If major law firms' relationships with banks were important before the financial crisis, they are vital now. A recent report by TheCityUK shows that nearly half of all deal activity by the top 50 London law firms over the last five years has been for financial services clients. Meanwhile, a prolonged period of investigations and litigation across the banking industry has handed mandates to a multitude of top-tier firms, with multimillion-pound fines and settlements making the news on a regular basis in recent years.

In the initial aftermath of the financial crisis, a run of disputes mandates quickly turned litigators into the golden boys of law firm partnerships, with many firms making high-profile hires and building up their white collar practices to deal with the flood of work coming through their door. But as consensus builds that the most damaging cases have largely filtered through the system, and with the standard limitation period of six years to bring claims resulting from the crisis expiring last year, it is the increased oversight of the banking industry, in particular by US and UK regulators, that has become the mainstay of work for law firm financial services partners.

At the same time, as sophisticated and demanding buyers of legal services, banks are inevitably pushing the law firms they instruct to provide better value and in some cases are looking beyond their traditional stable of advisers to help them keep a lid on litigation costs.

Out of the woods?
While the initial spate of post-crisis litigation work may have slowed, it certainly hasn't disappeared altogether (see box, below). For example, work is ongoing in a class action-style lawsuit by investors who claim the 2008 UK government bailout of HBOS left them £400m out of pocket. The dispute has handed roles to Herbert Smith Freehills (HSF) for Lloyds Banking Group and private client boutique Harcus Sinclair for the claimants, who are acting under a group litigation order.

HSF is also acting opposite Fladgate and Stewarts Law in an ongoing battle as shareholders attempt to recover value following Royal Bank of Scotland's (RBS) 2008 rights issue.

And financial institutions are still making sizable provisions for litigation (see box, below), which in some cases are still rising year on year. On 30 April RBS chief executive Ross McEwan warned that the bank faced "another tough year" after reporting a £446m loss for the first quarter of 2015 as it set aside another £856m to cover litigation and misconduct costs. A day earlier, Barclays revealed it had reserved a further £800m to deal with the cost of investigations into the forex scandal, bringing the bank's total provisions to more than £2bn.

"[When the limitation period expired] people weren't sitting around twiddling their thumbs thinking about what was coming next," says Damien Byrne Hill, banking litigation head at HSF.

Although the cost of litigation remains prohibitively high for some potential litigants – and for cases of lower value has increased further with a hike in court fees – there has been a rise in the use of third-party funding for group claims while a technology-assisted review has reduced the costs and time associated with large claims. 

At the same time, banks have become more willing to fight litigation in an effort to protect their battered reputations and stem the tide of cases lining up against them.

"There is more competition for banking litigation work from different sorts of firms," comments Linklaters litigation partner Christa Band. "But this is much less the case in relation to the complex, 'bet the bank' or multi-jurisdictional matters [where banks still turn to traditional advisers].

"The financial amounts are not necessarily the driver – it's what the reputational damage could be. Banks are perhaps more than any other clients conscious of reputational damage. They're in the political spotlight and people are still quick to criticise them."

Byrne Hill adds: "I don't think we will go back to 10 years ago when the banks were so wary of going to court; they now know they can fight an unmeritorious claim and the world doesn't end."

For both banks and law firms, however, attention has largely switched to the regulatory quagmire resulting from the greater oversight of financial institutions following the financial crisis. This in turn has prompted firms to change the mix of skills within their disputes teams. "While there will always be big litigation, the major projects are regulatory-led and I can see that being the case for years to come," says Pinsent Masons' head of banking and finance litigation, Michael Isaacs. "If you go to a bank saying simply 'we are good litigators', that just won't cut it these days. You have to be able to address the huge regulatory-led redress, investigation and enforcement issues that are at the core of the risk."

A recent estimate by ratings agency Standard & Poor's puts the volume of fines and customer compensation set to be paid out by Britain's biggest four banks between now and 2017 at £19bn.

Last month Slaughter and May and Paul Weiss Rifkind Wharton & Garrison advised Deutsche Bank as it was asked to pay out a record $2.5bn (£1.7bn) fine for its part in the Libor manipulation scandal, while Linklaters client Clydesdale was hit with a £20.7m fine from the Financial Conduct Authority (FCA) for "serious failings" in its payment protection insurance complaints handling processes.

Other regulatory initiatives generating work for law firms include the FCA and Prudential Regulation Authority's new senior managers regime, which aims to make high-ranking individuals more accountable when future failings occur, and the regulators increasing use of powers to order banks to commission skilled person reviews to investigate areas of concern.

Meanwhile, external advisers and in-house teams are also preparing for the new competition law regime that will be ushered in by the Consumer Rights Act 2015. This will set out new rules for what constitutes unfair terms in a contract, and give enforcement agencies including the FCA greater flexibility to deal with breaches of consumer law; for example, when seeking redress for customers who have suffered harm.

Mark Bethell, manager in the competition team at the FCA, explains: "In terms of the FCA competition division, we expect to use the FCA's new competition powers in appropriate cases (informed by the FCA's knowledge of the financial services sector), continue our programme of market studies to ensure they work well for consumers and play our part with regard to ensuring that the FCA thinks about competition as it goes about its business more generally. This includes awareness that there can be over as well as under regulation."

Given the FCA's powers – and its willingness to deploy them – the make-up of its inaugural panel is significant, with spots going to Ashurst, Clifford Chance, DLA Piper, Eversheds, Hogan Lovells, Macfarlanes and Pannone. Off-panel advisers have also been given roles on particular investigations.

"I think we are just in a culture now of cleaning up organisations," says one senior in-house lawyer at a leading bank. "With good investigations, conduct and governance you start to find things that you might not have found before and you start to tidy them up. The application of that strong governance leads to people raising issues with the regulators."

