Last week was noteworthy because two major anticipated mergers were called off; Orrick/Pillsbury due to reported conflicts and Dentons/McKenna for what may be best described as “cultural reasons.”  But even if there were no conflict issues and cultures meshed well between two firms, most proposed mergers won’t get to a closing if their respective compensation systems are not compatible.  Different compensation systems can create concern and uncertainty in partners being asked to vote in favor of the combination. Similarly, the architects of the proposed merger, likely to be charged with managing the combined firm, will have concern if the two systems don’t fit well.

For a merger to have the greatest chance of success, certain firm characteristics should be compared to assess the overall fit. In addition to cultural compatibility previously discussed and the financial metric fit discussed, the law firm leaders from the two potential merger partners must be mindful of the two compensation systems to be melded.

Compensation compatibility is best determined by a review of the following variables.

Nomenclature. Compensation terminology in a firm gets embedded over time and does a great deal to stimulate attorney behavior. One firm’s term for hourly work collected may differ from another firm’s, but the essence of both terms is to determine the value of the “time in the machine.” Similarly, most firms go beyond bare revenue and create measurements to determine whether the dollars collected are profitable. As long as the fundamentals behind the terms are similar, lawyers brought together can learn the new terms.  Understanding the meaning and use of compensation terms, however, is very important.

Overall System.  A Lock Step system and a pure formula system can’t be more different. Similarly, a system in which data is used subjectively to set compensation is very different from one that uses the same data in an objective exercise.  A system in which compensation is set every two years instead of annually is clearly different.  A fair review finds similarities as well as differences so the pro’s and con’s can be weighed.

Data Points. As part of setting compensation, many firms will assemble significant amounts of data to assess a lawyer’s past contribution and to project future performance. While firms may collect different data, if two firms generally place emphasis on the same data, for example originations, production and margins, a fit may exist.  Conversely, one firm may heavily weight originations over working attorney performance while the other firm may do the exact opposite.  A merger of those two systems could prove difficult.

Current and Deferred Compensation. Even assuming a partner’s compensation will be set to his satisfaction, the frequency of payment, the percentage of payment and the deferral of compensation can be as important as the projected amount of compensation. Going from a bi-monthly to monthly distribution, 70% to 50% current distribution and added conditions to the payment of deferred compensation can be unacceptable to some partners.

The Keeper of the Purse. When merging, the merger partners must decide what happens to their respective compensation setting bodies. While a merger of equals may actually “merge” those two bodies, in many instances that is not the case. The setting of compensation involves a process in which partners trust their leaders to fairly recognize a partner’s value. But trust is built up over time and on whom you know. Consequently, a “phasing in” of the two systems or guaranteeing partner compensation for a few years can give newcomers comfort and time to acclimate.

Implementation Calendar. Blending two compensation systems cold turkey is tough. If sufficient similarities between the two systems exist, phasing in unification may be appropriate if not wise. For the ambitious, developing a new compensation system that brings together the two firm’s best practices is an alternative.  It can replace possible unease with broad buy-in.

For many law firm partners, nothing is more important than their compensation.  A merger that upsets partners’ compensation expectations is a merger that may force unwanted departures.  Thus, the importance of minimizing compensation turmoil is obvious.

What compensation differences do you think make a merger a “non-starter?” What methods have you found helpful in bringing together lawyers brought up in different systems?

 

 

When written in Chinese, the word ‘crisis’ is composed of two characters. One represents danger and the other represents opportunity.

 

The Crisis at Kaye Scholer

I was sitting back reviewing law business related articles on Zite. As the stories of doom and gloom and failing law firms big and small continue to occupy print-space, I reflected back on a law firm crisis story which had a happy ending.  The story, although a little dated, is interesting and instructive for law firm leaders facing crisis today.

Kaye Scholer is a New York based law firm that has an interesting history dating back to its formation in 1917. From the earliest days up to 1992 the firm developed a great reputation as  a premier law firm in the area of bankruptcy and reorganization.

In the spring of 1992, Kaye Scholer found itself in as precarious a position as any law firm had ever been.  In the mid 80s, the firm had begun representing a California based  S&L — Lincoln Savings. They had been retained to assist the S&L with a government investigation into its lending practices. The S & L ultimately failed, costing the government and taxpayers more than $3 billion.

In addition to pursuing the owners and managers of the failed S & L, the government went after Kaye Scholer like no law firm had been pursued before or since. The government accused the law firm of providing unsound advice and misleading statements contributing to the S&L’s demise..

