The Human Toll

Time for a time-out.

In all the obsessiveness and compulsiveness about the impact that this little economic interregnum we're gamely marching through is having on our firms, our P&L's, and even our personal balance sheets, let us pause for a moment to consider the genuine human toll of layoffs.  The National Law Journal recently put it nicely:

Situation wanted: High-performance type with dashed hopes, loads of law school debt and mortgage acquired at peak of housing boom seeking self-esteem and lost identity following recent layoff from law firm. Willing to adjust once-lofty career aspirations in exchange for doing anything remotely related to the practice of law.

The ad may be fiction, but the scenario has become a reality for hundreds of attorneys who started law school just a few years ago with prospects of six-figure salaries and their pick of where to practice.

Nor should it surprise you to hear that lawyers are especially poor at dealing with layoffs—particularly the "Millenials" who have been raised on a non-stop diet of affirmation and positive reinforcement.  Lawyers' inherent traits work against them following a layoff, no matter how often they're told that it was not "performance" related:

• As Type A personalities, they're not used to anything short of excelling; a layoff comes as a complete shock and takes time to assimilate psychologically.
• This is probably the first time in their lives they've been forced to deal with feeilngs of failure.
• The loss of direction and purpose is profound.
• Classic lawyers traits—risk aversion, impatience, skepticism—work against a speedy recovery from the body blow of a layoff.
• Lawyers also are introverts and the enormous insult of a layoff tends to make them even more withdrawn and isolated.

What's going on at a psychological and physical level is the classic "fight or flight" response that kicks in whenever one feels in danger.  While this was a beneficial and even life-saving adaptation on the African savannah, study after study has shown it to be profoundly counterproductive and self-defeating in the canyons of our cities.  The continual low-level anxiety tempts people to make rash decisions, view the world in Manichean terms, and blame themselves for their fate, regardless of their actual responsibility for finding themselves on the street.

What's less widely recognized is the negative impact on those lawyers and staff who remain employed.  As noted in the LA Times in "Layoffs take toll even on survivors:"

"None of the effects are good," said Frank Landy, author of "Work in the 21st Century." An organizational psychologist, Landy specializes in understanding the emotions of work. "Layoffs clearly have emotional and practical consequences for companies and workers."Those consequences are, unfortunately, long-term.

The psychological fallout of surviving a layoff lasts six years, according to the study published by the Institute of Behavioral Science. And the effects of surviving multiple layoffs are cumulative. They add up rather than dissipate.

"It only takes one action of distrust to lose basic confidence in the employer. It's like a romantic relationship. Once the trust has been undermined, it's very, very difficult to recover," Landy said. "There's no data that suggests workers become more resilient. 'I'm a survivor, hear me shout'? It doesn't happen."

The problem, of course, is that even the "survivors" feel their situation is precarious.  They also feel—rightly or wrongly—that their firm has broken a covenant of faith with them.

Lingering distrust is one of the final stops on the emotional misery tour taken by most surviving employees. First, there's the disbelief, anxiety and desperation resulting from the initial layoff announcement. Then comes the sweeping sense of relief when one's job is spared, followed, in rapid succession, by guilt, fear and stress.

In a volatile labor climate that's rapidly shedding existing jobs across all sectors of the economy, and during which any available employment may be likely to bring less pay, that emotional trajectory is only amplified.

The risk is that the survivors are tempted to descend into cynicism.  (If you doubt me, spend not more than 30 seconds [please!] reading comments on "Above The Law.")  The temptations for the cast-off and the survivors alike are all self-destructive:

• Withdrawal (as noted).
• Increased alcohol use or drug abuse, especially of painkillers or sleep aids.
• Shockingly negative thoughts, including suicidal ones.
• A pessimistic outlook, which in turn engenders negative interactions, which lower expectations, which encourages pessimism.
• Sloppy and compulsive eating habits, with concomitant weight gain.
• Neglecting exercise.
• Sleeping poorly.

And it would be folly to predict anything other than that it will get worse before it gets better.  If you doubt me, just extrapolate the last few months from this chart, courtesy of Above The Law's "Layoff Tracker."  Since the image is small, here are the numbers:

As of March 6, 2009, there have been over 7,241 layoffs (3,045 lawyers / 4,196 staff) since January 1, 2008. There have been 5,408 (2,149 / 3,259) in calendar 2009 - 1,132 (337 / 795) in March.

Update: Andrew of LawShucks wrote to correct my reference to Above The Law, which merely republishes (with permission) the LawShucks tracking info. We stand corrected. Thanks, Andrew.

A healthy, useful, and enriching option is to volunteer—and anyone reading this page surely has a multitude of skills to offer.  In fact, if you believe From Ranks of Jobless, a Flood of Volunteers, here in New York, at least, nonprofits are enjoying almost an embarrassment of riches:

Many who run nonprofits have marveled at the sudden flood of bankers, advertising copywriters, marketing managers, accountants and other professionals eager to lend their formidable but dormant skills.

Volunteer for what?  Well, the truth is it hardly matters. The point is to get up and get out and feel you're making a contribution:

God's Love We Deliver, which provides food to the severely ill in their homes across New York City, has seen a record number of the recently laid-off among its 1,400-member volunteer corps, according to Karen Pearl, the organization's president and chief executive. Among them is Eryka Teisch, who saw her job disappear when her financial technology firm downsized in September. God's Love initially asked her for two hours a week.

"I laughed," said Ms. Teisch, 39. "I just said, 'That's great, but I kind of want to add a zero to that number.' "

Ms. Teisch said the experience -- she works in the kitchen, the office, wherever she is needed -- has been a therapeutic tonic for her workaholic, Type-A personality. A bonus is the chance to bond with her fellow unemployed volunteers.

"You try not to focus on the bitter side -- you know, 'I hated my company and I can't believe what they did to me,' " Ms. Teisch said. "At least we have something to wake up to in the morning, rather than focusing on getting another job in this very difficult economy."

If you happen to be in the New York area, VolunteerNYC is an on-line clearinghouse, funded in part by the United Way, that helps match people with nonprofits.

You should also be prepared to take advantage of the professional resources that are available to help.

The only good news may be that there are professional resources available to help.

Primary among them is the ABA's "Commission on Lawyer Assistance Programs," which describes the background to its mission as follows:

During this time of career and financial uncertainty, lawyers are experiencing new stress and trauma as a result of the recession and national belt-tightening in the profession. Law firms are finding it necessary to reduce their lawyer and support staff numbers and are in some instances closing firms. The states that have staffed lawyer assistance programs (LAPs) can provide peer support for individuals and referrals to counseling--career, mental, and financial. The lawyers helping lawyers component of LAPs has existed from the beginning and continues to be of critical assistance in times of relapse, stress, and trauma. These volunteers can share a special bond and understanding, which has been found to be true in other professional peer support programs as well.

During an extended recession in the 1980s, researchers at Johns Hopkins University were able to correlate a statistical significance between economic factors, such as joblessness and social harms, with alcoholism and suicide. The data showed that for each one percent rise in unemployment, suicides increased 4.1 percent; homicides, 5.7 percent; deaths from heart disease, cirrhosis of the liver, and stress-related disorders, 1.9 percent; and admissions to mental hospitals, 2.3 percent for women and 4.3 percent for men. Although data and intuition imply that unemployment and lack of hope, both common in recession, are correlated to addictive behavior, a cause and effect relationship cannot be automatically implied. The legal profession has previously reached number one in another Johns Hopkins study that ranks professionals in rate of depression and suicide. We are seriously concerned that these numbers will continue to increase.

If you personally have been side-swiped by this unprecedented period, you should know these resources exist and take advantage of them.  If you have escaped the scythe but know someone who hasn't, reach out to them.  They're not lepers.  Time for us to band together as best we can.  This cannot—this will not—go on forever.  Be sure you're battle-ready when the clouds finally begin to part.

The Non-Equities (& Others) Heard From On "The Great De-Leveraging"

Well, that'll teach me...

The volume of commentary following my publication earlier this week of "The Great De-Leveraging" has been unprecedented.  Depending on your attitude, that is either deeply gratifying or almost overwhelming.  As one who takes the positive view by default, I choose option A.

Therefore, I wanted to recap and respond to some of the very thoughtful remarks I've received.  First, a few quick preliminaries:

• "Comments" on "Adam Smith, Esq." are broken.  Yes, I know, I know.  This is a technical issue and not an editorial decision.  We have a complete revamp of the site in the works--currently under wraps--but my devout hope is that that will cure this issue.
• I have attempted to keep the identity of all commenter's scrupulously anonymous, and I hope I have succeeded.
• Without exception--even where people disagreed with my original piece--the remarks and observations have been thoughtful, reflective, and generous.
• I have, as editor-in-chief, reserved the right to condense comments.

Without further ado.

First, "Regular Guy" takes issue with my description of the non-equity position to begin with:

One of my friends forwarded to me your article on The Great De-Leveraging. She was particularly interested in a section in which you wrote "Non-equity lawyers don't have to beat their brains out.  So they don't.  Their deal--again, a perfectly rational one, to them--is that, premised on good behavior, they have a job essentially for life at, say, $350,000 to $450,000/year, adjusted for inflation.  If you think that's not an attractive deal, I suggest you immediately take the elevator down to the street and ask the first ten people you encounter if they'd like such a job."

I am a non-equity partner in Philadelphia, but there's almost nothing in the quoted section which rings true. I (and my friends who are non-equity partners in Philly, DC and in NY) are under incredible pressure to bring in new business and to meet billable hours requirements. And we do it (at least in Philly) for substantially less than $350,000. And on top of it, we get to pay for our own benefits out of pocket. I agree: if we ever had the deal you describe, it would be perfectly rational to do it forever. But I don't know anyone at any firm who ever collected $350,000 to $400,000 for good behavior. I'll be on the lookout for it, though . . .

Frankly, I'm not quite sure what to make of this, since it was an "outlier" in terms of reactions.  Clearly different firms operate at  different economic levels and for some paying a non-equity the amounts I mention might not make sense within their overall compensation structure or not be feasible financially, so I don't doubt that "Regular Guy" is describing his world accurately. 

My point was that, regardless of the exact level of the numbers, they're quite respectable incomes in the US economy as a whole--indeed, according to our President, you'd almost certainly qualify as "wealthy" and worthy of paying additional taxes.

Next up, we have a commenter at  Legal OnRamp who provided a remarkably thorough canvas of the non-equity partner landscape.  I've highlighted key points.

Some excellent data.

Some conclusions I would respectfully differ with.

Nonequity partners, properly applied, are more profitable than associates, notwithstanding their lower production of hours, for a number of reasons. Firstly, they are considerably more experienced and efficient, and thus a higher proportion of their hours worked are billed and collected.

Secondly, their billing rates are higher, and every hour worked has a higher margin as against the allocation of fixed overhead to them as timekeepers.

Thirdly, they tend to have some book of business, just not enough to justify a full equity partnership position. This provides some breadth and stability to the enterprise business base.

Fourthly, they tend to have some real expertise and help out in landing new cases.

Fifthly, they tend to contribute to the administration and partnership duties, from recruiting, mentoring new associates, all manner of committees, etc., thus spreading the burden among a wider group.

Sixthly, it tends to be very easy to project based on years of past experience what the contribution to the bottom line of the firm will be, and their compensation and benefits packages are correspondingly tailored so that the firm makes a profit spread from every one of them.

So....you do not as a manager need to have them working 2,000 hours (though you would like that!). You get 1600 hours at $500 collected from a service partner and she puts $800,000 into the kitty. Salary and benefits at $400k, overhead allocation $150k, net to the firm $250k. Bonus structures encourage more work and there is often generous sharing for it. But it is not required because there are all these other reasons not to force them out if you are making a quarter million a year from their efforts and they carry all these other burdens that would have to be borne by your equity partners otherwise.

Contrast that with an associate doing 1900 hours at $300 per hour, but a fairly typical post billing write down of 6% on hours...or 120. Net collected 1780. All in salary and benefits is $200k, less the overhead allocation of $150k and you net $114k. But, there is great variability in associate productivity. Many will work 2,000 hours or more, but the pre-billing write-offs can amount to 15% for the first two years. Frankly, if you can collect 1600 solid hours off an associate in each of the first two years, you are not doing all that badly. And that alas means that you are about at zero net contribution. Maybe.

Additional partner time is spent reviewing work product, much of which is not billed to the client. Associates in the first three to four years have little ability to carry administrative and other burdens, at least not to the extent of the service partners. And certainly they have no real expertise in the first few years. And there is the element that large numbers of them are going to leave to pursue other directions than big law, after a couple of hundred thousand dollars of sunk costs in recruitment, summer programs etc. per person, whereas the income/service partner has become a long term participant on the team.

There are other elements that merit consideration. The income partner position is also one that allows the firm to flex with people of talent that have issues in "life" that you want to accommodate. A disabled partner who can only work 1200 hours a year, or a partner that wants to dial down the demands while she raises three young kids, would be only two of dozens of examples of ways that the firm will "park" a valued talent that is not in a position to churn and burn like an equity partner must.

It is also an "incubator" position where young associates that the firm has picked out as the "best of the best" are made partner, or are lateraled in for a term to prove themselves. The ambition is to get them up to equity partner performance numbers, because by definition that is where the real economics happen. But obviously not all of them will make it. Not uncommonly there will be some in this class that are an "investment" and will be expected to generate more business, with a few less hours (say 1750 instead of 1950 but with a slug of development hours and activities in accord with a formal business plan).

And, partner culture notwithstanding, this is a class that is effectively "at will". There may be procedures and niceties, if you don't cut it you are out. There are no illusions about this. Whereas at the equity partner level, the protections and practices of the past make the process difficult and painful when they have to be implemented. But there is some stability and comfort in that too.

There is much more to it than just this, but I respectfully suggest that this income or service partner quadrant of the firm is not a wasteland of inattention and losers in a major firm. Yes, there are some that need to be looked after and in some cases counseled out. But the fact is, most of them are PROFITABLE and contributing in myriad ways that associates cannot and do not.   And that is but one reason why as the firm looks inward to decide where and how to cut....that it will not fall on the income partner ranks as heavily as you may suggest it should.

In a nutshell, I think many of these are valid points, especially the initial ones about billable rates and realization ratios being strongly superior to those of junior associates. 

But partly, I submit, this is simply a result of every junior person being at a natural and understandable disadvantage in terms of clients' willingness to pay.  Once associates reach their middle, and certainly their senior, years, their rates and realization rise to very comfortably profitable levels.  It's hard to imagine a world where lawyers vault magically from 3L grads to 4th or 5th years with nothing in-between.  Until we can invent a time machine that warp-bypasses those years, I'm not sure how having a larger cohort of non-equity partners helps alleviate the inevitable waiting-and-training game.  How did those non-equities get where they are, after all?

So it strikes me that those points may be less cause to celebrate non-equities than cause to be grateful that junior associates finally do acquire experience and talent, as costly as it may be to watch them do it.

