Changing With the Times

Martin Cornish looks back on an evolving industry

Originally published in the May 2008 issue

Martin Cornish was there when they sank the foundations of the European hedge fund industry. Cornish started dealing with hedge funds in the 1980s working in the tax department at Simmons & Simmons. “In those days hedge funds weren’t addressed as that – they were called managed futures, CTAs and the like,” he says. It was a time when the Financial Services Act (1986) had just come into force, and Simmons & Simmons was acting for some large US broker dealers, including the likes of Hutton, Shearson & Lehman, now Lehman Brothers. Says Cornish: “They are a good example of the kind of client we were acting for, doing their tax work, plus, when the new regulations came in, we picked up their regulatory work.”

It was a time of great change in the City of London, and there weren’t many law firms choosing to specialise in regulatory work. Within five years, however, a handful of lawyers had emerged as regulatory specialists, and it was these figures who now started to pick up a great deal of the fund-related advisory work which was coming on-stream in the early 1990s. It was Cornish who got the call from Shearson Lehman to come and work as an in-house counsel, which he duly did, becoming the bank’s European legal director, and running its London legal team for nearly five years. He wanted to learn more about the internal workings of an investment bank, to get a handle on the sorts of legal and regulatory issues these complex financial institutions were tackling on a daily basis. He also anticipated that the regulatory framework in the UK and Europe would become progressively tighter over time, and there would be greater demand from lawyers with deep experience of capital markets.

“It was a steep learning curve, but a very enjoyable time,” he says. “I think what a lot of people find going in-house is that after a while, you get to have an understanding of how that particular firm works and unless you start taking on non-legal functions, the learning curve levels off very quickly, and you end up knowing an awful lot about how that particular operation works but losing touch with the rest of the market place.”

He therefore decided to return to private practice, with the original intention of joining a middle-sized firm and taking his City financial expertise to them and their clients. He talked to a number of his ex-clients and other contacts and detected a lack of satisfaction from many of them about the quality of the client service they were receiving from the legal community. There seemed to be a case for going it alone, launching a small, dedicated practice focusing on regulatory work in the capital markets space.

“I ended up taking the bull by the horns and setting up on my own,” says Cornish. “Frankly, at that moment, I thought I would find another firm I could plug into but after a while stopped looking as the practice took off.”

MW Cornish & Co, his new firm, quickly created a niche for itself within which it could compete effectively. Within six years it had become a 25-person operation. It also became a proving ground for a number of other lawyers, like Peter Astleford, who has since received wide recognition for his work in the alternative investment funds business. Astleford is now a partner with the alternative investment funds practice at Dechert in London.

“We got to the point where we had to decide whether to stay niche, or to offer a broader range of services,” comments Cornish. It was then that he was approached by Price Waterhouse the accounting firm (which became PricewaterhouseCoopers after its merger with Coopers & Lybrand), which was seeking to add a global network of law firms to provide its huge large financial services client base with legal advice alongside tax, audit, consulting and other services. The objective was to become a full service global provider of consulting services including law.

“The project came to abit of a grinding halt because…the regulators became concerned about the scope for conflicts between the audit and advisory sides of the businesses and exactly what kinds of work their parallel legal firms (and other consulting arms’ for that matter) were doing,” says Cornish. “There was no actual joint partnership. There were separate UK, French and other legal firms, but the fact that they were held out as “the PricewaterhouseCoopers Legal Network”, was enough for the accounting bodies to say that for regulatory purposes it was as if the law firms were a part of the accounting firm. Not only did this mean you couldn’t do any litigation for (or against) an audit client; you couldn’t do any public transactional or other work. We had examples of where we’d acted for European clients for years, and then they’d decide they would list a European fund on the New York Stock Exchange or do a public offer, and we couldn’t act. There was no obvious conflict as such…but the concept of developing a parallel global law firm just became a non-starter.” The result was the floating off of the accounting firm’s consulting business and the gradual breaking up of the law firm network as happened at all the other accounting/law firm alliances.

Katten Muchin Rosenman

Cornish left PricewaterhouseCoopers in 2001, and re-established the old MW Cornish & Co practice. At that point the hedge fund industry in London was bigger, more mature, with many larger asset management brands involved in running alternative investments, and plenty more law firms competing for business in the space. Cornish needed an edge, and he successfully tapped into another trend in the hedge fund sector in 2005, namely an increase in trans-Atlantic business, whether from European firms setting up in the US, or US firms coming over to Europe or just selling their products here. Teaming up with an established US practice would help meet the much higher start-up costs facing a financial legal practice, plus allow him to tap into the business flows between London and New York.

Katten Muchin Rosenman is a US full-service law firm with over 650 attorneys and covering more than 50 practice areas. With offices in New York, Chicago and four other major financial centres, it was already by 2005 serving hundreds of hedge funds and financial intermediaries, many of the leading brokerage houses plus some of the big US and European securities exchanges. Arthur Hahn, partner and national chair of the firm’s financial services group saw the need to deal with “the proliferation of instant electronic trading across continents, and the dramatic international expansion of hedge funds and brokerage firms.” In short, he needed an affiliate in London, a centre where many of his and the firm’s clients were already transacting business.

“Katten is a firm I’d been doing business with going back to my Simmons & Simmons days, particularly their Chicago office, which is regarded as one of the top firms advising the derivatives and CFTC-regulated community,” explains Cornish. Katten had merged with New York firm Rosenman & Colin in 2002, thereby expanding its activities to cover both the New York and Chicago hedge fund and broker dealer communities. Cornish put a call through to Hahn in late 2004 for what turned out to be a “fairly short conversation” – Hahn had been considering some kind of London tie-up for some time, but had been distracted by the Rosenman & Colin merger. Cornish’s call came at just the right time. With his existing track record in the industry, and a team focused on financial services including Edward Black, a regulatory specialist and former partner with Denton Wilde Sapte also known personally to Hahn, the Cornish firm was a perfect fit with Katten’s own financial services practice.