Frustrated by a perceived lack of cooperation from the law firm the Federal Office of Thrift Supervision and the Securities and Exchange Commission decided to turn up the heat.  They demanded an immediate payment of $275 million in damages for misleading the government, and took the unprecedented step of freezing the firm’s assets as well as some of the assets of individual partners.  The firm couldn’t pay rent, payroll or even the light bill – signs of serious trouble.

A Crisis Indeed!

At this point, nothing short of prompt decisive action could save Kaye Scholer.  Fortunately, bankruptcy partner Michael Crames, a relatively new addition to the firm, stepped forward.  Crames offered an aggressive plan to immediately reach an agreement with the government and the firm’s bankers.  Crames’s plan was successful in not only reaching the necessary agreements, but in convincing partners to stay the course during the turnaround.  For handling the difficulties in such an impressive manner, Crames was elected the firm’s new Managing Partner and served in that capacity for five years.

A crisis that would have killed most firms became a successful turnaround.  Kaye Scholer not only survived, but has grown, becoming  very profitable and establishing itself as one of the leading firms in the world.

Anatomy of Kaye Scholer’s Success

Successful transition doesn’t just happen.  In fact, in our increasingly volatile environment they seem infrequent and more difficult.  We’ve shared thoughts based on our experience working with law firm leaders here, and here; and the Kaye Scholer case confirms at least three elements that are critical to a successful turnaround:

  1. Early Recognition. When crisis looms there is a tendency (perhaps natural) to suspend recognition and acknowledgement that real trouble looms. Time is not on your side. Know the signs and the odds of a successful transition shift dramatically in your favor.
  2. Leadership. In the moment of crisis a successful turnaround rests almost solely on the shoulders of visionary and decisive leaders who are able to put an actionable plan in play.
  3. Communication. Successful turnarounds don’t occur behind the closed doors of private conference rooms. As the Kaye Scholer example demonstrates, timely transparency with partners and critical allies like lenders and landlords can result in important continuity.

These days, we all benefit from examples of timely transition and successful law firm turnarounds.  Do you know of one?

Mergers of law firms garner a great deal of press and comment.  As noted by Debra Cassens Weiss, law firm mergers during 2013 have been numerous. Robert Denney’s Primer on Law Firm Mergers provides a useful guide about approaching law firm mergers.  Just last week, yet another merger was reported, this one involving the venerable firms of Taft Stettinius and Hollister and Shefsky and Froelich.

For mergers to succeed, however, there must be a good fit between the merging firms. In my Resolving Law Firm Transition By Merger—Important Compatibility Issues for Management’s Consideration, I identified five compatibility areas for law firms to consider when approaching merger. Last week’s Law Firm Merger Diligence—Are the Cultures Compatible[?] provided greater depth about the importance of cultural compatibility, a topic of extreme importance when attempting to bring two firms together.

A second vitally important area in which compatibility must be understood relates to the financial fit between two firms. Getting a handle on financial compatibility is in some ways easier than dealing with the more squishy cultural issues since financial metrics are, by their very nature, far more data driven. The comparison of the two firms data and the manipulation of that data in trying to project the two firms as combined can happen relatively quickly. Indeed, getting a handle on the financial metrics at the outset allows an early “go/no go” decision on further discussions.

Obviously, data is only as good as it is trustworthy. But even reliable data that allows for an accurate comparison of two firms cannot predict their future as one firm. Nonetheless, examining the financial metrics in the following six areas should give each firm’s merger committee a basis on which to envision a combined firm and the wisdom of pursuing a deal.

Firm-Wide Performance. Certain financial performance metrics reported by the American Lawyer have become accepted. Whether a firm ranks in the AmLaw 200, most firms accept Profits Per Partner, Revenue Per Lawyer, and Leverage as accepted measurements. Numbers can tell a lot, but looking behind the reported metrics is critically important since these data points are susceptible to manipulation.

Rates.  Sometimes combinations result in bringing together two firms with differing rate structures. When one firm’s higher rate structure is imposed on a merger partner with a lower rate structure, tension is inevitable.  Besides presenting an external client relation issue, internally dictating higher rates to attorneys that in the past have built their practices without that economic pressure can be a hard sell.

Capital. The capital invested by one firm’s partners may be very different than the capital committed by partners of another law firm. How capital is calculated is as important as knowing how much capital is invested. Two firms with widely different capital profiles will find their combination ill fitting if this issue is not addressed.

Debt Levels. Debt can be the hobgoblin of law firms. Bringing two firms together with different debt levels and/or approaches to debt can be very hard to do. In some instances, however, a small debt laden firm can be acquired by a bigger firm with low to no debt if the debt in the combined firm ends up being small compared to the strategic gain delivered.