The point about non-equities being able to assume "administrative and partner duties" including recruiting and mentoring is one I violently disagree with.  Indeed, part of the dysfunction I perceive in firms with large non-equity tiers is precisely that they act as a buffer and "sound insulation" between the partners and the associates.  This is neither healthy for associate development nor for partners' getting to really know the rising young talent pool--not to mention associates' prospects for partnership when that day finally comes.

This would also be the occasion for me to mention--as I did not in the original article--that a common complaint about non-equities is that they hoard work, depriving associates of essential training, implicitly overbilling clients for unnecessary seniority, and gumming up the discipline of proper staffing ratios.  To observe that this is an especially severe problem in this environment would be stating the gruesomely obvious.

Likewise, the points about "life" issues frankly echo one theme I tried to address, perhaps inarticulately, in my initial column on this topic.  

Let me hasten to confess that one reason I may not have been pellucidly clear about this issue is its potential for being viewed as politically incorrect, but here I'll say it: 

I do not believe that a law firm can be simultaneously a "lifestyle" or "work-life balance" firm and an uncompromising, bet-the-ranch, "go to" firm for only the highest-value and most prestigious work.

There, I've said it.  You have a choice, and both choices are eminently defensible and rational.  But I believe you must choose.

Next comes an observer who takes issue with The American Lawyer's definition of "non-equity partner," and who therefore concludes that my entire ratio calculation is askew and fundamentally uninformative. 

While I don't doubt that he has done has research assiduously, as noted in my original piece, I took the "TAL" data at face value as having at least the virtue of a consistent metric.

One failing of using the NEP to Partner ratio is that a number of the firms with low or zero ratios just use a different title--counsel, senior attorney whatever--to hide the economic equivalents of NEPs.  As you point out in the productivity chart, counsel are even less productive than NEPs--meaningfully so in the "more profitable" firms. 

Using Skadden as the first example--mostly because I know their web address off hand--they have 236 partners and 96 counsel (not counting "of counsel" or European, regional or pro bono counsel, but including "special counsel") for a ratio of 0.406.  This takes Skadden way, way out of your circle of cultural stalwarts, which is a much more select group than the NEP:P ratio implies. 

What follows is my quick counting of website listings [and he proceeds to conduct a similar analysis across another dozen or so firms]

[...]

Anyway, very interesting post.  Thank you.

I shall re-direct his critique to Aric Press.

Next, we have a very thoughtful, even soulful, response, gracefully outlining the pressures  generated when a high-performance culture collides with the life of a mere human (highlights mine).

I would agree with you that some of those non-equity partners, senior counsel, etc. are drags on the system.  But it is profoundly difficult to make that out from just the "hours" figure.  The very deal in becoming a senior counsel is that you have something the firm wants to keep, but you aren't willing to accept as remuneration the currency that they are willing to give you for it -- equity partnership. 

As you noted, it is obvious these days that the life of an equity partner is no better than that of an associate - you just get paid more.  Eventually.  After you have paid off your buy in.  In my firm, new partners made considerably less than 8th or 9th year associates, yet had rainmaking responsibilities, etc.  Lousy deal, and increasingly, talented people noticed.  Indeed, because of all the additional time doing client development, etc. etc., the equity partners who really WORK, carrying the load for those old guys who don't, have a terrible deal these days.  You'll make a nice corpse in your expensive coffin.

So what do the talented people do?  The ones who would be offered partnership, but frankly aren't sure that they want it?  Believe it or not, those people do exist.  A lot of them are women.  And at least for a few key, biologically-driven years, they want and need to dial back on the soul-killing hours.  And if one is HONEST, billing 2500 hours is soul-killing because you worked so many more hours than that.

I was offered, and did not take, a non-equity position.  I would have been on reduced hours (work 40 rather than bill more than 40 was the deal), I could be paid on a 1/3 eat what you kill. 

I was a talented antitrust litigator capable of running cases and capable of very complex analysis.  The clients liked me.  There was a core cadre of women with this deal at my firm who were routinely offered equity partner status every few years.  Typically nobody took equity status because the extra money wasn't worth the price.  This is because we were in control of our own hours (because successful participants under this system have their own clients who are loyal and trust their work), our conversion rates billed/collected were spectacular, and we represented niche practices that were not easily replaced.  Why do you think that the firm was willing to make these deals with us in the first place? 

So yes: in a world where only the raw number of hours billed matters, these people are less profitable for the firm.  But if our conversion rate is extremely high, we're critical to the relationship with some long-term clients, your "diversity" numbers plummet and there is no one to mentor new female talent coming up, and we're a straight 1/3 pay with risk borne by the non-equity, I would argue that these people are one of the very best deals in law firms.  Indeed, the fact that the firm was willing to think outside the box to keep some of these folks tells you that there is profit there.

The bottom line of my little screed is that the raw hours worked numbers don't tell the story of a person's value to the firm.  A senior counsel (other non-equity) has a deal whereby they work fewer hours for less pay.  If the deal doesn't work for both sides, the senior counsel gets canned.  In litigation, senior counsels are sometimes called non-equity partners so that one's card will say what the client wants to see.  But really: this is a strategy for holding onto talent that has decided that working even more hours than one worked as an associate is not worth the price.

Hard to argue with.  So I won't try. 

I told you it was soulful--and deeply appreciated by me.  Next:

Bruce,

A very interesting post.  One comment to consider regarding the relative value of income partners to associates.  At least [in my non-US country], most income partners feed themselves, in the sense that they have direct client contacts that send them enough work that keeps their plates full. 

It is not enough work to keep a pyramid of associates busy beneath them, hence they are not equity partners.  Clients prefer experienced lawyers to inexperienced lawyers because they get more value from them, despite higher hourly rates.  Clients hate paying for 1st year lawyers who contribute relatively little to a file when compared with their hourly rates. 

In my experience, until associates have 2-3 years experience under their belts, they are rarely more useful than a good quality paralegal, whose hourly rates are much lower.  [Here's the same point our second commenter made, so you can mentally reprise the same reaction I had then.--Bruce]  We need junior associates only because we need a future stream of partners.  As you point out, not a very high percentage of those we bring in make it to even income partnership, let alone equity partnership. 

If you agree with Richard Susskind, as I do, that law has much work to do on refining legal work process, then there will be even less work for associates to do in the future, as, organized properly, more work can be done by paralegals, or outsourced to contract lawyers or lawyers in lower cost centers.  Yes, we will continue to need the future partners, but does it make economic sense to pay crazy wages when only one in ten or twenty will make partner. 

The cost of associates is not only in their wages, but also in the time, effort and money to recruit them, and then train them when they come on board.  The best case scenario is that when they leave, they go in-house to a client, and if you have treated them well and have a good alumni program, they may become your client. 

In the worst case scenario, you have to pay to off ramp them.  For a very large percentage, I doubt that their cost is ever re-covered by the firm.  That is why firms hold onto those with experience who can feed themselves, and give good advice to clients.  If they work fewer hours, they are compensated less.  The key is that they are generally good lawyers who are valued by clients.  I'll admit that if they can't feed themselves, then you have to ask, do you keep them on board for what they are paid relative to what associates are paid, who don't bring in any work.  When you add up the real cost of a 1-3 year associate in New York vs. an income partner who completely or largely feeds him or herself, then the economics becomes very different.

Thoughtful and, if I had to bet, penned by someone with a fair degree of exposure to economics in their background.

Next, we have an opinion about how non-equity partners' willingness to work for (relatively) less could threaten the position of equity partners in the longer run:

Your rant [Was it a rant?!?--I thought it was pretty reasonable.  Bruce] about Non-Equity partners could be dead on if you are an equity partner worrying about how to protect your $2 million draw. However, the prevalence of non-equity partners is indicative of another unpleasant reality.

There are many many lawyers who are perfectly competent to do the work and are happy or willing to do so for less money. As we all know, not everyone is a rainmaker. Most of the horned rim types engaged in the securitization mill are technical geniuses but clumsy back slappers. One way or another the redeployment of these people in the legal market place is going to put pressure on big firm economics. Particularly in world with bankers capped at $500,000.

Keep up the great blogging.
(former Big Firm equity partner happy to have left the law)

And finally, this piece from a BigLaw partner who's a regular reader (highlights, again, mine):

        Your last piece, the Great De-Leveraging Article -- is really one of your recent best analyses on the current law firm model.  Well done. 

        As you will recall, you and I corresponded a little over a year ago, when I said that I believed there was a "bubble" in law firm "stock prices" in the form of profits per partner.  The then-existing model could not continue to sustain its growth in profits per partner at the historic rate.  All the available revenue levers -- leverage, rates, utilization -- had all been taken close to their logical maximum points.  Moreover, the drive to continue increasing those profits was leading to poor business practices that would bite firms when they could no longer be increased.  For example, the increased reliance on leverage, in large part through parking associates in the income partner spot, would not be sustainable over the long term and leads to an underinvestment in new talent.  Similarly, the constant increase in rates, particularly for junior associates, was starting to alienate clients.

        As we now are starting to see, the bubble for law firms is popping.  They cannot maintain the profits per partner at the historic rates.  In an effort to prevent a free-fall in partner profits, law firms are now "de-leveraging."  And many firms who could not (or are currently not) doing this fast enough, are starting to fall apart (e.g. Heller, Thelen, etc.) because the collapse of the PPP sends the rain makers to other firms, leaving the firm to collapse of its own weight.

        I think you are right that this is the time that firms need to start afresh -- Andy Grove style -- to figure out their strategy.  But, I believe that the firm leadership in only a few firms actually understand the dramatic nature of the strategic decisions they should be contemplating.  Most firms will consider whether to downsize, and if so in which practice areas.  They'll take some actions, and those in the top quartile may even align those actions so that the resulting firm structure is aligned to those practice areas where the firm sees opportunity in the future.  But, I think the choice is much more fundamental, and most firms do not yet see it (or do not want to see it).  I think firms need to think through fundamentally what their competitive advantages are, what markets they are targeting, and as a result, they need to decide what their firm business model is going to look like. 

        A couple examples may suffice:  Some of the highly profitable, NY firms (who are listed in your article as having few, or no income partners), generally tend to generate work through the big deals and the big litigations.  Those deals are large enough that the clients become price insensitive, and they can be staffed with large teams of lawyers paying attention to every legal detail.  For those firms, the model of high fees and lots of leverage continues to work.  While they may also be able to get premium pricing structures, they don't typically have to take any risk to get those premiums.  Those firms can continue to use the "Cravath" model, where they churn through the best and brightest of law school graduates, and are left with the brightest (and most "durable") lawyers who become partners.  That model will probably continue to produce $2-$4 million PPP. And while the growth in those profits may be difficult, given the amount of those profits, the model will likely still be successful.

           A second model probably applies to many mid-tier firms  (AmLaw 20-60).  These firms will need to adopt what I would call the "production" model.  Their target markets tend to be Fortune 1000 clients.  In litigation, they may not get the "bet the company" cases, but they will get significant cases within the firm's areas of specialty.  In deal work, they may become specialists in certain types of deals (the equivalent of what securitizations work provided for much of the last 7 years).  In both categories, clients are increasingly fee sensitive.  And in both categories, the work, while not "commoditized" is certainly of a type where sophisticated firms could bid on the work on a fixed rate basis.  Those firms who can figure out how to do this -- and this requires an incredible control over internal information within the firm to ensure that projects are properly bid and managed -- will have a chance of keeping up with the NY firms in terms of profits (though I doubt they will maintain the same high level).   This "production" model requires an ingrained systematization of process controls, teams of lawyers who are deep experts, and leaders who are risk takers (for bidding purposes) and project managers (for execution purposes).  It may still be a leveraged model, but the leverage probably will not look the same as in current firms. There may still be a place for income partners, but those partners skills are now to bring deep expertise and extensive project management skills.  Think of this firm like large construction firms.  The principals take significant risk, have the potential for significant reward, but only if the team executes flawlessly.

        A third model is what I consider the "boutique" model.  These firms have very talented senior lawyers in practices that are often difficult to leverage (think of Regulatory work, Appellate practices, perhaps some IP litigation, Tax advisory work, etc.).  These firms will likely have difficulty maintaining significant leverage.  A 1:2 partner-associate leverage may be the most that can be maintained (if that).  To the extent these firms can command premium rates, they may support significant profits per partner, but probably never at the level of the large NY firms.  The question will be whether these firms can offer a culture that compensates partners in a non-financial manner that makes up for the lost profits they might earn at larger firms.  One could imagine a fairly idyllic life -- less pressure to generate business, more time engaging in the practice of law. 

        As you note in your article, most firms currently don't really know "who" they are or what their strategy is.  Strategies have focused on either "bigger, more revenue," or "focused, more profits," but I don't sense that most firms have really considered what makes the firms a cohesive entity, how the firm differentiates itself, what innovative services it might provide, or how the firm can leverage its strategic assets.  The result is behemoth firms that keep getting bigger, with shrinking equity partnership ranks in order to keep the PPP at acceptable levels, and layers of "associates," "income partners," "counsel" and "others" who largely become cogs in an indiscriminate entity.  Loyalty to those firms is at an all-time low, because all the firms basically look the same, so partners defect when they see a chance to increase income.  Clients have a hard time telling firms apart, so success in client marketing focuses mostly on the personal relationship because there are very few other differentiating factors (to be sure, personal relationships will always be important). 

        Most firms are following the crowd like lemmings, breathing a sigh of relief that now, given Latham's large layoffs, it is now "ok" to really cut into lawyer staffing levels.  When the markets return, the pecking order for law firms will probably stay the same, though mid-tier firms may be at even a greater competitive disadvantage, having lost even more of their rain-makers to higher-tier firms.  A few smart mid-tier firms might realize that downturns are opportunities.  In good times, it can be hard to rock the boat; In downturns, there is a burning platform where partners can be galvanized to take action, if a good roadmap is provided.  Firms with strong leaders will take the opportunity to "right-size" and "right-structure" their firms.  They'll adopt new business practices, invest in training on those skills critical to the firm's differentiated success (e.g., project management, or substantive expertise) (after all, their idle lawyers now have more time to attend these trainings), institute systems to track costs on the types of matters they want to focus on in the future, they will start partnering with clients now (when clients may be eager to take risks to reduce costs, and law firms may have excess capacity in their system) to find ways to take risks together to find a better long-term model. 

           The bubble has popped.  The market is in a downturn, and businesses are being reinvented.  Some law firms will keep doing the same old thing (and for some, like the NY firms, that's probably a good model).  A few well-managed firms will use this time to determine "who" they are, and how they want to compete; assess what sort of PPP they really need and want, develop a strategy that builds on their strengths to differentiate themselves from other firms, and develops a structure and set of expertise to execute that strategy. 

        But then again, for most firms, they'll just hunker down, cut costs, and hope their relative standing somehow improves when the market returns.  Good luck to them.

