AmLaw on biglaw partner compensation
Special ed norton
Special ed norton
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Date: May 3rd, 2007 2:01 PM
Author: Hazelrah (http://xoxoreader.blogspot.com/)
This was a good article on partnership compensation systems, partner pay spread, etc. It's on Westlaw at 5/1/2007 AMLAW 140.
Volume 29, No. 50
Copyright 2007 ALM Properties, Inc. All rights reserved.
May 1, 2007 ,
BEATING THE SPREAD
FIRMS ARE REJIGGERING COMPENSATION SCHEMES TO GIVE STAR RAINMAKERS
[ENTITY=MDASH]AND ELITE LATERALS[ENTITY=MDASH]A BIGGER SHARE OF THE PIE. EVEN
LOCKSTEP SHOPS ARE ON ALERT.
Cleary Gottlieb Steen & Hamilton managing partner Mark Walker is old-school when it comes to partner compensation. He sees no reason to change Cleary's seniority-based lockstep scheme, in which the spread between the highest- and lowest-paid partner is less than 3:1. It's a no-hassle system--no long meetings explaining bonus decisions and no disputes among partners over credit for bringing in business. And it is the foundation of Cleary's culture, Walker says, which emphasizes the collective over the individual. If the firm is not a magnet for hot lateral candidates who want to be paid like A-Rod, that's okay with Walker. 'My view is that if someone says I'm not going to Cleary Gottlieb because [another firm] is guaranteeing me a salary of X, then they don't belong at our firm anyway,' he says.
That's a common sentiment among the most profitable firms in The Am Law 100, where old-fashioned compensation systems remain firmly in place. Leaders of firms such as Debevoise & Plimpton; Cravath, Swaine & Moore; and Simpson Thacher & Bartlett say they don't see a need to adjust their pay scales to accommodate star partners. With profits so high at those firms, even low spreads--frequently less than 4:1--give few partners reason to complain. 'We look at ourselves all the time,' says Evan Chesler, presiding partner of Cravath, a firm with a spread of 3:1 (and profits per partner of $3 million in 2006). 'There's not been any serious consideration to change our lockstep system.' It's easy to understand the resistance to change. The most profitable firms don't often lose partners to other firms. That's never happened at Simpson Thacher (2006 profits per partner of $2.5 million), says managing partner Philip 'Pete' Ruegger III. Like Cleary's Walker, Ruegger says that Simpson's compensation system is designed to promote the institution over the individual, with benefits accruing to both. Simpson's bedrock clients, like The Blackstone Group L.P. and Kohlberg Kravis Roberts & Co., are clients of the firm, not of any individual partner, so all partners have a stake in the revenue they generate.
'Life would go on,' says Ruegger, about the possibility of losing a partner to another firm because of Simpson's compensation system, which, according to competitors, has a spread of less than 4:1. (Ruegger would not comment on the firm's spread.) 'We'd be disappointed, but we wouldn't change our structure.'
Maybe not, but there is evidence suggesting that even the firms with the highest profits per partner are becoming increasingly vulnerable to the lateral market. Partners now make moves that might have once been unimaginable. Two-and-a-half years ago, star securities litigator Ralph Ferrara left Debevoise & Plimpton for a partnership at LeBoeuf, Lamb, Greene & MacRae, a firm historically not in the same universe as Debevoise in profitability. Last fall, Steven Lofchie, an expert in broker-dealer regulation, opted out of the lockstep compensation system of Davis Polk & Wardwell for Cadwalader, Wickersham & Taft, a firm that is known for compensating partners for their business-generating prowess. And earlier this year, Roger Meltzer left Cahill Gordon & Reindel, ranked sixth in PPP, for DLA Piper, which ranks forty-ninth in PPP--but which has a spread of around 10:1 among equity partners.
