auditors can seize on the fact that intercompany agreements are not being followed, are otherwise inconsistent with reality, or do not even exist.
Tax Compliance
As Latin American governments continue developing strategies for battling the pandemic, they are also developing strategies for an economic recovery. While the pandemic’s true cumulative economic impact is still very much unknown, past economic downturns show us that PE funds can expect to see increased audit activity within their portfolio of Latin American companies.
Accordingly, PE funds should work closely with the management of their Latin American portfolio companies to ensure they have a robust tax compliance program in place such that they are well positioned to defend against potential tax audits or avoid potential penalties of lax internal pricing and arm’s-length documentation. They should consider and reassess material uncertain tax positions that, if successfully challenged, could result in significant tax liability and substantial penalties.
Conclusion
The COVID-19 pandemic will continue to generate significant challenges for many Latin American businesses, some of which sought additional funding and credit facilities from their shareholders and lenders, while others concluded filing for reorganization or bankruptcy is their only viable alternative. PE sponsors with Latin American investment programs face substantial challenges, but many others find investment opportunities notwithstanding the current economic environment. Addressing tax structuring, transfer pricing, and tax compliance considerations in Latin America is an important part of overcoming inevitable obstacles and seizing on new investment opportunities.
Traditionally, ethics and law go hand in hand. Law firm partners should have an innate moral compass. On that basis no distinction should be necessary between legally sound and morally or ethically justifiable advice, and for corporate counsel this distinction should not play a role either when mandating a firm. Ethics committees and supervisors should therefore – in theory – be superfluous. But that traditional approach is now seen as old-fashioned and incompatible with some aggressive profit-driven clients demanding aggressive profit-driven solutions. The danger for any law firm is that it is obliged to adopt the moral compass of its important (high-profit) clients and place money-making over traditional ethics. That is a problem that faces all major firms, not just Freshfields, although it is Freshfields that is providing a case study in how high-profit work can come at a reputational cost.
Whether flawed culture has afflicted Freshfields is uncertain, but the danger for the firm is one of perception: whether those two malefactors are seen (fairly or unfairly) to indicate a deeper-seated problem in the larger organisation. At the very least, the crisis poses questions over internal checks and balances. The GC at a US retail company makes a blunt assessment: ‘The firm’s role in the scandal must be made clear and there needs to be a statement about the firm’s values, to which it will adhere in the future.’ Freshfields’ May 2020 code of ethical practice might have sought to answer the second part of this, but the risk for the firm is that it is seen as no more than a belated PR exercise to try to distance itself from the ongoing bad publicity without directly confronting the part it played in cum-ex matters.