Adapting and reacting
Despite the intensity of regulatory oversight they are currently facing, banks are under pressure to reduce their legal spending and thereby help minimise the impact of spiralling litigation costs on profits. Last month Lloyds cut 25 members of its in-house litigation team, as well as the role of deputy general counsel, in an attempt to "introduce a more streamlined and efficient operating model". As part of this process, a greater volume of specialist work will be sent out to the 50 firms appointed to the bank's sub-panels.

"Financial institutions are under a lot of pressure to reduce costs wherever they can," says Simon Orton, global head of Freshfields Bruckhaus Deringer's financial institutions disputes group. "That may involve handling litigation in different ways. I'm not sure whether [reductions in in-house teams] are about the volume of litigation. They might be about how people choose to handle it."

One lawyer at a bank adds: "If you are slimming down your organisation you are going to start outsourcing, whether that's to cheaper or more expensive firms."
Nevertheless, banks remain the largest in-house recruiters, according to business intelligence provider Vacancysoft, which reported that Barclays, RBS and Nationwide Building Society advertised more legal vacancies than any other company in the first quarter of 2015.

"The easy wins for banks in reducing rates have probably all been made," notes Isaacs. "The next steps will have to include looking again at how organisations manage disputes and information flow internally, and engaging and working with external advisers to find efficiency savings in those areas too. 

"The structure of in-house bank litigation teams has changed, combining the regulatory teams (including competition) with the litigators. Clever firms have already mirrored this and are organising themselves and their offerings to combine the same skillsets."

With banking regulation partners saying that large investigations and review projects have the capacity to deliver seven-figure fees for external advisers, the onus is on law firms to get ahead of the game.

And they are certainly trying. Eversheds, for example, recently launched a dedicated financial services regulatory compliance team as part of its consulting business to target a range of governance, risk and compliance mandates including past business reviews, redress and remediation projects.

With regulators keen to prove their worth and crack down on misconduct, close relationships between banks and advisers will take on a new prominence as lawyers aim to highlight potential pitfalls early, rather than being called on after a problem has been identified.

As banks are only too painfully aware, compliance may be the best form of defence against the crippling legal costs they face for past misdemeanours.

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The cost of controversy – litigation provisions at major banks

Barclays: set aside an additional £800m to cover costs from the forex scandal in April 2015, taking total provisions for investigations and litigation to just over £2bn.

Morgan Stanley: legal costs totalled $284m (£187m) in the final quarter of last year, mostly for litigation and investigations related to residential mortgage-backed securities and the credit crisis.

Citigroup: legal and related costs soared to $2.9bn (£1.9bn) in the fourth quarter of 2014 after settlement with financial regulators in the US and Europe, ending the bank's involvement in the investigation into the manipulation of foreign exchange rates. Citigroup's operating expenses in the first quarter of 2015 included legal and related expenses of $387m (£254m), nearly a third lower than the $945m (£621m) of the same period in the previous year.

Deutsche Bank: last month announced litigation costs of approximately €1.5bn (£1.1bn) for Q1 2015.

Royal Bank of Scotland: set aside a further £856m of litigation-related costs last month and warned of another tough year.

JPMorgan Chase: paid out $1.1bn (£720m) in legal costs in the fourth quarter of 2014, which continues to plague results. 'Non-interest' costs were $14.9bn (£9.8bn) in the first quarter of 2015, up $247m (£162m) on Q1 2014. This was "driven by higher firmwide legal expense", according to the bank.

Goldman Sachs: net provisions for litigation and regulatory proceedings for the first quarter of 2015 were $190m (£124m), compared with $115m (£75m) for the first quarter of 2014.

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Scandals and investigations – a lucrative line of work

• Providing a run of work for the last three years, the Libor manipulation scandal has handed roles to a large contingent of leading law firms. Deutsche Bank's record $2.5bn (£1.7bn) fine for its role in the scandal, which was handed out last month, saw Slaughter and May, Paul Weiss Rifkind Wharton & Garrison and Hengeler Mueller advise.

  Elsewhere, Clifford Chance (CC) advised Royal Bank of Scotland (RBS), which recently announced that it expects to settle with US regulators shortly. The magic circle firm also acted for Barclays alongside Sullivan & Cromwell on the bank's £290m settlement with US and UK regulators in 2012, while Gibson Dunn & Crutcher advised UBS, which reached a £945m settlement at the end of the same year.

Other law firms taking roles in Libor cases include Simpson Thacher & Bartlett (JPMorgan); Davis Polk & Wardwell (Bank of America Merrill Lynch); Hogan Lovells (legacy HBOS); Shearman & Sterling (Credit Suisse); and Linklaters (Lloyds). Freshfields Bruckhaus Deringer acted for regular client the Bank of England. Skadden Arps Slate Meagher & Flom, Latham & Watkins, Debevoise & Plimpton, Allen & Overy (A&O) and White & Case have all also landed roles on Libor-related matters.

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Ongoing battles
The spate of bank mergers and recapitalisations in the immediate aftermath of the economic crisis generated several cases currently before the courts as banks and shareholders attempt to extricate themselves from provisions made during this period. Examples include:

• Greenwood and others v Goodwin and others. This case concerns the Royal Bank of Scotland rights issue in 2008. Shareholders are trying to recover investment losses on the basis that the prospectus for the issue was not accurate or complete. There have been several directions hearings in the case, and a group litigation order (GLO) has been made.

  Solicitors acting for the various claimants include Fladgate (instructing Jonathan Nash QC, Peter de Verneuil Smith and Ian Higgins, all of 3 Verulam Buildings), and Stewarts Law (instructing Andrew Onslow QC, Scott Ralston and Adam Kramer, also all of 3 Verulam Buildings).