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Summary: Axiom Legal, which provides a multi-shore, technology-enabled management service for its clients, may change the face of the financial industry.
According to Forbes, when the global financial crisis exploded, investors, regulators, and bank executives were unsure as to what their exposure was in the multitrillion dollar business of swaps, derivatives, and securities—most of which were noted in contracts that were understood only by those who negotiated the documents. According to Wikipedia, when the U.S. housing market burst, the pricing of real estate securities dropped, which damaged financial institutions worldwide.
Ultimately, this system still prevails today. Tens of thousands of contracts are saved as hard copies and PDF files, and those who authored them may be impossible to find, due to the rounds of firings that occurred after the crisis hit.
Mark Harris, a founder of Axiom Law, a legal services firm that is gaining momentum, commented, “To find out what your exposure is, you have to crack the seal on the PDF, get a lawyer, read it and determine the counterparty risk. For example, to determine the risk of collateral increases that are triggered by a downgrade in debt, “the only way to quantify it is to comb through 30,000 contracts.”
Axiom Law seeks to bring change to this tedious process by combining software and outsourced legal employees to handle complex financial transactions. Axiom Law recently signed a $73 million contract with a global bank to process its “master trading agreements,” such as the contracts that control swaps.
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In 2013, the Consumer Financial Protection Bureau announced new mortgage rules.
Although some may see the deal as outsourcing processes that keep banks in compliance with government regulations, Harris explains that the opposite is true, because by moving the routine, but extremely complex, transactions to an electronic platform that is managed by attorneys and paralegals, the bank attorneys and higher ups can focus on landing bigger deals, along with maintaining compliance.
Harris said, “The incumbent model is largely artisanal. It’s perfect for novel challenges that are irreducibly complex, but it’s not necessary for the bulk of commerce.”
In 2011, Axiom Law was approaching $100 million in sales; today, it reports closer to $200 million. The company gets much of its revenue from lower-cost legal services that are sold to corporations. Axiom Law uses experienced attorneys to offer such services.
The deal also got the attention of Mary Schapiro, who was the chair of the Securities and Exchange Commission from 2009 to 2012. Prior to serving as chair of the SEC, she was the chief executive of the Financial Industry Regulatory Authority. She is now a member of Axiom Law’s board of directors.
Schapiro said, “I frankly saw it as an interesting opportunity to be involved in the modernization of the law. While I absolutely see the business potential here, I also see it answering a concern regulators have, of really having firms get a handle on their risk exposures.”
S&P recently settled claims stemming from the financial crisis for roughly one billion dollars.
Regulators and bank executives have had difficulty with the individual nature of modern financial instruments. Swaps and derivatives are usually controlled by detailed contracts that are created by both in-house counsel and other attorneys during a process that can take weeks or months. Special terms are created for each customer. Even master agreements that control routine transactions may be hundreds of pages long.
When the financial crisis hit, many banks desperately tried to gather contracts in electronic form and code legal terms scattered throughout the documents, relying on low-priced legal help in places like India. However, most banks still lack a uniform system for negotiating and tracking deals, according to Axiom.
Loading ...Paul Carr, Axiom’s president, said, “If you ask a bank, ‘How many of your agreements in the last six months were outside of standard on your netting provision,’ most have no idea. They are simply not geared up to deal with [the] level of scrutiny that is demanded by [the] regulatory environment.”
That environment is cracking down on financial institutions more and more. The Justice Department is currently seeking pleas from four banks over their supposed manipulation of foreign currency. The Justice Department claims that traders at Citigroup, JPMorgan, and others altered forex rates and ripped off customers, either with or without the knowledge of their supervisors. According to the New York Times, some of the world’s biggest banks may be convicted of felonies.
With Axiom’s system, an audit trail is created at each stage, which will identify each clause that is different from standard contract terms, and then require approval from Axiom attorneys and bank executives to continue. Harris explained, “If you can’t fit it within the accepted swim lanes, it will be flagged.”
The banks will still negotiate extremely complicated deals itself, implementing both its in-house counsel and outside specialist firms. However, routine transactions will be turned over to Axiom. The responsibility to maintain compliance still rests on the banks, as does any risk from contracts it negotiates. Axiom steps in to provide less expensive legal work and an electronic platform that preserves and maintains records for ease of access.
Harris is optimistic that more deals will be signed as other banks realize they can save money in a couple of ways by outsourcing routine legal work. Axiom’s primary sales pitch is that it can provide cheaper legal services because they have less overhead since they hire experienced lawyers, many of whom have left the corporate firm to work on their own. The banks can also save on capital if they get a better grasp on the financial impact of their complicated derivatives book—the terms of which are often best understood by attorneys.
Axiom has had this process in the works for several years. Attorneys work in secure facilities worldwide, and are walled off from each other so inside information will not be released. Paralegals and other legal staff review completed contracts and then code them into a computer system so that bank executives can assess the financial consequences of each individual clause.
Banks have reported high legal expenses in the wake of recent government settlements.
For example, swaps and other arrangements with hedge funds usually have complicated rules for when collateral must be put up and how much collateral must be provided when the market turns against them. Bank prime-broker operations have usually watched capital levels of individual hedge funds, however, regulators now seek to understand how these deals fully impact banks and the market itself.
Schapiro explained, “The combination of complexity, connectedness and sheer opacity contributed to the financial crisis. We have to be able to harness technology to manage those risks.”
Such measures may also reduce “London Whale” incidents, where traders push unconventional strategies that work well until they stop working. Harris said, “When you don’t have an auditable, transparent process where everything is documented, where you don’t have the rigidity that keeps weird and special stuff from happening, weird and complex stuff happens.”
Source: Forbes
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