A fascinating roundup of responses--and all, Dear Readers, thanks to you.  As they used to say somewhere in the lost mists of collective media memory, "keep those cards and letters coming."

What, finally, then, do I think about the remarkable growth over the last decade of the non-equity tier, and of the advisability of same?

As Tolstoy famously wrote in the opening of Anna Karenina, "Happy families are all alike; every unhappy family is unhappy in its own way."  I would paraphrase, or mangle, that to observe that "single tier firms are all alike; every two-tier firm is two-tier in its own way."

By that I mean there is no template, no equivalent of the Cravath Model, for what being "two-tier" means.  We as an industry continue to experiment on this front (as we are experimenting, abruptly and unwillingly, on many other fronts, of a sudden in this environment).

But I continue to believe that the burden of proof is on those who would argue for the expansion and not the contraction of the non-equity tier.  Economic reasons, as I noted in my original piece, are the least of it--which, ironically, is at odds with the gravamen of most of my interlocutors above who argued for the non-equity tier on economic grounds.

The core of the debate, in my mind, is all about culture.  Many are the reasons to have a substantial  non-equity tier, and many are the reasons, as I have argued, to strictly limit it.  But do not, under any circumstances, pretend that you are not making a decision with vast cultural implications.

The Great De-Leveraging

Just as I was thinking it was about time to publish a column on the topic of "leverage" at law firms (roughly speaking, the associate to partner ratio, although there's more than one way to calculate something that people will call "leverage"), here comes a slew of pieces on the topic, including:

• Prof. Larry Ribstein on "the over-leveraging and over-regulation of the legal profession:"
  

  In the longer run, we now see very clearly that running law firms as thinly capitalized worker cooperatives is not an equilibrium solution in this market.

  The answer, as I've said many times before, is dropping regulatory restrictions on law firm structure and letting them be run like real businesses. This particularly includes permitting non-lawyer capitalization and perhaps even public ownership, as well as enabling firms to hold onto their intellectual property through non-competition agreements.

• A piece in, of all places, The Atlantic's blog called "There's leverage everywhere!" with this pregnant introduction to our system:
  

  But let's work the argument a little further. It surely is true that unlike their current incarnations, the old Wall Street partnerships did not destroy the world with excessive leverage. But in the pre-credit-boom era, no one else was incurring much leverage either. It might be worth considering whether there are entities that are structurally similar to the old Wall Street firms (i.e., partnerships in which a substantial portion of the partners' net worth was tied up in their employer, and could not easily be removed from same) and see whether they have taken on significant leverage in the modern age of easy credit.

  As it turns out, there are such entities. We call them "big law firms." And their example is instructive.

  and
  
  
• More than one of these new pieces has referenced something that ours truly wrote about "Leverage:  Friend or Foe? (Or Noncombatant?)" back in December 2005, where I said:
  
  Common sense would tell you that in a labor-intensive service industry, where revenue is driven primarily by sheer tonnage of hours worked, the higher the ratio of associates (and non-equity partners) to (full equity) partners, the higher the revenues and thus the profits per partner. Right? It turns out this is one of those cases where it's not as simple as it seems.
  
  [...]  Then there's the evil twin of high leverage: Low utilization. It doesn't help that your leverage ratio is through the roof if nobody's busy; indeed, welcome to the worst of both worlds.

What has changed?

For starters, the whole world is now aware of the perils of leverage.  Let me throw a few charts into the discussion for starters.  By and large, I would like to believe, they speak for themselves.

Finally, here's one that leaves you wondering whether to laugh or cry—and it's seriously out of date at this point.

It's a chart showing the large global banks' market capitalization as of the 2nd quarter of 2007 (large blue-grey circles) and then as of October 20, 2008 (small green circles). 

In order, left to right and top row to bottom, they are:  Morgan Stanley, RBS, Deutsche Bank, Credit Agricole, Societe Generale, Barclays, Unicredit, UBS, Credit Suisse, Goldman Sachs, BNP Paribas, Santander, Citigroup, JP Morgan, and HSBC:

Update (8 March 2009):  A very helpful reader, who chooses anonymity, pointed out within hours of my publishing this that the chart above is seriously misleading.  Why?  Because the circles, being two-dimensional, invite us to visually compare their areas rather than their diameters—and the latter is what the chart-drawer actually chose to represent. 

Take Citigroup:  Its market cap went from $255B to $82B in the period in question.  Now that you look at it closely, you can see that's how the chart was drawn.  But were the circles drawn to scale appropriately in terms of their area, it's clear that it would take only 3.11 of the small green circles to fill the large blue circle (since 255/82 = 3.11).  Your eyes tell you in a flash that the green circle as drawn is far too small, in fact.  (Full explanation here.)

While I apologize for this mental and visual hiccup, all I can offer in defense is that I'm not the only one:

Pretty scary, eh?  It's a chart showing the deterioration of major bank market caps since 2007.  Prepared by someone at JP Morgan based on data from Bloomberg, this chart flashed across Wall Street and the financial world a few days ago, filling thousands of e-mail in boxes.  Putting a face on the current banking crisis it really brought home to many people on Wall Street the critical position the financial industry finds itself in.

Too bad the chart is wrong.

[...] So it's a typo: no big deal, right?  Yeah, but what a typo!  It got past Bloomberg and JP Morgan and pretty much all of Wall Street before someone said, "Hey, this makes no sense!"

Here's a proper chart.  While the players are somewhat different, that's more than made up for by the fact that it's far more current:  Comparing the market cap as of March 30, 2007, with the market cap as of February 20, 2009—barely two weeks ago:

Still not great performance, to be sure, but if there are degrees of horrendous-ness, this is at least less so.  Plus truthfully representative.

Thank you, Dear Reader.  Thus concludes the update.

While there are many reasons for these breathtaking declines, surely a proximate cause was the sky-high assets to equity ratios of many of these institutions.  20 to 1, 35 to 1, and even 50 to 1 were not unheard of in the palmy days.  Suffice to say that business model is, as I heard someone remark recently here in New York, "so last August."

So other parts of the economy (shockingly large parts!) may have gone crazy.  What does this have to do with us, necessarily?

If there are analogies to be drawn across professional service sectors, leverage is out for the investment banks and leverage is out for us as well.  For the I-banks, as noted, it was (in retrospect and even, to some more astute observers at the time) outrageous ratios of assets to equity, and for us it may be the high ratio of lawyer leverage.

I said at the outset that there are different definitions of "leverage" in our world, and I want to take some time and spend a little bit of effort breaking them out, because I believe the subtle differences matter.

Courtesy of The American Lawyer, here are the top 25 most leveraged firms from the AmLaw 100 and the bottom 25 least leveraged firms.

Top:

And bottom:

These figures are calculated by dividing the total number of lawyers at the firm (full time equivalent) by the number of equity partners.  For example, using firm #100 here, Faegre & Benson has 424 total lawyers and 255 equity partners, so 424/255 = 1.89.

Again, we can debate whether this is the ideal measure of leverage or not; my own preference is to divide all lawyers who are not equity partners by equity partners, but the results would be directionally similar. (Using Faegre & Benson as an example, again, the number of "lawyers who are not equity partners" would be 424-255 = 169, and dividing that by the number of equity partners yields 169/255 = 0.66.)

Why does leverage matter? For starters, as I noted in my 2005 column I quoted at the outset, leverage is your best friend in good times and your worst enemy in bad times. While we've heard the drumbeat of client complaints about paying for useless junior associates for years, this is suddenly the kind of environment where it will grow sharp teeth and bite hard. Either: (a) massive litigations will not be pursued because they're too complicated, uncertain, protracted, and expensive; and/or (b) if they must be pursued, contract attorneys, staff attorneys, and outsourcers will provide the human throw-weight needed for massive document review; and/or (c) corporations will simply insist that document review be completed for flat fees of $X/unit [$1.00/page? $0.50/page?]. In any event, no one I talk to--absolutely no one--believes that the litigation "factory" model with one partner overseeing half a dozen or more associates who are billing 'til the cows come home will be a predominant source of revenue going forward.

All well and good, but I think a more interesting calculation compares the ratio of non-equity partners to equity partners.  The charts and calculations that follow are premised on The American Lawyer's conventions, which denote someone an equity partner if they receive a K-1 and a non-equity partner if more than half of their income is guaranteed.  This is not the place to debate that methodology; the point for present purposes is that all firms are hewing to the same metric. While the raw data is courtesy of The American Lawyer, the calculations and the sorting are my own.

Here are the firms where the non-equity to equity partner ratio is greater than 1.00:

And here are the firms where that ratio is less than 0.25:

Note that I've drawn lines segregating the 11 firms with a non-equity to equity ratio between 0.00 and 0.25, simply because—depending on what may be special circumstances unique to each firm—arguments could probably be made that they don't "really" have non-equity partners as they see it; they just have to report this way based on The American Lawyer definitions.   Also note that I alphabetized the listing, by firm name, of all those reporting 0.00 ratios.

Why does this matter?  Aren't all the firms reporting layoffs reporting exclusively layoffs of associates and staff, not partners.

Yes, but those reports reflect actions taken to date, and I want to essay a little vision into what we may be seeing in the future, and to set the stage I think the two charts above are most informative.

First, why have no firms announced partner layoffs?  Isn't this the worst kind of cronyism, safeguarding one's peers, taking it all out on the "little people," and demonstrating lousy business judgment to boot, when the cost savings realized by offing (say) 10 associates could probably be realized by tossing a single partner overboard.  (Such, to paraphrase, is how it has recently been expressed to me, in tones ranging from outrage to derision to glum resignation.)

The issue, as so often is the case, is more complex than that.

Simply put, it takes time to get rid of partners.  They are not employees at will, as associates and staff.  They must be cajoled, "spoken to," almost certainly offered incentives to walk gently towards the door.  Note, importantly, that this is almost universally true of non-equity as well as equity partners.  (Off the top of my head, essentially every partnership agreement I've seen that addresses the issue at all treats non-equity and equity partners alike on the topic of termination—that is to say, it's hard to accomplish without cause.)

And there's more.  More and more non-equity partners, that is.  This chart shows the percentage of all lawyers at AmLaw firms who are not equity partners, from 2000 through 2006.  The big red bars are of course associates, ranging from 82% of the total in 2000 to 75% in 2006.  The light grey slices are "income" partners, growing from 9% to 13%, and the darker grey slice at the very top, growing from 9% to 12%, are "other non-equity lawyer" (don't ask me about the terminology; I'm just the reporter here). The chart is courtesy of last year's Citibank/Hildebrandt Client Advisory.

Now—bear with me—one more data point. 

Here's the "productivity," measured by annual hours billed, of (a) equity partners; (b) income partners; (c) associates; and (d) other non-equity lawyers, at "higher profit" and at "lower profit" firms:

What it shows with conspicuous graphic clarity is that income partners and other non-equity lawyers are systematically the least productive lawyers in these firms.  Associates work the hardest, but equity partners work almost as hard.  (At higher profit firms, the associates record a negligible 2.5% more hours than equity partners.)

From both a human and an economic perspective, this is all perfectly logical. Non-equity lawyers don't have to beat their brains out.  So they don't.  Their deal—again, a perfectly rational one, to them—is that, premised on good behavior, they have a job essentially for life at, say, $350,000 to $450,000/year, adjusted for inflation.  If you think that's not an attractive deal, I suggest you immediately take the elevator down to the street and ask the first ten people you encounter if they'd like such a job.

What else do we know about non-equity lawyers?

They are the most expensive form of leverage.  They make more than associates, to state the obvious, and have also "maxed out" on any variable benefits one needs a certain period of tenure to earn, such as 401(k) matches, etc.

This, frankly, is the least of it. The real issue is cultural.

Go back and take a look at the firms with non-equity to equity partner ratios < 0.25. Better yet, focus on those where the non-equity tier is either nonexistent (0.00) or de minimis and probably only an artifact of The American Lawyer's reporting system.

What do they have in common?

Indeed: An unusually high combination of cultural cohesion and readily articulable strategy. Just a sampling proves the point:

• Cleary, Cravath, Davis Polk, Debevoise, Paul Weiss, Simpson Thacher, Skadden, Sullivan & Cromwell, Wachtell.

Like them or not, you can say of each of those firms that they stand for something, and that achieving partnership there is dependent on several dimensions beyond that of being a mighty rainmaker.

Vs. those with the non-equity to equity ratio > 1.00: Without (re-)naming names, it must be said of that group that their strategies are extremely diverse and, in some cases, as yet unproven. Additionally, many of the firms in that group have high proportions of relatively new lateral partners.

But back to culture. I submit that firms with high proportions of non-equity partners have changed their culture. They may not have intended to, they may not have foreseen it, but change it they have.

Thirty or twenty years ago and even pretty much today, at least in New York-based firms, the reality is truly up or out. This attracts a certain cohort of hard core Type A people who (as I felt at that time) have never been anywhere other than at the top of their classes and who don't intend to be anywhere else now. As a managing partner said to me last week, "We've all heard the statistics that only one in 25--or whatever--starting associates at Cravath will make partner. But you know what? All the Cravath on-campus interviews are hugely oversubscribed! Everybody thinks they're going to be the one in the 25."

He has a point.

So how does the introduction, and more importantly the perpetuation, of a material cohort of non-equity partners change the culture of a firm?

Let me editorialize about a few consequences:

• The culture shifts from "excellence or else" to "good enough."
  • I don't think that "good enough" is sustainable in this environment.
    
    
• In the palmy days of 2001--2007, having a flexibly extensible non-equity tier served as a crutch for firms that wanted to avoid making difficult decisions about people or having awkward conversations with them.
  • I don't think that those difficult decisions and awkward conversations can be postponed in this environment.
    
    
• One of the reasons we're seeing widespread associate layoffs--apart from the pure economic imperative to cut costs in order to match revenues to capacity--has to do with morale. It's dreadful to morale to walk the halls seeing a bunch of your colleagues with too little to do, who are then guiltily sneaking out at 5:30.
  • The non-equity tier, with nothing to aspire to and perhaps (psychological speculation on my part, which I am shockingly unqualified to offer) feeling themselves ever so slightly "damaged goods" only exacerbate this.
  • None of us, none of our firms, have room for morale-busting zombies in this environment.
    
    
• The ranks of the non-equities grew not by design but by happenstance and, frankly, inattentiveness. While it may be true, as Oliver Wendell Holmes famously remarked, that "the life of the law has not been logic, it has been experience," it's time to apply some analytic logic, some serious and rigorous strategic evaluation, to the weed on steroids that has been the growth of the non-equity tier in too many firms over the past palmy period.
  • And no, we cannot afford to do otherwise in this environment.

We read, finally, that firms are drastically cutting back their summer programs and dialing back first-year offers, postponing start dates, offering semi-paid sabbaticals, and so forth. All well and good and relatively innovative examples of rising to this dismal occasion.

