Cotterman on Compensation: Law Firm Partnership

First launched in 2007, Cotterman on Compensation is a blog authored by Altman Weil’s Jim Cotterman, the preeminent expert on law firm compensation in the United States.  For 30 years, Mr. Cotterman has advised law firms on compensation system design, capital structure and other economic issues. He is the lead author of the definitive book on law firm compensation, ABA’s Compensation Plans for Law Firms.




Some Thoughts on Lateral Hires


May 9th, 2011 by Jim Cotterman

I was asked recently about lateral hires and compensation practices.  My response, which goes beyond compensation, follows.  If the firms don’t do these other things well it matters very little about the compensation.  And even if the compensation is well done, the other things here are critically important for the hire to be successful.

1. Lateral candidates tend to promise more than they can deliver in terms of how much and how quickly their practice will move.  This is not an intentional overstatement as their firm is equally off at the other end on how much lost business will occur.  The clients have the final word on this matter and their response may not be what either the candidate or the firm anticipated.  Another factor (hopefully) is that candidates are inexperienced at picking up a practice and moving it.  If the partner is experienced at moving their practice that should tell you something as well!

2. Candidates may be making the change for reasons they do not fully understand (which could lead to post change remorse once it is all sorted out).

3. Firm’s due diligence is often lacking with little or no credentialing, insufficient analysis of candidate’s practice (see number 1 above) and insufficient evaluation of how good a fit this person is with group, office and firm overall (see partially number 2 above).

4. Each firm needs to have a really good handle on what it is paying its equivalently performing partners.  It is very bad for morale if current partners are paid less than the incoming laterals.  But how many times do we hear partners lament about this very situation?  And if this situation is a symptom of some problems with a current program, they are exacerbated when laterals are kept whole.

5. My personal observation is that firms will often pay very high in the market range, even above range, to seal the deal with a lateral partner.  But it is important to note that there is always someone who can and will outbid you.  Further, money does not buy loyalty — it can only arrange a short-term rental.  Finally, once you set the initial compensation so high, where do you go from there and how do you recreate internal equity when the time comes to fully integrate the lateral into the firm’s program?

6. Smart candidates avoid having a target painted on their backs with a high signing bonus, high draw, high guarantee — they will look for assurance of “X” if they deliver “Y”, which is reasonable because they don’t have relationships in the firm or experience with the new firm’s particular politics.  They will be willing to share in risk and reward with the rest of the partners to some extent and will look for a fair draw.  There is a real need to strike the right balance between comfort for the new person and full integration into the firm’s program.  Some may consider this next comment a bit unusual, but I recommend laterals have an active mentor — maybe the partner who sponsored their candidacy — to improve the integration and to catch/head off the difficulties that will invariably arise.

7. The above comment leads me to this next thought that there is really very little effort to integrate partners into the group, office or firm overall once they arrive (or at least after the initial honeymoon period).  Moreover, since they are not well plugged in they find themselves having to market internally nearly as hard as they have to externally.

 


 

Making Equity Post Recession


November 21st, 2010 by Jim Cotterman

Making equity partner is like chasing a rising balloon.  Just when you think you have it in your grasp, it rises out of reach yet again.
The last decade was largely about limiting entry to equity and growing the non-equity ranks (which by the way has its own set of perils).  And the recession put many highly skilled lawyers (technically and as advisors) at risk because they did not control enough business, or profitable business, or the right business in terms of strategic focus.

The rising balloon issue is probably one of the most troublesome issues for non-equities.  They just don’t know what it's going to take to make it into the equity ranks.  And many think they are performing better than some of the lesser performers already in those ranks.  That suggests it’s harder to get in than to stay in (sort of like you need to defeat the champ to claim the title — ties allow the champ to retain the title).  Some of that is true, yet some is also explainable by periodic underperformance of an equity partner due to an extreme external factor or in the case of a retiring partner winding down.

The primary distinguishing characteristic of equity partnership is having a client following that aligns with the firm’s desired client segment in a quantity sufficient to at least sustain one's own production.  It’s even better to have good prospects of building that client following to sustain the firm’s leverage model.  Next is a willingness and ability to incur income and capital risk, including possible claims from personal guarantees on loans and office leases.  And finally, the drive to become a marquee player in the market.  This last characteristic is what really makes the first one possible.

Given that some associates have self-selected out of equity consideration because of the time required to reach marquee level, it is not hard to understand how much more difficult it is if you approach this as a part-time practitioner.  Some mitigation can be achieved through effectiveness and efficiency, but generally the investment of time and effort is simply a prerequisite.  There are a few exceptions, but those involve unique situations that should not be counted on as a means to the end.

I believe the same could be said for earning potential.  Compensation closely tracks the volume of legal fees and profitability of your book of business.  Grow one and you grow the other.  There is movement to reward for other factors and those other factors are extremely important.  AFAs and Legal Project Management will alter this dynamic somewhat.  Leading diverse teams efficiently will take on greater significance.  And those diverse teams may include outsourced resources.  But the underlying driver of compensation is still a large, profitable client following.