Productivity. Closely related to the Firm-Wide Performance test is the question of productivity. Combining two firms in which one produces significantly more (or less) promises future difficulty. Divergent productivity metrics raises questions about work ethic, practice or client compatibility and portends dashed expectations. And no matter how much one believes that “opposites can attract,” experience suggests that the hoped for “lift” fails in favor of a “dumbing down.”

Collection Practices. Law firm performance on billing its services and collecting its bills can vary widely. A firm with a good realization rate and minimal days receivable on its billed work achieves those marks because it has instilled a discipline in its lawyers and the firms’ clients have been conditioned to pay for services promptly. Trying to combine with a law firm that does not have the same discipline and a course of dealing with clients can be tough and frustrating for everyone.

How do you like to evaluate the financial compatibility between firms? If you have “tried and true” measurements, please let us know.

 

Law firm mergers are being announced all the time.  As we saw in Jennifer Smith’s Big Law Mergers Questioned, their unveiling tends to stimulate extensive discussion.  The pace of mergers is ahead of last year and as Catherine Ho wrote in Law Firms Experience Big Jump in Mergers, the number of combinations in 2013 is noteworthy. Mergers of regional firms, mergers of firms with international reach, mergers borne of strategic vision and potential mergers possibly encouraged by necessity—reasons aplenty seem to be fueling the current merger activity.

A successful merger depends on a lot of things, not the least of which is the ease and thoroughness with which Continue Reading Law Firm Merger Diligence–Are the Cultures Compatible?

To merge, or not to merge? That is the question. More and more law firms face that issue these days. We often advise law firms facing that watershed possibility and take them from considering merger in the abstract to addressing its reality. But as Larry Bodine and Robert Denney recently reported, roughly 50% of mergers fail. Consequently, properly evaluating a potential merger is extremely important. A flawed analysis, a few undeserved assumptions or allowing momentum to overtake critical examination can doom a merger to failure. Conversely, a lack of confidence in a proposed merger because a systematic and thorough analysis was not performed can be a lost opportunity for both firms. Continue Reading Resolving Law Firm Transition By Merger–Important Compatibility Issues for Management’s Consideration

It takes 20 years to build a reputation and five minutes to ruin it.  –  Warren Buffet

 

In my professional experience, no attribute is more important for the leader seeking to turn around a law firm than trust.

 

In a Forbes article by David Horsager, the author eloquently articulates it. “Among all the attributes of the greatest leaders of our time, one stands above the rest: They are all highly trusted. You can have a compelling vision, rock-solid strategy, excellent communication skills, innovative insight, and a skilled team, but if people don’t trust you, you will never get the results you want. Leaders who inspire trust garner better output, morale, retention, innovation, loyalty, and revenue, while mistrust fosters skepticism, frustration, low productivity, lost sales, and turnover. Trust affects a leader’s impact and the company’s bottom line more than any other single thing.”

Horsager’s perspective is spot-on. Without trust, the hope of successfully leading a law firm turnaround is nil. The question is — how does a leader gain the trust of a firm.

In my work, I have only seen leaders earn trust when words and deeds align. This means three things: Continue Reading Trust in Leadership and the Successful Law Firm Turnaround

Barely a day goes by without seeing a news report, an article or a blog noting the struggles of a law firm or the legal services industry in general. A recent piece by Ron Friedman examines the possibility that more law firms will be eliminated. George Beaton’s The Rise and Rise of the NewLaw Business Model looks at the NewLaw business model and how it differs from the traditional BigLaw business model.  Besides providing an interesting study in contrasts, he notes the significant growth of Axiom and other adopters of the NewLaw business model.  Above the Law’s Joe Patrice provides his take on data suggesting that some work is moving away from Big Law. Many law firms are being impacted by this industry turbulence and come to the realization that the status quo is not sustainable. A law firm whose management recognizes that change in the marketplace requires change within is a law firm in transition.

When a law firm begins to show signs of transition, many thoughts about the best way to address change will run through the mind of leadership. Among any group of law firms, the stage of transition presented will vary depending on the severity of the market stress experienced and the time that such stress is recognized. Whenever a firm is in transition, some fundamental steps can be taken to help the process, and ease the pain of change.

The degree to which dramatic action is required largely depends on how early signs of transition is recognized. But no matter where in the continuum transition is first observed, certain basic steps will pave the way for developing a sound action plan.

When signs of transition surface, a wise leader does the following: Continue Reading First Steps For Law Firm Management When Facing Transition

 

It’s common sense to take a method and try it. If it fails, admit it frankly and try another. But above all, try something.”– Franklin D. Roosevelt

 

Last Tuesday Part 1 of Law Firm Decline and Leadership Mistakes was published. In today’s post we look at the other two leadership errors that lead to decline.