None of these laterals would comment on compensation, but it's clear that several firms in The Am Law 100 are now deploying high-spread compensation systems specifically designed to reward their most valuable partners with more money than they could earn at even the most profitable low-spread firms. Firms have upped the difference between their highest- and lowest-paid partners to 10:1--or even more [see 'Spread Sheet,' page 143]. And some of those firms have the capacity to pay partners as much as or more than the best-paid Cravath or Simpson partner.
Traditionally, when the most profitable firms have lost star partners, it hasn't been to other firms, but to other industries, frequently the financial world. In 2000 Cravath M&A rainmaker Robert Kindler went to Chase Manhattan Corporation (now JPMorgan Chase & Co.) to become an investment banker. (Kindler has since moved on to Morgan Stanley.) In 2005 the leader of Davis Polk's M&A group, Dennis Hersch, followed Kindler to JPMorgan Chase. Last year Alan Schwartz left Simpson for the First Reserve Corporation, a private equity firm. And in February, executive compensation expert Adam Chinn gave up his guaranteed millions as a partner at Wachtell, Lipton, Rosen & Katz to join Centerview Partners LLC, a newly formed investment banking boutique. Even the most profitable firms don't try to keep partners who are lured by the riches of financial institutions, which can easily pay them more. 'We can't and we don't compete [with investment banks],' says Chesler.
But now a few of the highest-paid partners at firms further down the Am Law 100 profitability chart are receiving more bankerlike compensation--thanks to extreme spreads in the partnership, which often includes equity and nonequity tiers. That's the case at Latham & Watkins, which ranks at the bottom of the first quintile of The Am Law 100 in profits per partner. In a modified lockstep system, Latham equity partners receive between 300 and 900 points. Income partners are given as few as 60 points on top of their fixed salary, according to a former partner. (The value of each point is determined by the profits available.) Bonuses, which are handed out in addition to the points, put even more distance between the highest- and lowest-paid Latham partners. Robert Dell, Latham's chairman and managing partner, won't reveal the firm's spread, but he says that 15 percent of the firm's profits are allocated to bonuses, which is an attractive selling point for laterals, especially those who know they can bring business to Latham. A top performer at Latham can now earn more than $5 million, according to a recruiter familiar with the firm. (The firm declined to comment on the figure.)
Reed Smith managing partner Gregory Jordan also says that the firm's ability to pay more at the high end has helped in lateral hiring. 'When we find a lateral that fits in our firm, we've been able to meet the compensation requirements even when our competition has a higher ranking in the PPP,' says Jordan. 'We don't really stop at the name of the firm.' Reed Smith, which had a 16.8:1 spread in 2005, recently brought in partners from firms with higher average profits per partner, including Lee Zoeller, who chaired Dechert's state tax practice, and corporate partner Kevin Hall, from Linklaters.
At Hogan & Hartson, the spread in 2005 was even higher--20:1. J. Warren Gorrell, Jr., Hogan's chairman, says that's the result of the firm's growth into markets and practice areas with different rate structures. There's more variation in the profits that partners generate, he says, and the spread simply takes that into account. 'We've had [a large spread] for a very long time, ' says Gorrell. 'The fact that it drags down our PPP is not such a big deal. ' Especially when top partners can be amply rewarded. Gorrell, like Reed Smith's Jordan, says that the flexibility of his firm's spread helps in lateral hiring. He declined to cite examples, but last year Hogan brought in senior M&A partner Jonathan Coppin from the London office of Shearman & Sterling, a firm that has traditionally had higher profits per partner than Hogan. (Coppin declined to comment on his compensation.)
In most firms with high spreads, the top tiers are very, very small. At DLA Piper, for example, the highest-paid partner--product liability litigator Amy Schulman--earned $5.75 million last year, according to a DLA partner who spoke on background. Another partner, San Diego-based patent litigator John Allcock, made $5 million. But according to this partner, below those two, the drop is significant, with the lowest-paid equity partner making $425,000. Schulman and Allcock declined through a DLA spokesperson to comment on their compensation, but joint chief executive Francis Burch, Jr., says that if the firm's three highest-paid partners were not included, the spread would be around 7:1, not 13.5:1. (Burch declined to confirm the identity of the highest-paid partners or their compensation.) At Sheppard, Mullin, Richter & Hampton, where the spread is 19.6:1, a single lawyer--Los Angeles-based antitrust and IP litigator Joseph Coyne, Jr.--is alone at the top, according to Guy Halgren, the firm's chairman. After Coyne, who confirms that he made $5.4 million last year with the help of a contingency fee case, the next-highest-paid partners made around $2.1 million. Partners at the bottom of the scale made around $300,000.