Can someone become or sustain equity partnership as a part/flex time partner?  Yes, but it takes a significant commitment - by the individual, the firm and the clients - to flexibility, cooperation and collaboration to make it work.  Technology is a great facilitator of this, and it is likely to do so even more in the future.  So, anyone considering this path better be technology proficient and receptive to rapid change.




Law School Graduates — Should They Apprentice?


August 28th, 2008 by Jim Cotterman

What ever happened to the concept of an apprenticeship?  An apprentice is defined in Webster’s Collegiate dictionary as “one who is learning by practical experience under skilled workers a trade, art, or calling.”  This is an essential element to progress from book knowledge to practical skills.  From educated student to effective counsellor.  Apprenticeships are evidenced in medicine where the economics of getting the requisite education are more severe — per year tuition costs are comparable but medicine may edge a bit higher on average.  And medical school is typically a four-year curriculum.  The newly minted physician then must complete a multi-year residency.  I raise this because one might assert that if law school graduates had to apprentice they would not pay (currently or with debt) the cost of gaining a law school education.  The assertion may have value, but it should not effectively dismiss the concept of apprenticeship.

Lawyers are able to practice without a formal apprenticeship and the very best of the best are paid significant incomes.  Yes, there is an element of the open market economy as well as traditional supply and demand economics at play here.  And there are many factors that come into play.  But the concept is worthy of debate.  For surely the status-quo is not tenable for law firms or their clients.


 
More on Non-Equity Partner Tiers


March 18th, 2008 by Jim Cotterman

I mentioned in my last post that creating a non-equity tier as a place to put your under-performers is a bad use of a tiered structure.  Other similarly weak reasons to create a tiered structure include managing earnings (profits per equity partner) to appear more profitable in the published rankings; to restore operating leverage; or to create a place to put “technicians”.  Compensation equity, operating leverage, quality control, admission standards, performance evaluation and motivation are all solvable and are independent of partnership structure.  Partnership decisions, like compensation decisions require discipline and rigor.  Tiers should not become dumping grounds for the mediocre.

As Professor William Henderson at the Indiana School of Law writes in his May 2006 paper titled An Empirical Study of Single-tier Vs. Two-tier Partnerships in the AmLaw 200, “…this study documents that average PPP are significantly higher in single tier firms, even after controlling for geographic market segment and firm leverage.  The higher profitability of single-tier firms appears to be a function of higher levels of prestige, which enable single-tier firms to (a) attract and retain a more lucrative client base, and (b) run a more rigorous promotion-to-partnership tournament in which associates work longer hours and are less secure in their futures with the firm…”

So should anyone consider a second tier?  Perhaps.  There are still some benefits to a second tier including  establishing a career option for critically important senior advisors and the very best technical specialists who do not want the responsibility of full ownership — the “pride of partnership”; or, as a proving ground for those who have yet to demonstrate sustained business generation in acceptable quantity and quality but who you consider are more likely than not to do so.  Undertaking tiers still requires carefully stated objectives (including how this structure relates to the firm’s strategic intent; clearly articulated rigorous admission standards for both tiers; that the firm design the tier to be a desirable career path; and, that the equity partners reach consensus that this is a good thing to do.




What Does Non-Equity Really Mean?


November 15th, 2007 by Jim Cotterman

The use of a tiered partnership structure is common among larger law firms.  According to the 2006 Altman Weil Compensation Systems Survey 85% of firms over 100 lawyers use this structure.  Although those “partners” are slightly more likely to be treated as W-2 employees for tax purposes.

The range of thinking on this topic runs the gamut from cynic to advocate.  The cynics generally feel that it is one of the tools law firms use to manage earnings (PPEP - Profits Per Equity Partner).  Even though law firms are privately held businesses, their performance is a much-discussed topic.  And a key ranking is based on the PPEP.  Just as public corporations dress up their financial statements, so now do law firms.  Another cynic view is that this just avoids making hard people decisions.  “We provide the easy out of a separate box to put people in rather than confront whatever issues are holding this person back.  If we cannot say no at least we can say non-equity.”

Advocates espouse the additional time lawyers have to develop the skills a hyper-competitive market is looking for (code for the ability to generate an independent book of business).  They also point to this tier as an appropriate alternative for those lawyers whose career goals do not include equity partnership responsibilities.  By allowing these seasoned lawyers the opportunity to acquire the mantle of ownership (or if you prefer — the pride of partnership) you can retain talented individuals who have no desire to become full owners of the business.  Tier distinction is generally only internally known.  Therefore, many clients will see the firm as having more “partners”, and those non-equity will be able to market as a “partner” likely getting work and rates different then when they were senior associates.  And if the commentary about the Millennial generation is true; then praising them with non-equity creates the “everyone is a winner” syndrome that they were raised with.  For more on the Millennial generation in the work force see the 60 Minutes program aired 11/11.

I like the career flexibility non-equity tiers offer, as long as the firm still is disciplined regarding rigorous criteria for admission into these ranks.

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