The pipeline of new talent must be kept as full as anticipated demand warrants. Law firms live and die on their talent, and they cannot short-change their investment in it based on next quarter's or next year's depressing projections, although they can certainly try to size it to better approximate the new reality.

But the talent that may not be carrying its weight, that needs profound re-examination, is that of the non-equity tier.

If you were starting your law firm today, would it look as it does in terms of non-equity partners?

Better yet, or more realistically yet, perform Andy Grove's famous thought (and reality) experiment when Intel was a low-end maker of commodity DRAM chips, having their lunch eaten in the late 1970's by the voracious and talented Japanese, threatening Intel's very existence.

I paraphrase: Grove said to his top management team, "If we don't turn things around in a very serious way, the Board will fire us. So why don't we 'fire' ourselves. Let's march out of this conference room and march back in assuming we're the new team the Board has hired. What would we do then?"

They performed the exercise, decided to abandon DRAM's and invest in microprocessors. The rest is history, and it's history residing under your desk or in your lap.

I'm suggesting you perform a "Grove Intervention" on your firm. And if you've read this far, you know where I think you might start.

The "Index Fund" of Law Firms?

The Latham news is of course all over the place: The WSJ Law Blog, Above The Law, The AmLaw Daily, LegalWeek, and etc.  The figures are, frankly, grim:

• 190 associates laid off, or about 12%;
• 250 paralegals and staff, or about 10%; but
• As of this writing, no partners (of whom there are 550).
• Finally, the start date for the class of 2009 is postponed to December, with an option to defer to October 2010, in which case the firm will pay those electing the year-long deferral $75,000 and encourage them to pursue volunteer work or community service.

One admirable and salutary part of the story is the severance policy associated with this:  Six months salary, capped at $100,000, as well as six months of health coverage.  As Bob Dell rightly says, this is "quite a bit above market."  Indeed, if you believe this table, it's double the approximate "going rate" of 3 months.  Classy.

So those are the facts.  What does it mean?

At the most prosaic level, it reflects the knock-on effects of the global economy hitting a brick wall.  (Actually, it hit the wall so hard that it bounced off backwards, as the just-revised 4Q2008 GDP numbers for the US showed, with a 6.2% contraction.)  When the economy experiences that, so do your clients, and then so does your firm.  It is as unfortunately predictable and seemingly inescapable as one billiard ball hitting another and then another.

This observation is simplistic only to the extent that it ignores how different firms will be hit in different ways—and how some, based on a delightful if sometimes random confluence of their practice mix, will dodge the gunfire altogether.  This is a period where "averages" will be particularly misleading. 

But that may be part of Latham's problem, in a suddenly-unfortunate way:  The simple fact that the firm is so global, and so diversified in its practice mix, makes it almost the law-land equivalent of an "index fund" representing the overall contraction in global legal spend.

Next, what absolutely positively must be said is how terribly sad and indeed frightening it will be for all those affected.  Now is not the time when you want to be abruptly looking for work.  "Adam Smith, Esq." is a tiny tiny enterprise, and for all of you who may be in this deeply unfortunate boat:  For the record, we're not hiring.  But for those of you reading this who might conceivably have an opportunity to offer, I urge you to act posthaste.  The people affected are not finding themselves on the street for "performance" issues, nor are they there through any fault of their own.  Throw what lifelines you may have.

Other observations from a management and strategic perspective:

• It is always and everywhere best to do these things in one big whack rather than through a thousand cuts, or—unforgivably—through "stealth" layoffs.  We can only fervently hope this one whack will be the last, but as we are learning on pretty much a daily basis, these days no one can make any promises.
  
  
• One must assume, although no details on this score have come out, that the review and cull are "strategically selective," as opposed to 10% across the board.  You will have noticed that all four of the Magic Circle firms who have announced "redundancies" have made a point of emphasizing that they were all in the context of re-sizing the firms to (we hope) better align with what they forecast to be market and client demand.  Again, while no one has a crystal ball, some things are clearer than others, and I would be shocked to hear that anyone in restructuring has been let go and equally shocked to hear that no one in securitization has been affected.  In other words, as nasty and "profoundly regret[table]" (Dell's words) as these decisions are, you can make them smartly or make them dumbly.  I have to imagine Latham is too well-managed to have done the latter.

Why were no partners affected?

I have a hunch, which Dell obliquely confirms when he remarks that "current and future client demand would likely require less leverage."

My theory—which I'll devote more ink to in future—is that, among many other things, we as an industry are going through our own "de-levering" period, and that on the other side of this interregnum firms will, by and large, have lower associate: partner ratios.   Many are the implications of that, presuming I'm right, but Latham seems to be acting as if they think it's accurate.

Finally, this morning's news out of Latham tells us something with all the emphatic insistence of a fire-truck air horn:  Firms are businesses.  I hope that by now that comes as news to no one.

Before firms can live to thrive again another day—which, trust me, they will—they first have to live. 

Call it what you will (carrying excess human capacity, being underutilized, supporting fallow and unproductive assets), it's simply not viable in a competitive marketplace to have a substantial proportion of the people on your payroll sitting around with too little to do.

That is also bad for morale, bad for professional development, unattractive to talented candidates you might want to recruit, and, finally, less than useless to clients.

At the moment, understandably and inevitably, we are all focused on the "destruction" inherent in Joseph Schumpeter's powerful insight about how capitalism repairs and reinvigorates itself.  It would be much more fun if we could focus on the "creative" dimension.  But not yet.  Not just yet.

Let's Just Pull the Covers Over Our Heads. Or NOT.

America has been through many crises and challenges before, far worse than what we're experiencing today. Need I mention (keeping it to economics and not including wars), the hardships and deprivations brought on by the Civil War, the long depression of 1873-1895, the Great Depression itself, the grinding stagflation of the 1970's. That we're facing a new challenge is not existentially threatening.

The problem is that many of us seem to feel it is, or at least that's the way the media is reporting it and, frankly, the way our political leaders seem to be responding to it--this is a crisis, they reiterate, and unless precipitate action is taken, disaster looms. Pass a three-quarter of a trillion dollar package this week, or else.

Robert Shiller, an economics professor at Yale, and co-author (with George Akerloff) of the just-released "Animal Spirits: How Human Psychology Drives the Economy and Why It Matters for Global Capitalism," has this to say in today's New York Times:

"People everywhere are talking about the Great Depression, which followed the October 1929 stock market crash and lasted until the United States entered World War II. It is a vivid story of year upon year of despair.

"This Depression narrative, however, is not merely a story about the past: It has started to inform our current expectations. [...]

"The attention paid to the Depression story may seem a logical consequence of our economic situation. But the retelling, in fact, is a cause of the current situation -- because the Great Depression serves as a model for our expectations, damping what John Maynard Keynes called our "animal spirits," reducing consumers' willingness to spend and businesses' willingness to hire and expand. The Depression narrative could easily end up as a self-fulfilling prophecy."

I recommend perspective. Perspective not that we deny the severity of this near-depression. To be sure, there are plenty of reasons to worry:

• It's global in nature;
  
  
• It has come upon us with shocking, whiplash-inducing speed;
  
  
• It seems inexorable, deserved, the Puritanical comeuppance for a decade or more of living extravagantly in "sand state" McMansions, furnished with super-large flat panel TV's and navigated by Hummers, consuming energy recklessly; and to the extent this narrative rings true we feel chastened, like children rightly sent back to our rooms after immature behavior, and the small voice in the back of our minds chants "we deserved this, and we brought it on ourselves, so we have no ground on which to resist or fight back;"
  
  
• It's striking at the heart of our 21st Century economy, the financial sector, as opposed to being a classic inventory hangover, consumer pullback, sustained oil price spike, or isolated tech bubble;
  
  
• Speaking parochially about our industry, we have been joined at the hip to the financial services sector for as long as the boom was going on, and even before that. The New York "white shoe" firms all made their reputations on core connections to bulge bracket investment banks, and to some extent those reputations lived on until the very recent past. I suspect they'll endure beyond this interregnum, in fact.

But let's get back to perspective.

I believe two characteristics will separate the strong from the weak firms coming out of this episode. They are: (a) cultural glue; and (b) the quality of leadership.

As for "cultural glue," you had it going into this episode or you didn't. If you didn't, I sincerely wish you the best of luck, and I hope you seize this opportunity to build some, ASAP. If you have it, on the other hand, now is the time to capitalize upon and reinforce that. Other than that, I don't have too much more to add about the strength of your culture. It takes years and years to build, as does trust, and (see: Spitzer, Eliot) can be destroyed in an instant.

This brings us to the quality of leadership.

I believe this will be the key differentiator in this period. We talk about "leadership" interminably, but we do so for a reason. It matters.

Jeffrey Sonnenfeld, President and CEO of the Chief Executive Leadership Institute at the Yale School of Management, was recently interviewed about what leadership entails in this environment, and here's what he had to say (emphasis supplied):

• "In times of genuine crisis, leaders do not have to use fear to alert people about the need to change from the status quo. When the place is on fire, it is counterproductive to frighten people. In battle, no one needs to be motivated.
  
  People want to know that their leaders are competent enough to see them through this crisis. They don't have to like you; they have to know that they can place their faith in you because you have thought it all through"
  
  
• Successful leadership in this era comes down to four critical points.
  
  The first is personal accessibility. We've seen CEOs in times of crises try to circle the wagons and stonewall the media and other stakeholders. That's not the way to go. It's critical to be out there.
  
  The second trait of an effective leader in crisis is empathy. Show some compassion for those hardest hit.
  
  A third quality has to do with authenticity and believability. [He proceeds to talk about how Wall Street executives performed, or didn't, on Capitol Hill recently, and excoriates those who dissembled and seemed to be unprepared.]
  
  The fourth great quality of leaders in crisis is that they don't let the stress of the present preclude the boldness, courageousness, and thoughtful prudent risk-taking that is still vital to success. These leaders understand that we still have to get out there and be in business. We're not running libraries and museums; we're running dynamic enterprises that can't be afraid to take calculated risks.
  
  It's really tough times that bring out the greatness in leadership. Disappointments, barriers, setbacks - they are all the punctuating moments that really define a heroic career. You don't know how good an executive is until times are tough. As such, this is the time when corporate leaders can really distinguish themselves and really punctuate successes as outstanding leaders.

Study after study, time after time, has shown that Americans are the most optimistic of all nations. It's time to invoke that.

There's no sin, hereabouts, in getting knocked down. The sin--and an unforgivable one--is in not getting back up.

It will soon be time to get back up. Wall Street may be dead for now, but it's Lazarus. It has reinvented itself every decade or so for as long as I've watched it. And our firms are the handmaidens to its serial reinventions. The notion of the "Wall Street law firm," or the international law firm with a Wall Street practice, should not yet be read its last rites.

Prepare to be optimistic. Prepare to be an American. Prepare to lead.

Layoffs: Substitutes & Complements

When non-lawyers ask what's happening in the world of law these days (i.e., what ATL is covering), our first response is usually one word: layoffs. It's been a dominant theme in our coverage since the fall.

—Above The Law (today)

While I might nominate that quote for Understatement Of The Season, I cite it for an entirely different purpose:  Are there any alternatives to layoffs?

Actually, I don't believe there are any "pure" alternatives to layoffs, at least not in the economic sense of "substitutes," for firms under serious financial stress.  But I'd like to suggest there are "complements" (economic sense) to layoffs. 

[Jargon digression:  In economics, "substitutes" are goods or services that people can trade off between without drastic disruption or deprivation, such as coffee and tea, bagels and muffins, or red and white wine.  As you can tell from these examples, there are rarely perfect substitutes—we all have our preferences—but if our favorite is unavailable or exorbitantly expensive, we will make do with the alternative and carry on.  "Complements," by contrast, are goods or services that tend to go together.  Think coffee and sugar, bagels and cream cheese, or red wine and bread.]

In the land of law firm layoffs, it's all too easy to understand why so many firms are resorting to them in this unprecedented environment. 

Forgive me if what follows strikes you as simplistic (good for you if it does!), but I find myself explaining this to people with a frequency that suggests it's not widely understood.  Consider hypothetical BigLaw firm in 2008 and 2009:

Obviously, these numbers are simplistic and you can quibble with the details and assumptions, but the message is powerful:  Law firm P&L's are highly leveraged. In the good times, this is your best friend:  Every additional dollar of revenue drops almost intact to the bottom line.  But in the bad times, this is your worst enemy.  A 1% drop in revenue can--all else equal--lead to a 3% drop in profits.

What, then, to do?  As the famous advice has it, "Follow the money."  The money, in this case, is associate and staff compensation.  Together they are to a law firm's expenses as Social Security and Medicare are to the federal government's budget:  Enormous.  If you need to cut a lot of expense at a law firm, you don't have many alternatives but to look there.  (I'm assuming all your office leases are long-term and not readily renegotiable, especially in this environment.)

The bad news, of course, is that cutting associates and staff used to be viewed as being as untouchable as trimming Social Security and Medicare would be. But not any more. If we've learned nothing else from the drumbeat of layoffs in the US and the UK, it is that there is no stigma attached to them today.

While we're at it, let's not limit the casualties to associates and staff. Everybody ought to share the pain, including equity and (if you have them) non-equity partners. It cannot be true that every single person in category X (say, partner) is irrebuttably indispensable while everyone in category Y (non-equity) is subject to scrutiny. Note to those keeping score at home: Cutting partner ranks will also distribute the diminished profits over a smaller pool, making the hit to your PPP less, percentage-wise, than the hit to your total P.

So if the base case for the inevitability of resorting to layoffs has been made, how can we do it more intelligently? How can we be more intelligent and less reactive, more scalpel and less meat-axe, more humane and less brutal?

Let's go back to "complements."

I suggest there are a variety of techniques you can employ, not as "substitutes" for layoffs, but to enhance their cost-saving impact and trigger other savings. Let me add that, with some degree of consternation, I don't see very many firms implementing these "complements." If this column has no other purpose, it's to change that myopic behavior.

• Reduced hours for reduced pay. Forgive me, but this strikes me as blisteringly obvious. We've heard bellyaching throughout the boom years about "work/life balance" and so forth, usually to imperceptible effect, but now we have an opportunity we can embrace with gusto. Of course, the reaction of associates invited to partake of this bonanza may suddenly be less than enthusiastic. "Be careful what you wish for?" Still, you should think about it.
  
  
• Sabbaticals. Whether paid, unpaid, or inbetween, consider granting (requiring?) people to take a period of time off. Don't permit them to do nothing, however; make sure the expectation is that they will do something related to broadening themselves, learning, professional or cultural or emotional or even artistic development. You might be surprised at the new imaginations they'll return with. And in the meantime you'll have economized while maintaining loyalty.
  
  
• Shared jobs. As with our first suggestion, this is one that was oft requested and rarely honored during the boom: "Impractical and unworkable." "Clients won't stand for it." "Shirking by another name." "How entitled do they think they are?" Permit me to suggest the world has changed. Think about this again.
  