Among many firms in the upper echelon of profitability, that's exactly the sort of inequality that lockstep and low spreads are intended to avoid. Proponents of small spreads say that they foster a culture that eases the pressure on individuals, which helps keep partners on board even if they could make more elsewhere. 'If you think you're making enough, you weigh the other things,' says Cleary's Walker.
But there's also a financial risk analysis that often keeps partners put. Lawyers are risk-averse. So many partners who could jump from a lockstep firm to a more eat-what-you-kill shop and make $4-5 million for a year or two hesitate when they're offered no guarantees beyond that. Between that option and a guaranteed multimillion-dollar salary until they retire at their lockstep firm, 'many will chose the latter,' says legal recruiter Arthur Schwartz of Klein Landau & Romm.
Still, it may be a mistake for firms with low spreads to be complacent-- especially if they begin to lose ground to competitors. They only have to look at the experience of certain Magic Circle firms, some of which have extremely low spreads of 2.5:1. After Clifford Chance's merger with Rogers & Wells in 2000, for example, most of the American partners were slotted into Clifford's lockstep system. Some stars from Rogers & Wells were kept off the lockstep--yet the firm still lost many of them, including Kevin Arquit to Simpson Thacher and Steven Newborn to Weil, Gotshal & Manges. (In December 2005 Clifford Chance partners voted to amend the firm's system by introducing three different lockstep ladders, which would take into account different markets, but a Clifford Chacnce spokesperson declined to specify to what degree the new system has been implemented.) American firms are luring away some of the best talent at other lockstep British firms as well. Last year, for example, Kirkland & Ellis brought on such high-profile London partners as the Linklaters private equity duo of Graham White and Raymond McKeeve and Allen & Overy finance ace A. Stephen Gillespie. In recent years some of the Magic Circle firms have responded by taking steps to boost their profitability. Linklaters, for example, asked a 'significant' number of underperforming partners to leave, according to the firm's U.S. managing partner, Paul Wickes. Since the restructuring--and despite its lockstep compensation--Linklaters in New York has attracted lateral partners from White & Case, Shearman & Sterling, and Latham & Watkins.
Shearman & Sterling may provide a cautionary tale of what happens to firms with low spreads that can't pay at the top of the market. Last year Shearman increased profits per partner 19 percent to $1.65 million, but over the years it has not kept pace with its peers in the New York elite. In 2000 the firm ranked thirteenth in PPP; this year it ranks twenty-second. During Shearman's slide down the profitability chart, it has lost a raft of partners. Shearman asked some to leave, according to a former partner. But not all defections were planned, including the loss of such stars as antitrust partner Steven Sunshine to Cadwalader (he's now at Skadden, Arps, Slate, Meagher & Flom); tax litigators B. John Williams, Jr., and Alan Swirksi to Skadden; and asset management partner Barry Barbash to Willkie, Farr & Gallagher. As it lost ground in the profitability ranks, Shearman did not significantly adjust its 4:1 spread--and, says a former partner, lawyers with portable business realized that they could make more money elsewhere. (Shearman declined to comment for this story.)
If firms continue to employ a narrow spread, the lesson is clear: Make sure the PPP stays high. If Cravath didn't make so much money, would its partners stick around? 'I don't know the answer to that,' says Cravath's Chesler. 'I think there is more glue than just the money.'
But he hopes he doesn't have to find out.
Date: May 3rd, 2007 2:21 PM
This article really demonstrates why PPP is the most important factor in assessing firm prestige and success.