 

 

Over-expansion

Imprudent growth may be the number one mistake law firm leaders make. There is a tremendous bias for numerical growth in our industry. Unfortunately, the growth in which we engage is often far from strategic, and about little more than becoming bigger.  As a result, most lateral expansion is not – in the long run — beneficial to the partners of the expanding firm.  Most growth changes the numbers, but adds little value.  Growth is expensive, tests culture, strains the limits of the management and leadership infrastructure and is just plain risky.

Counsel/Advice

  • Add institutional capacity only when existing capacity has been significantly and consistently utilized.  Until that threshold has been achieved, learn to use contract, temporary and outsourced solutions.
  • Restrict lateral growth to individuals or groups that meet strategic criteria, and have been documented to be accretive through objective analysis.  Increasingly, business that is thought to be “portable” is actually far from it.  Vet relationships.  Add laterals in a manner consistent with strategic direction of the firm.

Excessive Leverage

The general inclination in most law firms is to maximize immediate cash flow to owners while minimizing the amount of owner cash tied up in contributed capital.  The combination of these two often leads to operational stress, and — if extended too far, organizational failure. Edwin Reese has an excellent article here on law firm capital.

Counsel/Advice – Better to be safe than sorry.  We recommend that firms maintain a balance of contributed capital that is equal to 25-45% of annual owner compensation and that monthly distributions to owners be based on a distribution of 60-70% of projected annual income with the balance distributed at year-end.

Follow Basic Guidelines And Avoid Crisis Continue Reading Part 2 – Law Firm Decline and Leadership Mistakes

“Bigger is better.” In recent years, many law firms have subscribed to that maxim to grow through office launches, mergers, or lateral acquisitions. Grabbing market share, adding substantive expertise, and establishing geographic relevance provided the justification for many an expansion plan. For some firms, growth appears to have been partly in response to the rapidly changing legal service landscape.  Edwin Reeser recently has written two thoughtful pieces presenting a contrary view to some popular notions that stoke the enthusiasm for growth.

Mr. Reeser’s articles note that law firm growth is not necessarily a winning strategy.   Indeed, for every benefit gained from an out of the ordinary course growth strategy, the bigger law firm assumes some corresponding risk. Only time will tell whether the financial benefits from expansion will outweigh the intangible risks. For that reason, it is a good idea to consider some of the by-products of an expansion plan before diving deep into the growth plan pool.

The Results of Growth Can Disappoint or Backfire. Bringing into your firm new people, new offices, and new expertise causes change. Change can be good, but it also can be unsettling. Moreover, all the promise justifying the growth can play out poorly.  Indeed, as Mr. Reeser wrote in 2012 in an excellent five part series for the San Francisco Daily Journal about the economics of lateral acquisitions, there is an equal chance that the lateral acquisition won’t take (to review the terrific five part series, go to Mr. Reeser’s website).  If this is the case, the cost of failure will be borne by the existing owners.   Trying to maintain credibility among your partners once an acquisition struggles or fails is not an easy task.  Beyond credibility, financial burdens caused by failed acquisitions can de-stabilize the firm.

The Excitement of Growth Can Become Addictive. Let’s face it; growing a law firm can be exciting. It really gets exciting if there is a series of Continue Reading Growing Your Law Firm–Some Cautionary Thoughts

It is not the strongest of the species that survives, nor the most intelligent that survives. It is the one that is the most adaptable to change. – Charles Darwin

 

These days, scarcely a week passes without news of another law firm in decline.  From high-profile names to less-known partnerships, the leaders of each face pivotal decisions. Some of these firms will restructure or otherwise embark on a turnaround strategy.  Others opt for merging with another group or offering themselves as an acquisition target in an effort to  avoid dissolution. In recent years we have seen far too many end in a messy liquidation.

Identifying The Path That Leads To Decline

The decline of a once vibrant partnership rarely has much to do with the quality of lawyers engaged in the practice.  And though the marketplace is certainly tumultuous, what is at the heart of survival and success for some, and the dire straits of a struggle to survive for others?

In his book Corporate Turnaround, Dan Bibeault identifies four key mistakes that lead to organizational decline. These mistakes, paraphrased to the legal profession are:

  • Failure to respond effectively to a changing competitive environment
  • Poor control over operations
  • Overexpansion
  • Operating with excessive financial leverage

Let’s look at each one a bit more closely. Continue Reading Part 1 – Law Firm Decline and Leadership Mistakes