  
• Salary freezes. Been there, done that, and how shocked are you that the reaction has been so placid? Which brings me to:
  
  
• Salary cuts. I don't know if you read it here first, but it matters not where you did. Economists famously and widely insist that wages are "sticky downwards," which is their awkward formulation of the highly common-sensical notion that people hate to see their pay (at the same employer) actually drop. But these are not ordinary times, and there are ample reasons to think that people would be surprisingly amenable to this revolutionary concept:
  • Today, a job--almost any job, much less a highly respectable one at BigLaw--beats no job. Enough said.
  • There's value in shared sacrifice. Taking a hit, collectively and communally, to preserve the firm's community, is not a hard stretch or leap of the imagination for people today.
  • Dollars go farther than they did 18 months ago. Have you noticed that housing has gotten cheaper? That cars can't be given away? That "70% off" is the minimum required to get people off the street and in the door? That everyone is suddenly very very negotiable on price?
    

I'm not suggesting my list is exhaustive; it's meant to be suggestive and (we can always hope) creative.

Now's the time to innovate. Given what a straight-line extrapolation of current reality would look like, somebody better.

Update:  23 February.  I received the following correspondence from a 1L at a top ten law school.

Greetings from Law Student Land.

What an intense time to be a 1L. Just thought I'd share a few thoughts and reflections, especially as they relate to your latest column.

First, never have any doubt about the attention paid to Above the Law at the student level. Personally I have serious misgivings about that site's position as the main conduit of information between associates and management. However, looking around my Crim class the other week on that famous thursday and watching everyone tick off the layoffs as they happened, I was struck again by the power of the instant press on firm recruiting and retention.

Secondly, and building on my first comment, note this story: ( http://abovethelaw.com/2009/02/nationwide_layoff_watch_mckee_1.php ) for an example of the sort of press that will make a difference in July, when my class at [*****] begins bidding for interview slots at firms. As I'm sure firms are aware, students aren't going to be able to exclude all of the firms that have made layoffs from our job search.

However, the process by which firms lay off their associates is a chance for us to "look under the hood" at the interaction between management and associates at different firms. I am certain that firms who conducted "stealth layoffs" or that swung the scythe heavily through the first-year ranks will be penalized come recruitment time. Which is not to even mention the debacle over at Pillsbury last week.

Lastly, I note with satisfaction your mention of work/life balances issues in your latest column as a way to trim firm expenses. Sadly, it seems that though firms have realized they will need to adapt to a changed business environment, they have so far acted with the lumbering (be-suited) herd mentality that so regularly characterizes their behavior.

Someone has told them that layoffs are ok, and so they are going to attempt to cut staff numbers until their profit margins return to normal. While wages are surely sticky, they are not stuck. I am lucky enough to have secured an associateship with a firm this summer. The firm I am headed to pays its associates below the "New York rate" but in a secondary city. I am told that associates work around 50 hours a week. This strikes me as a fair bargain, and one that many of my classmates would willingly make. It seems to me that even firms that are known as "sweatshops" could create a 75% work schedule in which pay is cut in relation to the chosen billable hour requirement. The idea of a sabbatical seems like an ingenious way to temporarily de-equitize partners until work picks back up.

All of which is just to say that I think your concept of where the general mood of the lowest rung of the ladder is these days is fairly accurate. Keep up the good work.

[After I asked my correspondent whether I could have permission to republish his thoughts:]

I have no problem with being anonymously quoted. I think this is clear from my comment, but just to be sure, the scheme I am advocating is less hours for less pay, as opposed to a straightforward pay cut. I don't think this would be too much of a problem, as I am under the impression that there aren't enough hours to go around at the moment. I'm also generally not in favor of having an across the board pay cut in exchange for a promise of no layoffs. Obviously, this would reward under-producers at the expense of the hardest working associates. I think generally we as students expect firms to approximate the level of attrition that they have in good times, and therefore be prepared for our class when we come aboard in 2011.

Thoughtful commentary indeed. 

Why would it not make sense for firms to offer a tradeoff between hours and pay or, perhaps more audaciously, a tradeoff between the investment made in professional development and training, and pay? 

What I'm suggesting in the latter thought experiment is simply this: If a firm is going to work you to death and skimp on training and professional development (they're non-billable), then shouldn't you expect to be paid handsomely for your pains? Conversely, if another firm is willing to devote significant resources in time and money to an intense training effort, shouldn't you rationally be willing to accept a lower salary, recognizing that you're investing for your future in a non-monetary way?

The remarkable thing is that it seems to work in other industries—witness the old joke about how the publishing industry is a wonderful place to get training "if your parents can afford to send you there."

"Animal Spirits," Anyone?

Robert Shiller, the Yale economics professor who has co-authored the forthcoming Animal Spirits: How Human Psychology Drives the Economy and Why it Matters for Global Capitalism, has an important op-ed in The Wall Street Journal.

Shiller's op-ed itself is an argument that the Obama Administration's proposed stimulus package isn't big enough, and while I'll preview that here as a minor exercise in public service (I personally won't vouchsafe a view on this, since I don't have one, believing it's still too soon to tell), this is really a column about "animal spirits:" Where the phrase came from, what they mean, and what you can do about them.

But first, Shiller's argument, condensed:

President Obama is urging Congress to pass an $825 billion stimulus package as soon as possible. But even that may not be enough to stabilize the economy, since it fails to take into account the downward spiral of animal spirits that is underway and may continue to worsen.

The term "animal spirits," popularized by John Maynard Keynes in his 1936 book "The General Theory of Employment, Interest and Money," is related to consumer or business confidence, but it means more than that. It refers also to the sense of trust we have in each other, our sense of fairness in economic dealings, and our sense of the extent of corruption and bad faith. When animal spirits are on ebb, consumers do not want to spend and businesses do not want to make capital expenditures or hire people.

...But lost in the economics textbooks, and all but lost in the thousands of pages of the technical economics literature, is this other message of Keynes regarding why the economy fluctuates as much as it does. Animal spirits offer an explanation for why we get into recessions in the first place -- for why the economy fluctuates as it does. It also gives some hints regarding what we need to do now to get out of the current crisis.

A critical aspect of animal spirits is trust, an emotional state that dismisses doubts about others. In talking about animal spirits, Keynes sought to convey the message that swings in confidence are not always logical. The business cycle is in good part driven by animal spirits. There are good times when people have substantial trust and associated feelings that contribute to an environment of confidence. They make decisions spontaneously. They believe instinctively that they will be successful, and they suspend their suspicions. As long as large groups of people remain trusting, people's somewhat rash, impulsive decision-making is not discovered.

Unfortunately, we have just passed through a period in which confidence was blind. It was not based on rational evidence. The trust in our mortgage and housing markets that drove real-estate prices to unsustainable heights is one of the most dramatic examples of unbridled animal spirits we have ever seen.

"Animal spirits" appears on pp. 161 et. seq of Keynes' seminal book (as noted above). It's important to step back a moment and put it in its original context (emphasis supplied):

"...a large proportion of our positive activities depend on spontaneous optimistm rather than on a mathematical expectation, whether moral or hedonistic or eonomic. Most, probably, of our decisions to do something positive, the full consequences of which will be drawn out over many days to come, can only be taken as a result of animal spirits--of a spontaneous urge to action rather than inaction, and not as the outcome of a weighted average of quantitative benefits multiplied by quantitative probabilities.

[...]

It is safe to say that enterprise which depends on hopes stretching into the future benefits the community as a whole. But individual initiative will only be adequate when reasonable calculation is supplemented and supported by animal spirits, so that the thought of ultimat eloss which often overtakes pioneers, as experience undoubtedly tells us and them, is put aside as a healthy man puts aside the expectation of death.

This means, unfortunately, not only that slumps and depressions are exaggerated in degree, but that economic prosperity is excessively dependent on a political and social atmosphere which is congenial to the average business man."

The economy, in other words, is not a system of hydraulic pipes and valves, governed robotically by the laws of financial thermodynamics. It depends on confidence, trust, reciprocity, and the expectation of future rewards and growth. In other words, to some extent it's an exercise in faith.

(Small digression: A few years ago I was asked to speak to an elementary school class about "money"--clearly the result of an over-exercised grade school teacher's brain--and I decided to do show and tell. I took out a $20 bill and a blank sheet of paper and threw them both on the floor to open the presentation. After the predictable flurry of excitement surrounding the $20 and the curious looks surrounding the blank paper [accusing me perhaps of littering], I asked the students to explain their reactions. This was all an exercise in reminding them that "cash" is worth what it's worth because we all believe in it, and for no other reason. Intrinsically, it's merely paper. And yes, I did get my $20 back; they were well-behaved kids and had push come to shove I was bigger than they were. But I would like to believe they learned a small lesson about the role of trust in the modern economy.)

Now, what does "animal spirits" mean for you?

Three things.

First, many of you, as I, are surely asking yourselves what went wrong? How could the economy have fallen off a cliff so fast? After all, housing was overvalued for years, subprime mortgages were being issued for years, securitization and structured finance had been on a tear for years, and easy money had been around since the dawn of Greenspan for years.

The answer is not that economic fundamentals changed overnight; it's that psychology changed overnight. It has a way of doing this, particularly at the end of bubbles. (You do remember, of course, when the dot-com bubble was at its peak and no business model was too stupid to get funding, and no law firm was too smart not to get into Northern California?)

Shiller (and Keynes) rightly talk about confidence and trust, and I have my own pedestrian analogy: In normal times, you buy a 24-bottle case of Poland Spring water and trust without questioning that it's OK, just as you'd buy a triple A bond with no doubts. But in today's environment, buying a triple A securitized asset (if they even exist any more) is like buying that case of water worried that while 23 bottles are surely fine, one might be rotten. The upshot is you don't buy the case.

When there's no trust, there are no transactions.

Second, the good news about "animal spirits" is that they can and will reverse. Seemingly on a dime. As they recently did around Q3 2008. And, as hard as it might be to imagine right around now, the day will dawn when M&A will be back--not financially engineered M&A, but strategically driven corporate M&A. At some point clients will start looking around and realizing that that company they always coveted is now really really cheap.

Third, look to your own firm, internally.

Who in your firm is rolling with this punch we've all taken? Who seems to be paralyzed?

Who, in other words, is prepared and eager to re-invent themselves? ("We're all restructuring lawyers now.") Who is a deer in the headlights?

Who are you counting on to constitute the core of the firm going forward? Who's on the periphery, perhaps a recent lateral or someone who's a summer soldier and a sunshine patriot?

These are the times to segregate those truly on board with your firm for the long run from those who may have come for a brief guarantee or a short expectation of self-interested gain.

You have, I devoutly hope, a vision for your firm going into the future and for how it will look on the other side of this brutal interregnum. This is the time to assemble, or reassemble, the team you want for that other side. I would ask you one key question about who's on which side.

Whose animal spirits are still in the ascendancy?

Critical Thinking II

I recently wrote about the dearth of critical thinking abroad in the land.

Now I'd like to bookend that piece with a classic from The Harvard Business Review, "Why Don't Managers Think Deeply?"

The opening lines are priceless; I would ask you only to put yourself in the shoes of fellow HBS faculty members and try--honestly--to envision your reaction:

A since deceased, highly-regarded fellow faculty member, Anthony (Tony) Athos, occasionally sat on a bench on a nice day at the Harvard Business School, apparently staring off into space. When asked what he was doing, ever the iconoclast, he would say, "Nothing." His colleagues, trained to admire and teach action, would walk away shaking their heads and asking each other, "Is he alright?" It is perhaps no coincidence that Tony often came up with some of the most profound insights at faculty meetings and informal gatherings.

Another touch-point for this question comes from an announcement out of GE early last year:

Jeffrey Immelt, GE's CEO, has received a lot of publicity recently for fostering "imagination breakthroughs" by encouraging managers to think deeply about innovations that will ensure GE's longer-term success. He has vowed that he will protect those working on the breakthroughs from the "budget slashers" focused on short-term success. Questions that this effort raises include: (1) Why so much publicity? (2) Isn't "deep thinking" what leaders are paid to do? and (3) Why do these kinds of effort require so much protection?

Are you beginning to get the same creepy feeling I am, that large organizations discourage deep or creative thinking?

Well, in that case, shall we just pile on? Here are some HBS professors' comments on the initial piece:

"... what rises to the top levels are very productive and very diligent individuals who tend not to ... reflect and are extremely efficient at deploying other people's ideas," implying that this type of leader is not likely to understand, encourage, or recognize deep thinking in others.

"... managers are not trained for it."

"Time-for-thinking is a special moment which can be resource consuming and an unsafe activity ..."

"There's a name for managers who think deeply--entrepreneurs ... Big companies are no place for big thinkers."

Providing time to reflect, particularly in an era of multi-tasking and the tyranny of technology, was most frequently suggested as an antidote to the dearth of deep thinking. As Chris Shannon put it, "I think creatively better out of the office, say while out in the boat or at a conference, so that looks very much like not working!"

Also, we have the uncomfortable reality that deep thinking can produce uncomfortable collisions with accepted reality:

In the book, Marketing Metaphoria*, Gerald and Lindsay Zaltman suggest some answers to the question [why managers don't think deeply]. In decrying the lack of what they call "deep thinking" among managers and especially those responsible for marketing, they suggest some things that get in its way. Among them are: (1) reluctance to take risk, especially when short-term performance is at stake, (2) the fear of disruption resulting from "thinking differently and deeply," (3) the potential psychological cost of changing one's mind resulting from deep thinking, and (4) the lack of information providing deep insights on which to base deep thinking.

*Gerald Zaltman and Lindsay H. Zaltman, Marketing Metaphoria: What Deep Metaphors Reveal About the Minds of Consumers (Boston: Harvard Business Press, 2008)

Are there "deep thinkers" within your firm? Would you count yourself one?

If there's a shortfall on this score, why do you think that's the case?:

• People are task-oriented rather than business oriented?
  
  
• Reactive rather than patrolling the perimeter?
  
  
• Excessively focused on the short term?
  
  
• Allergic to change, in whatever form, so reluctant to engage in any mental activity that might suggest a need for it?
  
  
• So successful that "if it ain't broke,..."?
  
  
• Invested in the existing hierarchy, erego unwilling to even think of doing anything that could upset the apple cart?
  
  
• Simply and innocently in the dark, so they don't even have the base-level wherewithal to take the first step in any meaningful direction?
  
  
• Flat broke out of time?
  
  
• Prisoners of human nature (at some level aren't we all?) who are invested in going along to get along?

What do you think stands in the way of your firm deploying its immense intellectual assets better to understand your own capabilities and try to move in a purposeful, conscientious, and disciplined way towards a brighter future in these times of surpassing challenges?

If You're So Smart, Why Aren't You Rich?

Actually, the formulation of that headline that I prefer these days is the famous inversion by the Nobel economist Paul Samuelson: "If you're so rich how come you're so dumb?"

And yes, that brings us promptly to the Bernard Madoff scandal.