As ever with law firms, there was a fear at Katten Muchin Rosenman that established clients undertaking activities in London were having to go outside the firm for advice. This always seems to make lawyers a little nervous. A tie-upwith Cornish would allow them to offer the services of an experienced and well-respected counsel based in London who could deal with any UK legal work that sprang up. “I think they felt they were giving a lot of business away,” says Cornish. “They weren’t seeing enough business coming back in their direction and some of it even ended up in the hands of US competitors’ London offices and they wanted to provide more of an in-house service to clients and stay closer to them when they expanded aboard.”

Now, between 25% and 40% of the work being carried out at Katten Muchin Rosenman Cornish either directly originates with existing Katten clients in the US, or derives from introductions from the US side of the practice. The UK practice has some 250 clients of its own, mainly hedge funds, broker dealers, and commodities and derivatives specialists. This sits well with the New York and Chicago end of the operation, which advises a very similar client base.

“We’re slightly unusual in that we act for the broker dealers as well as the managers,” says Cornish. “It actually gives us an edge as we understand where both sides are coming from in terms of transactions. Hedge funds are a good example of where the manager is heavily focused and doing a lot of business with brokers as their counterparties. When negotiating documents, understanding exactly how a transaction works, understanding what each side’s approach is to those situations can be very helpf

This, Cornish feels, gives his firm an edge when it comes to competing against the other US law firms that have put down roots in London. Most of the other recognised New York hedge fund law firms either do not act for the broker dealer fraternity whilst others do so to a much lesser extent. Conversely the UK headquartered firms do not have the US capability that Katten brings to the table.

An evolving industry

Having actively advised hedge funds since the 1980’s, Cornish has been able to watch as the industry has changed, growing in terms of the amount of money it manages, the number of firms, and the number of people involved. The legal community, he says, has had to evolve to meet its changing requirements. “Lawyers and other service providers find themselves being asked to do a broader range of things for hedge funds and their managers than used to be the case. You’ve now got hedge funds listing on stock exchanges, buying other firms or selling themselves to other operations. You’ve got banks, brokers, and traditional fund managers buying into the industry. And within the bigger hedge funds you have the IT and personnel issues that come with any large business of equivalent size, and the intellectual property issues that arise from owning proprietary technology like trading algorithms.”

The more sophisticated products that hedge funds are becoming involved with as investors are also starting to generate more legal hours. It is not just structured products, but the more esoteric, illiquid investments for which hedge funds typically establish special situations or hybrid funds. This includes property and mining or infrastructure projects, often outside the legal framework in the EU. It means the law firms that advise them have to broaden the services they offer in order to keep up with them. If there is already a strong business relationship between lawyer and fund manager, it makes sense to try to maintain it by hiring in the expertise necessary to provide the right advice.

And while some of the smaller hedge fund firms in the early 1990s have grown to become massive multi-manager shops, there are fewer small start-ups around. These days Cornish is seeing funds typically launching with $50-100 million with at least four to six full time employees on day one. This requires them to invest in their own infrastructure from the start, and deal with a range of legal and other issues that a smaller operation would not have to face, including many of those new challenges mentioned above.

While the spectre of litigation iscasting a long shadow across the hedge fund industry at the moment, Cornish says this is an area of legal work the UK firm avoids. It is partly due to the way his firm is set up, advising both fund managers and broker dealers but also because, in his experience, litigation is an open-ended assignment – once a case begins there is no clear indication where it will stop, or who will be involved before it concludes. “It is well documented that right now clients are finding it hard to locate firms with the right expertise to start actions in relation to distressed debt and other problems that are out there,” he admits. The US side of the firm does undertake litigation but is very careful not to act where it could upset either side of its practice.

During tough periods in the markets, litigation naturally spikes as investors seek to recover money they have lost. At the moment, there is plenty of noise being generated by unhappy investors, but Cornish believes this has not translated itself into much real litigation. Where it might occur is if insurers, who have been tasked with underwriting market risk, feel it would be cheaper to go to court than to pay out.

As for the regulatory context in general, like other legal experts, Cornish is adopting a wait-and-see posture to the report of the Hedge Fund Working Group and the Best Practice Standards published by its Board; and the parallel initiative from the President’s Working Group on hedge funds in the US. Everywhere the phrase “cautiously positive” seems to be in use. Will European regulators be happy with an industry code of conduct which hedge funds agree to voluntarily adhere to? How will the investor community react? It is still too early to say. “With the credit crunch, the regulators have other things to worry about,” Cornish says. “The HFWG Report and Standards have clearly been well received, and the regulatory bodies and most commentators including international industry associations have been positive about these initiatives. However, it’s early days and the HFSB has yet to get traction. Time will tell whether the industry itself will support this initiative and whether the regulators will feel comfortable with the results.”


Partner, Katten Muchin Rosenman Cornish

Martin Cornish is a widely recognised expert in the fields of derivatives and hedge funds law in the UK. He regularly appears in the Legal 500 and Chambers’ Directories, considered to be the benchmark of leading lawyers in the UK. He has acted for securities, commodities, and derivatives brokers and dealers, banks, investment banks, and investment managers for more than two decades. He is currently the managing and senior partner at Katten Muchin Rosenman Cornish. He was previously the principal of MW Cornish & Co, a niche financial services firm he originally established in 1991. He has also been a partner in the PricewaterhouseCoopers network of law firms, which consisted of over 2500 lawyers in over 40 countries, European legal director of Lehman Brothers and a partner at Simmons & Simmons, where he qualified. He is a regular commentator on legal developments in the hedge fund sector.