Date: May 3rd, 2007 2:53 PM
Author: Special ed norton
PPP =/= prestige
RPL or PPL = prestige
Date: May 3rd, 2007 3:07 PM
Author: Hazelrah (http://xoxoreader.blogspot.com/)
I posted a lot about this last night, I'll just repost one of them. See http://www.xoxohth.com/thread.php?thread_id=624976&mc=22&forum_id=2 for the rest.
"The problem with other metrics other than PPP is you have to consider, why would a partner care? At the end of the day, the partner does not care how much revenue each lawyer generates, the partner cares how much money he himself makes. *All other things equal*, a partner is not going to prefer a firm with lower PPP and higher RPL, and a firm is not going to try to improve its RPL at the expense of PPP. If a firm can improve its PPP without improving its RPL (or even by lowering their RPL), then it is completely rational for it to do so. This is what I mean about the disconnect -- you are evaluating firms and partners by a standard other than what they themselves are trying to achieve."
Date: May 3rd, 2007 2:31 PM
I didn't realize that the compensation spread between the top-earning and bottom-earning partners was so much larger at some firms than at others. This seems unsustainable in the medium-to-long run, particularly among firms that are direct competitors. More specifically, I doubt the most-profitable lockstep firms will be able to stay that way.
Date: May 3rd, 2007 2:55 PM
Author: Special ed norton
" I doubt the most-profitable lockstep firms will be able to stay that way."
I disagree. The highest portion of revenue at these firms come from "firm" clients. IE KKR and Blackstone at STB Sure a rainmaker or two may leave to go to CWT, but overall most lawyers, as risk averse as they are, would be happier in the system.
Date: May 3rd, 2007 4:48 PM
Author: Hazelrah (http://xoxoreader.blogspot.com/)
This is not really about risk aversion, but about "fairness" in compensation. In a lockstep system, if you're bringing more value to the firm than most of the other partners in your class, then you might feel shortchanged. Similarly, if you're bringing more value than most of the other partners in your firm as a whole, you might also feel shortchanged.
This is not too different than when you're an associate and find yourself working twice as hard as your officemate for the same pay. Maybe you'll tell yourself, well he's obviously not going to make partner, and I still have a chance. Okay, so now you're a partner. Still want to subsidize the slackers in the firm?
Date: May 7th, 2007 9:49 AM
Author: Hazelrah (http://xoxoreader.blogspot.com/)
Bump for interesting article.
Date: May 7th, 2007 9:54 AM
Author: Vector\'s semi-retired rectum
'I think there is more glue than just the money.'
I LOL'd several times.
Date: May 11th, 2007 7:50 PM
Author: Sun Myung Moon
Subject: adam smith, esq. on the article
Where Have All the Partners Gone?
The American Lawyer asks "Is Shedding Partners the Right Way to Improve Profitability?," which is the wrong question—albeit a nice headline for a relatively substantive article.
First, what phenomenon are they addressing?
The phenomenon is nicely encapsulated by the changed perspective Dan DiPietro of Citigroup Private Bank brings to the metric of partner "defections:" Whereas it used to be "an absolute red flag," indicating a troubled firm, they've now re-labeled it as the less judgmental partner "departures," and "It [is] still something to track, but it [isn't] immediately seen as a bad thing."
To the numbers: The American Lawyer's methodology was to identify 15 firms, using their lateral partner database, that lost more than 15% of their partners over the three-year period from October 2003 to October 2006. (During this period, the average firm lost 11% of its partners.) This yielded 15 firms.
Next, they looked at AmLaw revenue and profitability figures and found what I view as a draw, although they differ. On profitability, 8 were above average and 7 were below: A draw. On revenue, this is what they have to say:
"Only six improved their all-important revenue per lawyer more than the Am Law 100 average of 15.3 percent. What our sample shows, in other words, is that partner losses can boost profits, but they don't often correlate with an improvement in a firm's overall financial health.