Among the multitude of "we should have seen it coming" stories:

• the SEC was alerted to irregularities as early as 1994 [by putative competitors, to be sure, but where do you think "competitive intelligence" comes from?],
• the shockingly consistent monthly returns were suspicious on their face,
• Madoff in person was apparently something of a social misfit, whose primary technique for dealing with unwanted questions was to clam up and/or bluster,
• the investment strategy was a black box,
• and the auditing firm was a joke--a three-man firm operating out of a strip-mall office of about 125 square feet, whose principal and senior member was 80 years old and living in Florida.

Nevertheless, there have been surprisingly few first-person accounts of someone who encountered Madoff and said no.

But this week Barron's brings us one: "Living to Tell About Madoff," an interview with James Hedges (not, I assume, a stage name, although in the circumstances it ought to be), "president and founder of LJH Global Investments in Naples, Fla., who has invested billions in hedge funds and private equity since 1990 through relationships with numerous hedge funds."

Eleven years ago, Hedges spent two hours meeting with Madoff in his New York office planning to invest a few billion dollars of his clients' money. He walked out without a deal.

Here are some of the reasons why. If you read to the end, I promise I'll tell you why this is germane to what you do.

• "I was told it was unusual for him to meet with anyone for that length of time, and that he was perturbed with the process. His whole tone during the meeting was curt, truncated, and he volunteered nothing. It was an extraction process to get him to answer anything. He was distracted the whole time, looking at people out on the trading floor through the glass wall of his office. Mind you, I was coming in to potentially invest billions of dollars for prominent families and institutions, representing extraordinarily well-known clientele. I couldn't be more the type of person for whom you would open up the kimono. And what it told me was that it was a fraud, full-stop. It was wildly impressionable on me [I'm just the messenger--that's the word he used. Bruce]. I have said over the years to many people: Do not touch Madoff with a barge pole."
  
  
• "We have a due-diligence questionnaire that we use as a template for any investment. It's substantial, about 40 pages of factors we have to get comfortable with. It covers management's trading strategy, the back office, the pricing mechanism for the portfolio, how the manager is compensated, the checks and balances, and governance issues, and a whole host of other factors. We could barely get past page one with Madoff before alarm bells were going off. On the strategy itself, when I asked him to explain his investing strategy, it didn't line up. His strategy was like [defunct hedge fund] Long Term Capital Management, where you're saying you're going to sweep up pennies and nickels around the globe via arbitrage opportunities. His representation that he was going to get free money gains from the marketplace, without a principal risk, didn't make sense."
  
  
• "I literally remember waving my arms in the meeting and saying -- I'm going to guess -- there were, like, 50 to 75 guys trading [stuff] behind his glass wall, out on the trading floor.
  
  "So what do these guys do? I asked. Because when you're investing with anyone, you want to meet the chef, and the sous chef, see who's preparing the dish. That request was turned down.
  
  "We don't ever allow investors to meet our team, is what Madoff said. I said, Let's go into pricing. Who holds the securities?
  
  "He said, We hold the securities. There was no global custodian, no prime broker. That never happens in a real business.
  
  "I said that what we do is look at three to five years of audited financials on funds.
  
  "He said, We're not going to provide audits. I was there representing a billionaire family, and to be told I couldn't gain access to an absolutely correct and appropriate thing to ask for, was amazing to me.

And now, the "payoff question" from the interview. Hedges is asked how it was possible that "reputable" hedge fund consultants could have placed billions with Madoff? "What could Tremont and others have possibly been thinking?", the Barron's reporter asks (emphasis in what follows mine)

• "I was far from the only person to draw the conclusions that I drew about Madoff. Madoff was the fraud that happened in full view, with lots of complicit partners. This kind of thing requires complicit behavior. I believe the due diligence conducted by investors who were there was faulty, or possibly they were lied to, or it was not even done at all, perhaps put aside in deference to a relationship with a con man. Fairfield Greenwich allegedly derived some $300 million per year from their Madoff product -- that's the rumor. When someone is paying you or me or anybody that much per year to go to polo matches with high-net-worth investors and tell them about their portfolio, or on their boat in the south of France, it's hard to imagine [that] one's vision doesn't get skewed."

Here are the questions the Madoff saga should pose for you, managing your firm:

• What's going on that we're not asking enough questions about? Where are we following the herd because it's socially convenient, socially comfortable, and all of the "in crowd" is doing it (don't kid yourself that the "in crowd" phenomenon expires on high school graduation).
  
  
• Who are the 800# gorillas we're not scrutinizing as we should?
  
  
• Who is getting paid so much, or helping to get you paid so much, that "it's hard to imagine one's vision doesn't get skewed"?
  
  
• Is there a practice group that's throwing its weight around and trying to drive the firm's strategy? Are they getting away with it because they're the most profitable group going? Ask yourself how long that may last, and if you haven't read Clayton Christensen's The Innovator's Dilemma, about how companies at the top of their game can suffer fatal attacks from seemingly unworthy upstarts, it's high time you do. (Andy Grove said of it: "This book addresses a tough problem that most successful companies will face eventually. It's lucid, analytical-and scary.")

The real issue is this: How critical a thinker are you?

This is not a facetious, flip, or insulting question.

The fact is, none of us can rest on our laurels on this score. We can always improve.

I say this from personal experience.

Had you asked me, five years ago as I was about to start "Adam Smith, Esq.," whether I thought I was a critical thinker, I would surely and, resentfully and somewhat with hackles raised, have answered that of course I consider myself so. After all, I can imagine myself saying back then something embarrassing along the lines of, "I've gone to a college and law school you've heard of; I've worked in some fairly demanding environments, and so, yes, I consider myself a 'critical thinker,' thank you very much."

But that was before I started "Adam Smith, Esq."--the single most unexpected and salutary intellectual result of which is that it has made me a much more critical thinker. How so? Today, in a way that wasn't the case five years ago, I can scarcely read anything--from an article in The McKinsey Quarterly to a simple reportial story in The Economist, without asking myself questions like:

• What are the unspoken assumptions behind this piece?;
  
  
• If what the author is saying is correct, what happens next?;
  
  
• Does this align with most things we read in the past few months or is it squarely at odds with the consensus--and then who's right?;
  
  
• What are the author's presumed biases, predilections, and hobbyhorses?; and
  
  
• Last and most important--but hardest!--of all, does it spark any new ideas in your mind? What have you been taking for granted that might be due for a challenge or an update or a revisionist note?

This is all hard intellectual work. The reason most people who invested with Madoff did so is because they avoided the hard intellectual work. They, tragically, relied on friends at the country club, friends at the synagogue, friends in the boardroom, friends in the supposed insiders' group of insiders.

If you are an insider, or if you aspire to be one, don't fall prey to the seductive, salacious, and sleepy temptations of turning off your critical thinking.

Complete with serene, almost beatific smile

Update:  Fri 2 Jan 2009:

A regular reader wrote as follows and, with permission, I have reproduced the remarks verbatim, albeit without attribution.  While the point he makes is inarguable, I avoided it in my initial column both because I wanted to emphasize the "failure of critical thinking" angle to the exclusion of any other potentially distracting dimensions of the fraud and, at least as importantly, because I simply felt as a Scots Presbyterian it was far from my place to note this dimension.

Be that as it may, his remarks:

Bruce,

I love your site.  I've been a bit behind and just read your post of 12/27 about the Madoff scheme, which you attribute to lack of critical thinking.  While that is certainly true, one aspect that warrants further fleshing out (and, to my chagrin as an observant Jew, has been done in the mainstream press) is the fact that a good chunk of this was also a good, old-fashioned affinity fraud.  Too many victims relied on Madoff being a member of boards of Jewish philanthropies, or on the facilitation of Merkin, himself an Orthodox Jew. 

This vouching, almost mafia-like, of "he's a friend of ours" helps explain the lack of critical thinking.  It is simply a larger version of the fraud committed on Jews in Virginia Beach earlier this year.  While clearly many others also lost money, a large portion of the wealth lost (including an estimated $1.5 billion of philanthropic funds) is directly attributable to affinity fraud.

As I recently told a friend, this is a clear sign that we Jews have made it in this country when the biggest financial fraud has been committed by a Jew (Madoff), facilitated by an Orthodox Jew (Merkin), who preyed on wealthy Jews and Jewish philanthropies (Yeshiva U, Orthodox day schools, Jewish Federations, Hadassah, etc), and that the U.S. Attorney General, an observant Jew, had to recuse himself because his synagogue was a victim. 

Regards,

The bad news:  You're out $50-billion.  The good news:  You've made it in this country. 

2008 was indeed one for the record books.

Lessons From Citi

Consider a nonrandom selection of headlines from The New York Times, The Financial Times, andThe Wall Street Journal:

• Citigroup Pays for a Rush to Risk
• Citigroup Tries to Steady Stock
• Turmoil Continues in Banking Sector
• Citigroup: You Can't Step Into the Same Crisis Twice, Right?
• Citi crisis deepens as shares fall further
• Pandit denies break-up as Citi tumbles

Aside from the obvious, that these articles all revolve around Citi, they have, I suggest, one core theme in common: An erosion of trust in Citi. Theobvious question is whether this skepticism is warranted. Some think not:

"The earnings power is there," said Charles Peabody, a financial services analyst at Portales Partners. "It's a question of getting through the credit issues."

But is that the right question? Trust may be intangible, but it's an intangible with extraordinarily powerful repercussions. Trust is granted by grace, not demanded or usurped by fiat, can only be cultivated over an extended period of time, and can be forfeited in a heartbeat (Exhibit A: Eliot Spitzer).

Now,this may seen an exercise in rehearsing the obvious, but at times a return to first principles is in order.

We sit astride or at least within firms which may have hundreds of thousands of dollars of debt per partner, and extensive long-term lease obligations, often in far-flung networks of offices, yet whose assets voluntarilly choose each morning which building to enter and which elevator bank to go to.

As Citi's recent experience deonstrates, these are not abstract issues.

How, then, can you reinforce the cultural glue that brings people back to your offices every day?

I submit you have two tools at your disposal: (1) Communication; and (2) Behavioral Incentives.

Communication means constantly telllingpeople how the firm is doing and reinforcing that message at every opportunity you have.

Be candid, or don't bother. People have shockingly acute sensitivity to insincerity, and an incomplete or half-hearted effort will do more harm than good.

If there are challenges facing the firm, explan them. Call for collaborative action and, if necessary, shared sacrifice. You'd be amazed at people's ability and willingness to rise to the occasion when hard times are at hand.

How will you know if your message is getting through? Ask them. Ask your partners, associages, and staff if they feel they understand the firm's situation, meaning the external threats and opportunities, and the internal strengths and weaknesses. And, of course, your plans for addressing those threats and weaknesses.

Afraid that if you communicate it will appear on Above The Law in no time?

Get over it.

We live in the YouTube/Above The Law era, but that does not relieve you of your obligation and your duty to lead. It makes it more challenging and more risky, but if anything even more necessary. I've written that information abhors a vacuum, and the unprecedented availability of channels for near-instantaneous distribution of rumors or innuendo increases, not decreases, the burden on you to tell the firm's story. If you're clear, consistent, candid, and direct, Above The Law won't be able to lay a glove on you. (If you disagree, permit me to ask you whether your time-frame is that of months and years, appropriate to managing a firm, or that of Above The Law itself, which is hours or minutes.)

Second, Behavioral Incentives: Reward (read: pay for) the behavior you want.

As an economist, I can't help but reflect the reality that I'm ingrained with the power of incentives. This brings us back to Citigroup:

To some, the misery at Citigroup is no surprise. Lynn Turner, a former chief accountant with the Securities and Exchange Commission, said the bank's balkanized culture and pell-mell management made problems inevitable.

"If you're an entity of this size," he said, "if you don't have controls, if you don't have the right culture and you don't have people accountable for the risks that they are taking, you're Citigroup."

A more serious problem was whether the bank, assembled from a potpourri of financial services firms by Sandy Weill, ever came together as one coherent entity:

Even as Citigroup's C.D.O. stake was expanding, its top executives wanted more profits from that business. Yet they were not running a bank that was up to all the challenges it faced, including properly overseeing billions of dollars' worth of exotic products, according to Citigroup insiders and regulators who later criticized the bank.

When Mr. Prince was put in charge in 2003, he presided over a mess of warring business units and operational holes, particularly in critical areas like risk-management and controls.

"He inherited a gobbledygook of companies that were never integrated, and it was never a priority of the company to invest," said Meredith A. Whitney, a banking analyst who was one of the company's early critics. "The businesses didn't communicate with each other. There were dozens of technology systems and dozens of financial ledgers."

As an example of how "Citi" never integrated, it's been reported that in China the mortgage unit and the credit card unit couldn't even agree on a common consumer-fronting language: One used Mandarin and the other Cantonese.

This brings us back to law firms.

Are your firm's incentives aligned to encourage people to collaborate, or to give them reason to hoard business? Do you keep track of partners who "give away" business they've originated to other partners/offices/practice areas to handle? Do you reward them for doing so? Or, contrariwise, to you have perpetual origination credits, rewarding partners or heirs of partners in perpetuity for entrepreneurial achievements now lost in the sands of time?

I suggest now is not the time to indulge in such hereditary droits du seigneur. If the unfolding lesson of Citi is anything, it's that unclear and blinkered management, perverse incentives, and a failure to enforce and communicate a firm-wide vision can catch up with you in sour times.

Care to guess how fast the sour times are going to end?

Think Again About Globalization--A Guest Column

In the nearly five-year history of "Adam Smith, Esq.," you could have counted the number of guest columns on one finger.  As of today, make that two.

The following comes from E. Leigh Dance (see immediately below), who has a strong perspective on what globalization means for our industry.  Thanks, Leigh.

E. Leigh Dance
For 15 years E. Leigh Dance has led the global legal services consultancy, ELD International, working with global law firms and corporate law departments around the world.  She is based in Rome and New York and has a London office. 

Earlier this month Thomas Friedman, in his October 5 New York Times column, wrote about the implications of our suddenly new age.  He describes what we're moving into as "globalization and financial integration on steroids." 

"Even though the dollar has strengthened a bit lately," Friedman says, "we are going to need foreigners and sovereign wealth funds from China, Asia, Europe and the Middle East more than ever to survive this crisis...  In the process, we are going to become even more intertwined and dependent on the rest of the world."

While many firms rightly focus on cash flow today, there's also the question of globalization.  American law firms, by and large, have a long way to go.  Adam Smith, Esq. has commented in the past (including in a June 4th column) that New York firms are behind the eight-ball (and behind the Magic Circle) in their international growth.  Whichever side of the proverbial pond, law firms cannot assume they've become global when more than 85% of their fee earners are practicing domestic law and based domestically.  
Of the AmLaw Global 100 (newly released this month), only 38 have more than 15% of their lawyers outside of home country. 

Of the Global 100 firms with offices in at least three countries, a few numbers:

Firm (overall ranking)             % of lawyers outside home country

Kirkland & Ellis (11)                8%
Greenberg Traurig (12)          4%
Morgan Lewis (17)                  7%
Slaughter & May (32)               8%
Bingham McCutchen (39)      4%
Foley & Lardner (41)               <1%
Proskauer Rose (49)              4%
King & Spalding (50)               4%
Holland & Knight (51)             <1%
Pillsbury (57)                            2%

... and at the opposite end of the spectrum:

Firm (overall ranking)             % of lawyers outside home country
Clifford Chance (1)                 65%
Linklaters (2)                           62%
Freshfields (3)                        67%
Baker & McKenzie (4)            82%
Allen & Overy (6)                     59%
White & Case (10)                 66%
DLA Piper Int'l (16)*               51%
Lovells (22)                             76%
Norton Rose (56)                   51%
Simmons & Simmons (59)     60%
*DLA Int'l does not include US - DLA Piper US is separate,only domestic

We know that the UK firms expanded internationally more quickly--the size of their home market dictated it.  Many UK firms are also ahead in fostering the diversity (origin, not race) of their lawyers and the firm's approach to serving clients from many places. 

Of course, UK firms have a glaring gap in their coverage that seriously discounts their lead in other countries:  the US.  The US makes up the lion's share of the world's legal market, and American firms have kept much of their manpower where the money is.  But the make-up of the US market is changing.

As Adam Smith, Esq. wrote in a May 16 article, recent McKinsey research showed that top companies have differentiated themselves through global talent management, including:

• "encouraging people to get experience across multiple locations,
• regarding overseas experience as a prerequisite for promotion, and
• offering managers incentives to move talented employees to other functions or geographies."

Though there are exceptions (Cleary and Latham spring to mind), these sorts of moves have been a relatively low priority for most American law firms.  Even though much growth in work with US multinationals has been outside of the US, now we're talking about a different global equation.

As Friedman comments, the avalanche of incoming foreign capital means that the days of unilateral exercise of American power are pretty much over:  "As the old saying goes:  He who has the gold makes the rules.  Well, we no longer have as much gold, and until we get some, we will have to pay more heed to the rules of those who lend us theirs."

Both firm leadership and partners in their prime have lived through the glory days with their American or English legal systems making the rules and driving the approach to mega transactions, litigation, intellectual property, private equity and regulatory advocacy around the world.   The top Anglo Saxon law firms have excelled at serving global companies primarily run by Anglo Saxon executives according to a predominantly Anglo Saxon approach to international business.  Indeed, I am one of the Anglo-Saxon consultants who has benefitted from these glory days (though I have a few languages and several countries in my portfolio).

Last spring I moderated a roundtable of top global counsel where one General Counsel talked about his big Chinese legal team.  An American, he relayed their viewpoint, which had startled him: "Who says that future global business growth must be centered on American or western legal principles?  Why can't it come from the East-- from the Chinese, for example?"  The counsel around the table were squirming in their seats. 

What, globalization without us as the referees?  That's a whole different ball game. 

New game, new age.  In his article, Friedman quotes Jeffrey Garten, professor of trade and finance at Yale:

"Being a bigger debtor nation means losing even more of our sovereignty.  It means conducting our economic policies with an eye toward whether others approve.  It means bearing the advice and criticism that we have dispensed ad nauseam to other countries for over a half a century." 

Garten suggests that this goes beyond governments into the heart of business.  "Corporate decisions will become more sensitive to international factors, in part because more non-Americans will be on the governing boards."

US law firms with global ambitions need to look at how they can prepare to thrive.  Even if the vast majority of your workforce is here at home, that workforce needs to know lots more about navigating in the world's fastest growing markets, both externally and within the firm.  The vast majority of the lawyers in international offices of US firms tell me that their firm's operating and management style is all American. 

Nothing wrong with that, historically speaking.  But tomorrow, when more of your relationships at your big US multinational client are with non-Americans who may want to see the world and do business their way, you won't necessarily be their first choice advisors.

So what to do?  To succeed in this intertwined world, law firms must go beyond the cliché and foster a truly international mindset.  Just as important but far less tangible than the new Dubai office is changing service delivery to meet demands of non-American and globalized American businesses.  It has to be part of your plan.  Global talent management is just one piece of that profound and demanding strategy, and it goes beyond hiring foreign laterals. 

It's also important to reconsider and adjust your practice growth strategies for the fundamental differences in practice approach and dynamics across geographic markets.  Train lawyers and staff to work effectively in multi-cultural teams.  Hire people at home and abroad that speak several languages and have grown up in more than one country.  Move your institutional assets (of every age) across borders, including into the US.

Building cultural adaptability and capability is not easy.  But from my vantage point, you'll have to take Friedman's (and Darwin's) word for it:  you don't really have a choice.  

Manic-Depressive? Take a Deep Breath

We are surely living in times of manic-depressive equity and fixed-income markets ("We've made the future safe for Western financial institutions!"  "No, we haven't!). New York City itself can seem to be suffering from one gigantic case of whiplash:

Even last month, those of us who don't work in finance took wishful comfort in our Econ 101 understanding of the distinction between the financial crisis--that is, all the accumulated bad debt causing panicky global credit pipelines to tighten all at once, like so many sphincters--and an economic crisis, when people in general stop buying things and companies lay off workers or go out of business. The problem for New Yorkers, however, is that a financial crisis is an economic crisis, since more than a quarter of the wages in the city are paid by the stocks-and-bonds industry. For us, Wall Street is Main Street.

The other night, as I drove down one of New York's more conventional and lovable Main Streets--Bleecker, west of Sixth--looking at the glowing shopfronts and bustling restaurants and strolling pedestrians, I had a sudden elegiac impulse to register the scene and its details. Because, I thought, once a Depression descended, these same blocks would look and feel very different; in 2010 or 2011, I might think back to this particular evening--autumn! Twilight!--and remember how sweet and jolly the city had felt and looked not so long ago.

Alarmist?  Certainly.   A mildly embarrassing and gushy, jejune, home-town lament?  Probably that as well. 

But the insight that the financial crisis is not severable from the potential economic crisis is where attention now focused, and that concerns us all.

So where do we stand?

2008 is to some extent the devil we know.  At least for most firms, the year will be flat to down in the low double digit percentages in revenues and profitability.  But this is also a time when averages may be deceiving.  A small but  nontrivial minority of firms  will actually perform just fine,  thanks to a serendipitous practice mix.   But across all firms people should have a realistic sense at this point of where  they'll end up.  There should be "no surprises" at year-end. 

2009, by contrast, is the devil we  don't know.  From the perspective of today, to imagine it being a strong year risks professional humiliation,  and the key question for most  people is whether  it will be worse than 2008 and, if so,  in precisely what  way will it be worse?

Much as US automakers have found their model  lineups—featuring pickups, SUV's, and large, gas-guzzling  "crossover" models—suddenly and  brutally out of step with market demand, the question for law firms will be whether their practice mix is congruent with the new economic order or orthogonal to it.  Lacking the ability to travel forward in time and report back to you, I can only advise  nimbleness and celerity in adjusting to client demand.

Within reason,  professionals can retool themselves into adjacent practice areas to follow demand.  And to the extent people are under-utilized during a trough, but still  have valuable capabilities to contribute in the future, redeploy them in support of professional development, writing and speaking opportunities (business development), and getting  closer to your clients

What if it's worse, even,  than that?

The 55% unknown in the room  is whether  litigation will rebound to offset the drought  in corporate, transactional, and finance work.   ("55%" because that's approximately litigation's share of all revenue across the AmLaw 200; your firm's mileage may vary.)  What  do the tea leaves say?

Managing partners and senior  partners I talk with say that there is no evidence that litigation is  rebounding as of yet,  and a surprising number of them  doubt that it will.  This dour and gloomy assessment (we know who  we're rooting  for, after all) typically rests on a rather granular analysis of plausible causes  of action stemming from the financial meltdown,  and the view that since it was a systemic crisis, there is no liability for fraud, misrepresentation, or inadequate or misleading disclosure.

Analytically, they may be right. But my faith is unshaken in the creative ability of our plaintiff brethren to point  accusatory fingers  (sufficient so survive motions to  dismiss) when hundreds of billions of dollars  have gone up in smoke.

On another issue, there seems near-universal agreement: We are in for more regulation.  From helping  craft that regulation to explaining and guiding compliance with it, lawyers will be at the fore.

The real V-8 engine of recovery will kick in once the credit crisis has receded into the vanishing point of our rear-view  mirrors,and corporations and institutional investors  have recovered their appetites for risk-taking and deal-making.  At the moment, that  seems a distant day indeed, but our perspective may be warped by the deafening roar of  today's locked-up  markets.  Warren Buffett, after all, is already stirring.

And we know there is no more salubrious time to buy than when all around you think you're  daft to do so.  "Be fearful when others are greedy, and greedy when others  are fearful," spoke the Sage of Omaha on the New York Times's op-ed page last week. 

But back to law-firm land.

Here, the writings and the articles are dire.  Various prognostications promise us that corporations are going to "slash spending on outside counsel," and  that's just for starters.   There are far more apocalyptic predictions afoot, including that:

• As goes executive compensation (down), so goes law firm compensation.
• The recession will throttle demand across all sectors, particularly M&A.
• Financial institutions experiencing the gruesome task of reducing headcounts and budgets "20 to 25% across the board" will grant no immunity to legal spending.

Even worse, did you know that:

• "The key assumptions that underlie the whole legal market" are being undermined?
• We are experiencing the "Wile E. Coyote Effect," running off the cliff into space, powered by sheer inertia, but about to discover that, as the old joke has it, jumping out of a 50-story building is fine for the first 49 stories.
• London will eat New York's lunch, without so much as a "prithee, may I?"
• And lastly that we will be so desperate and delusional that we will engage in fictitious and unsustainable "financial engineering" to keep the numbers looking good for a few more hair-raising quarters before the roof comes inevitably crashing in?

Well, then, that makes two of us.  I wasn't aware of these scenarios of doom, either.

It's time, Dear Reader, to take a deep breath. 

Here are four very concrete things you can do to weather this storm.

Time for a Strategic Re-Think

Why are your practice groups arrayed as they are?  Is it time to invest, or disinvest, in some of them?  What sense does the geographic array of your offices make?  Ought you to be in (just to pick a random place) London in a bigger way than you are?  Does Frankfurt/Miami/Seattle (pick one or three) still make sense?

If you had to reorganize your firm from a clean sheet of paper, would it look the way it looks today?  Well, then, what's stopping you?

Do you have the right people on the bus?  It's entirely possible that some highly talented people might find themselves on the street through no fault of their own.  Even if some of your professionals and staff are "just fine," might now be the time for a little quality upgrade?

Now, in other words, is the ideal time to get back to re-examining some of those "key assumptions that underlie the whole [firm]."  Why now?  Because people's appetite for change, never great, is at a local maximum in the midst of disarray and uncertainty. 

When clients and fees are rolling in, there's no sense of urgency about actually changing anything and, a fortiori, no reason to re-examine whether anything might be suboptimal.  But now is the time when everyone is tempted to ask, "What's wrong?!" and when you can engage them in actually trying to position your firm more soundly.

Go Into 2009 with a Zero-Based Budgeting Mindset

Don't take sacred cows for granted.  Are there things the firm is doing just because..., well, because we always have?

Again, if given a clean sheet of paper, would you recruit the way you do?  Would you spend your marketing dollars the same way?  Your IT investments?  How do you manage cash?

More aggressively, consider bargaining harder with suppliers and vendors, starting, perhaps, with your landlord.  Is the commercial real estate market suddenly softer in your key locations?  Nothing is more deadly to a landlord than vacant space—it's like an empty seat on an airplane leaving the gate.  Perhaps you should have a talk.  Similarly, need new computers?  BlackBerry's?  Servers?  Office suite software?  "Let's Make a Deal."

Get Close To Your Banks

"Keep your friends close, but your enemies closer."  And your banks may not be your best friends at the moment.  (Last week I was at a large gathering where the speaker asked if anyone knew a generous banker these days, to a healthy round of laughter.)

Get out a sharp pencil and take another look at your bank debt covenants.  Are you going to be marching close to the chalk line on any of them any time soon?  Get out in front of it.  Talk to your bankers; let them know your plans.  Let them know what concrete steps you're taking to navigate in this new environment.  Enlist their support and counsel (well, you can at least try).

At the very least, know their  intentions. 

Many many things cause firms to fail, including weak leadership, ill-timed or misguided strategic choices, undiversified practices, extravagant investments in real estate, and weak cultural glue (this one is huge, but that's a topic for another day),  but the proximate cause of failure, if the horrible  horrible  day arrives when the lights  go out and everyone is loosed to the street, is running out  of cash.  Your bank  is your  ultimate cash lifeline.

Communicate, Communicate,  Communicate

You thought nature  abhorred a vacuum?  Well, facts really abhor a vacuum; and in their absence, rumor will rush in to occupy the void.

How is the firm  doing?  Tell people.  And after you tell them, remind them.  Regularly.

What's your debt situation?  Your cash situation?  Your reliance on a few key clients or a few  key practice areas or a few key offices?  If you have good  news to deliver on these  counts, deliver it.  If you don't have good news to deliver, be candid.  Remember, it's not the offense that will get you  (that will sap morale, that will cause people to look at the exits), it's the  cover-up. 

Are we all in this together?  Explain why.  What's  the professional challenge in front of us all, partners, associates, and staff  alike?  Lay it out.  Why should people care about  the place? It's not about how much it  can pay you (best not be, at least), it's about why it matters.

What's the vision for the firm?  Reiterate it—crisply.  At the risk of borrowing language from a no-fly zone in intelligent and sophisticated discourse, don't just reiterate it, preach  it.

After all, you do believe, don't you?

What's Going On?

Nothing less than a generational transformation of investment banking and the financial services industry at large.  Its implications for, among other things, the economies of New York City and London, the structure of global capital markets, and our own dearly beloved industry, are impossible to predict with any high degree of confidence, but I think we already know a few things.

First, as an AmLaw 50 Chairman I know well put it to me yesterday, "the business model of 35 times assets:equity ratios is over."  That works great in flush times but it kills you (literally) in times like these.

"Lend long and borrow short" was always a game that threatened to turn the tables on you at the worst times in the nastiest of fashions, and it turns out that "invest long and borrow short" is no less so.

Does this mean that the "Masters of the Universe" investment banks will more closely come to resemble--or pair up with--conventional deposit-taking banks? Of course, that's already happening, and we can envision a world where financial services institutions break down into:

• Truly global mega-banks (Bank of America, Candidate A) which take deposits, issue credit cards, offer mortgages, cater to every customer from retail walk-in checking account folks to small businesses, luxury private wealth management, and Fortune 500 underwritings;
• Boutiques offering investment advisory services, M&A counsel, and the like (think Greenhill or Evercore);
• Hedge funds, private equity, and venture capital (Blackstone, SAC, KKR, Kleiner Perkins); and
• Unknown and undefined institutions yet to be invented and unfurled.