"If firm managers cull partners strategically, and with humanity, they can make their firms more efficient and more unified. If, however, they handle partner departures ineptly, says lawyer and legal consultant Bruce MacEwen, they can 'destroy morale and be caustic to the firm's ethos.'"
Let's back up.
The article proceeds to discuss large-scale partner departures at firms such as Dechert, Cadwalader, and Akin Gump. Each story is of course different, although the Dechert and Akin Gump strategies are emblematic of an industry-wide shift, and within reason resemble each other. Both firms decided they needed to focus on key practice areas, and this meant remaking the partnership ranks: "We were kind of all over the place," said Akin Gump chairman R. Bruce McLean. Dechert likewise focused on a general "quality upgrade" across the board, from practice areas to senior C-level executives.
Meanwhile, Cadwalader has pursued the most radical path of all, as I've described. Cadwalader's wholesale revamp of the partnership wasn't really a renovation of the firm; it was a tear-down.
Orrick is cited as an example of a firm that hasn't eliminated practice areas, but has strived to push its practice areas to the famous "higher value" work ("higher value" being defined as of high importance to the client). So, for example, an employment partner moved her practice from one-off representations to high-level executive defense and class actions: "I transformed my practice," says [Lynne] Hermle. "One day I was doing Joe versus gas station, and the next day I was doing $40 million class actions."
Two other archetypes are presented: The first is Duane Morris, which has aggressively (overly so?) gone after laterals, with a $7+-million/year recruitment budget, only to find that many do not work out—some, if you believe the article, flat-lining within six months of arrival. Although they treat such flame-outs humanely, the Duane Morris model clearly risks erring on the side of promiscuous hiring.
The second and final example is Shearman & Sterling, which, rather than recruiting laterals that are not productive, has been shedding home-grown talent that is not productive—intentionally, in many cases. In the short space from 2004 to 2006, S&S' total partnership ranks have shrunk by 18%, from 239 to 196. Meanwhile, the entire firm shrank during that period by 130 lawyers. Still, they have increased revenue per lawyer by 26%.
Finally, this is how the article sums up its findings:
"That's the new reality-partners leave or get pushed out of firms, and firms find laterals to replace them. The partners join new firms, perhaps pushing out a different group of lawyers in the process. Old-fashioned notions of collegial lifetime partnerships are only a memory at many firms. "
Is that all there is to be said?
I think not.
In fact, I have a completely different explanation for what we're indisputably witnessing: We as an industry have not suddenly in the past three years lost our souls, become wealth-maximizing philistines, or abandoned all sense of humanity and proportion in dealing with our colleagues.
What has happened, at first glacially in the 1990's and with accelerating force in the 21st Century, is that our industry is fundamentally restructuring itself—in a way that will endure for the rest of our careers—to match the globalization of our client base and the rapidly evolving structure of those clients' portfolios of legal needs.
Structured finance didn't exist 25 years ago; today "CDO's" [collateralized debt obligations] are commonplace, and the income from David Bowie's royalty stream was famously securitized.
Inbound project finance to the Chinese mainland? Sarbanes-Oxley? Derivatives accounting for hedge funds? Private equity fund formation? Shareholder oversight of executive compensation?
My point is simple: The rate of change in the world economy is accelerating, and in league with that our firms must responsively adapt to clients' needs.
When a law firm needs to change the composition of its output, it needs to change the composition of its "factors of production"—which means changing the composition of its partnership.
What all of the churn and sturm und drang recounted in "The Departed" reflects is a once-in-a-generation change in the structure of our industry.
So, going forward, we'll all be perfectly conformed with and aligned to our clients' legal portfolios? Scarcely. Evolution is constant, change ineluctable, and metamorphosis desirable. But I still believe we're going through an exceptional period, a "local maximum" passage of change.
And law firms don't change in the abstract; they change by changing the composition of their partnerships. "Shedding partners to improve profitability?" Wrong question. "Shedding—and aggressively gaining—partners to remain at the forefront of relevance to our clients' needs," is more like it.
Posted by Bruce at 8:26 AM