The last point is the most important. Investment banking reinvents itself (by opportunity and necessity) every decade or so, and there's no reason to imagine this time will be any different. Where does this innovation come from? At the risk of contradicting my next point, historically it has come from New York. And who does it? Creative and, yes, greedy, investment bankers, but also lawyers at the premiere firms, working hand in glove to imagine, craft, and define the products and services the industry will offer in its new incarnation.

Depressed and demoralized? The sin, we know, in America, is not being knocked down. It's failing to jump right back up. We may have seen the end of investment banking as we've known it for the latter half of the first decade of this century, but we have not seen the end of creative financial engineering.

Second, this cannot be good news for the economy of New York City.

This pains me, as a Manhattan native born and bred, but I value realism over sentiment.

London already has the unspeakable advantage of time zone: If you want to do business with North America and Asia (not to mention the Mid East) in one day, London is a terrific place to be. It also happens to be a very civilized place to live, and it's possible to do so in fine style provided one's pay is denominated in pounds Sterling.

As for New York (the numbers vary), something on the order of 10% of all jobs in the City are/were in financial services, but they account for 25% of total payroll and a "multiplier effect" of 3 jobs per financial services sector job--which produce average annual salaries of $280,000. If you cut substantially into that employment, purchasing power, and tax base, as we're in the process of doing, everything from demand for caterers to jewelry to BMW's and co-op apartments is going to decline. Stemming the pain, we can only hope, will be the "America on sale" psychology, and reality, of the weak dollar, bringing foreigners here to drive demand for everything from, again, iPhones at the Apple Stores to Fifth Avenue apparel to Central Park West co-ops.

In the long run, New York will always be the financial capital of North America, and in some symbolic, enduring, and romantic, gritty, black & white night-time rain-soaked pavement sense, the port of entry to the American dream. But it will have substantial, and ever-stiffening, competition on the global stage.

Third, this is indeed a fundamental de-leveraging of financial institutions worldwide, as nicely captured today in a front-page WSJ article:

The U.S. financial system resembles a patient in intensive care. The body is trying to fight off a disease that is spreading, and as it does so, the body convulses, settles for a time and then convulses again. The illness seems to be overwhelming the self-healing tendencies of markets. The doctors in charge are resorting to ever-more invasive treatment, and are now experimenting with remedies that have never before been applied. Fed Chairman Bernanke and Treasury Secretary Henry Paulson, walking into a hastily arranged meeting with congressional leaders Tuesday night to brief them on the government's unprecedented rescue of AIG, looked like exhausted surgeons delivering grim news to the family.

Fed and Treasury officials have identified the disease. It's called deleveraging, or the unwinding of debt. [...]

At least three things need to happen to bring the deleveraging process to an end, and they're hard to do at once. Financial institutions and others need to fess up to their mistakes by selling or writing down the value of distressed assets they bought with borrowed money. They need to pay off debt. Finally, they need to rebuild their capital cushions, which have been eroded by losses on those distressed assets.

But many of the distressed assets are hard to value and there are few if any buyers. Deleveraging also feeds on itself in a way that can create a downward spiral: Trying to sell assets pushes down the assets' prices, which makes them harder to sell and leads firms to try to sell more assets. That, in turn, suppresses these firms' share prices and makes it harder for them to sell new shares to raise capital. Mr. Bernanke, as an academic, dubbed this self-feeding loop a "financial accelerator."

Now that there appears to be a sort of "Resolution Trust II" on the horizon, we may be out of the immediate woods. But there's no question the financial services landscape is changing before our very eyes, in ways likely to last for the duration of many of our careers.

Fourth, it seems a virtual certainty, regardless of what happens in the US electorally in November, that we will be entering a more highly regulated world. And not just in the US, but in the EU as well.

You can applaud or decry this, ideologically, but everyone I speak to--unanimously--thinks it's a foregone conclusion.

Now, regulation per se is always a good thing for the business of lawyers. Whether it's a good thing for the economy and the vitality of our capital markets is something else altogether. On the whole, the consensus is that "new regulation is going to solve the problems that are already behind us. Just like Sarbox 'solved' the problem of Enron, retroactively, and just like the Transportation Security Department's airport screening procedures 'solve' the problem of 9/11, seven years too late." (This from an AmLaw 25 managing partner I spoke with today.)

His view, and mine, is that regulation is always backward-looking, and tends to be an encrustation on an already-existing structure, rather than a clean-slate, "zero-based budgeting" analysis of what we really need going forward. You read it here first.

Fifth, this type of economic environment will accelerate segmentation and consolidation in our industry.

Among law firms as among financial institutions, there will be winners and losers emerging from this downturn. Among the "losers" we may already count Heller (look for a post-mortem in these pages to come) and Thelen and perhaps one or two others that will outright cease to exist. Short of dissolving, other firms will find their competitive postures impaired, their attractiveness to laterals and law students compromised, and their viability as independent going concerns in question.

David Morley, new senior partner of Allen & Overy, announced last week in conjunction with release of their Annual Report:

I see us becoming the most successful of the emerging global elite of law firms. Those firms are beginning to set themselves apart when defined by scale, geographic reach, quality of people and concentration on high end, premium work for the largest clients. As each year passes the members of that emerging group, and what it takes to succeed in it, become clearer.

This throws down the gauntlet, does it not?

Yet I for one believe David has it precisely right. There may be six, there may be 12, but there will not be an AmLaw 100 or a UK 50 of firms that are truly viewed as the most global of players catering to the most global of financial institutions and corporations as we move on down the road into the second decade of the 21st Century.

If you believe that the tectonic shifts in our financial services industry going on this week mean that the world will be comprised of fewer and larger institutions, will they not indeed look to commensurately globally capable law firms? I believe they shall and must.

Sixth, what do you do now?

I believe you ramp up your competitive efforts. This is not the hour of the timid or the paralyzed.

If you haven't already figured out who you are and what you want to be, it is all but too late. Not "TOO late," but getting close. (And if you're on the fence about where you are, can we talk?)

If you have it figured out, but aren't there yet, this is the time to put your convictions to the test. Economic troughs like this don't cement the status quo, as I've said before, they tend to disrupt it. Now's the time for you to make your disruptive move. Incumbents may not like it, but there is no hereditary right of incumbency.

Above all, do not lose heart, be optimistic, believe in the value your firm and your partners can provide.

• Corporations' demand for financing, for credit, for leverage, and for capital is not going to diminish.
• Globalization is here to stay.
• Regulation is not shrinking, it's growing.
• Wall Street reinvents itself every decade or so; financial services are going to come back, securitization most prominently included.

Watch your costs.

Be opportunistic about the real estate landscape if you need to relocate or expand.

Hire and recruit prudently.

Ask probing questions about people and other assets who are on the street; it may be through no fault of their own, but then again.

Most of all:

Be bold. Fortunes are never made by buying at the top.

I've never seen so much opportunity as now.

Lessons from JP Morgan Chase

This is how the cover story of the current issue of Fortune starts out:

It was the second week of October 2006. William King, then J.P. Morgan's chief of securitized products, was vacationing in Rwanda, visiting remote coffee plantations he was helping to finance. One evening CEO Jamie Dimon tracked him down to fire a red alert. "Billy, I really want you to watch out for subprime!" Dimon's voice crackled over King's hotel phone. "We need to sell a lot of our positions. I've seen it before. This stuff could go up in smoke!"

A classic Dimon manic moment, the call is significant for two reasons. First, it marked the beginning of a remarkable strategic shift that helped J.P. Morgan, virtually alone among the big diversified banks, sidestep the worst of a historic credit crisis. Second, it sheds light on Dimon's distinctive management style - a blend of Cartesian analysis and inspirational leadership that, despite some bad bets in the home mortgage market, has moved J.P. Morgan to the front of the pack in global banking.

But this isn't another story about sub-prime, securitization, and structured finance.  It's about building a leadership team:

Dimon relies on a trusted team of talented lieutenants who share his zeal for sifting piles of data to spot trouble before it happens and vigilantly control risk, even when that means sacrificing growth and losing market share to rivals. Says J.P. Morgan director Bob Lipp, the former Travelers chairman who's worked with Dimon for two decades: "This is the best team on Wall Street."

Dimon and his team are on top today because they took a daring stance at the height of the credit bubble. J.P. Morgan mostly exited the business of securitizing subprime mortgages when it was still booming, shunning now notorious instruments such as SIVs (structured investment vehicles) and CDOs (collateralized debt obligations). With the notable exception of Goldman Sachs, J.P. Morgan's main competitors - including Citigroup, UBS, and Merrill Lynch - ignored the danger signs and piled into those products in a feeding frenzy.

The stock price, while down 21%  from March 31, 2007, is down far less than Bank of America (-37%) or Citigroup (-59%), and JP Morgan Chase's market cap is now virtually equivalent to that of Bank of America and some 25% higher than Citi.  Meanwhile, they've enjoyed lower writedowns on the notorious CDO's.  For the period 1Q2007 through 2Q2008, here are the figures:

• JP Morgan:  $1.9-billion in CDO writedowns
• Bank of America:  $8.0-billion
• Citi:  $27.7-billion

And let's not even mention Bear Stearns, Lehman Brothers, or Merrill Lynch.  The beauty of having a relatively valuable currency (the stock) in this environment is the ability to do even more deals, beyond the Bear Stearns takeover.  "Sure, it's hard to make a deal when your stock has dropped," [Dimon] says. "But so have the stocks of the targets. We have the capital and the people to do a deal, if it makes sense."

Wasn't the Bear Stearns takeover a risk?

Not by the numbers: Bear had $11.5-billion in cash on its books, which should be enough to offset the costs of the acquisition, and JP Morgan also picked up Bears' headquarters building at 48th and Madison worth, conservatively $2-billion (with a mortgage of $670-million).

So who are these guys?

Here are some of the characteristics (emphasis supplied):

• "Dimon's all-stars who make up the 15-member operating committee are a mix of longtime loyalists, J.P. Morgan veterans, and outside hires. Dimon doesn't look for people who went to the right schools or have prestigious résumés. To make it on Dimon's team you must be able to withstand the boss's withering interrogations and defend your positions just as vigorously. And you have to live with a free-form management style in which Dimon often ignores the formal chain of command and calls managers up and down the line to gather information."
  
  
• The environment of being able to push back with your ideas is at the core of this culture.  A classic example, albeit in some ways a small but symbolic one, is this:  "When he first came from Bank One, Dimon vociferously defended using the Chase "octagon" symbol as a trademark across the company. [Jay] Mandelbaum [head of strategy and marketing]  convinced Dimon that the octagon was a symbol of retail banking that didn't match J.P. Morgan's exclusive image. His lieutenants joke that Dimon now claims dropping the octagon from the J.P. Morgan side of the business was his idea."
  
  
• But an atmosphere of free-wheeling ideas is not always without sharp elbows:  "If you get your feelings hurt, you can't work here," says [Steve] Black [co-head of the investment bank]. "Jamie will apologize, then do the same thing two weeks later. He can't help himself."
  
  
• Getting bad news to the surface is another component.  Says Todd Maclin:  "Jamie and I like to get the bad news out to where everybody can see it:  To get the dead cat on the table."
  
  
• At the team's monthly day-long management meetings, candor is the currency du jour: " Dimon will throw out a comment like "Who had that dumb idea?" and be greeted with a chorus of "That was your dumb idea, Jamie!" "At my first meeting, I was shocked," says Bill Daley, 60, the head of corporate responsibility and a former Secretary of Commerce. "People were challenging Jamie, debating him, telling him he was wrong. It was like nothing I'd seen in a Bill Clinton cabinet meeting, or anything I'd ever seen in business.""
  
  
• However, you need to be as detail-oriented as Dimon.  Says Jes Staley, head of investment management, who battled Dimon for a year and ultimately won (on the question of whether JP Morgan should sell other firms' investment products to their customers—Staley argued they should only sell in-house products):  "He understands the details completely, he loves to debate and disagree, yet he'll let you do it." Staley adds a caveat: "As long as you know what's in Appendix 3 of your report as well as he does."

What does all this add up to?

I would argue:  The shockingly free flow of information.

Remember the October 2006 "ditch subprime" call?  What set Dimon off?

Every month, recall, Dimon reviews every aspect of the business in great detail ("Appendix 3" is not a joke).  And in October 2006, during the regular monthly review of the retail bank's operations, the head of mortgage servicing said that late payments on subprime loans were rising at an alarming rate.  Moreover, data showed that loans originated by competitors like First Franklin and American Home were performing three times worse than J.P. Morgan's subprime mortgages. "We concluded that underwriting standards were deteriorating across the industry," says Dimon.

But what about the CDO's the bank still held?  Weren't they all AAA rated?

Yes, they were, but the price of credit default swaps on even AAA-rated CDO's told a different story: 

Winters and Black [investment bank co-heads] saw that once they bought credit default swaps to hedge the AAA CDO paper J.P. Morgan would have to hold, the fees from creating CDOs would vanish. "We saw no profit, and lots of risk, in holding subprime paper on our balance sheet," says Winters.

The combined weight of that data triggered Dimon's call to King in Africa. "It was Jamie who saw all the pieces," says Winters.

Not only did Dimon instruct the bank to start selling its CDO's (including more than $12-billion subprime mortgages that JP Morgan had originated), he took action across the entire institution.  Trading desks were ordered to dump loans on their books, and to stop making markets in subprime loans for customers.  The private bank, that manages money for wealthy clients, started advising them to sell.  The corporate treasury department started hedging and placing bets that credit spreads would widen (profiting by hundreds of millions of dollars when that turned out to be precisely the case). 

Think there was no push-back?  Guess again:

Dimon's stance was radical: He was skirting the biggest growth business on Wall Street. "Our employees wanted to know why we were being so conservative," says Black. "We lost a lot of structured credit people to hedge funds." J.P. Morgan also lost ground to competitors. It sank from third to sixth in fixed-income underwriting from 2005 to 2007, and the main reason was its refusal to play in subprime CDOs, which its rivals were gorging on. "We'd get the quarterly reports from our competitors and see that they'd added $100 billion to their balance sheets," says Dimon.

So, to recap:

• Promote an environment of radical candor.
• Listen—truly listen—to those with other ideas.
• Assimilate information from every corner of the firm (unfiltered, need I add?).
• Synthesize it.
• And don't be afraid to take radically unpopular action, including walking away from seemingly lucrative business your competitors are milking.

Memories may be short, but financial services, let us never forget, are cyclical.  Just ask Jamie Dimon.

IQ Is A Commodity: Now What?

More futile ink has been spilled on the issue of "leadership" than, I would wager, any other topic in the managerial literature.

But the topic is irresistible.

Why?

Because deny it as you might, leadership matters. It consistently distinguishes the leading firms from the "chasing pack," it transforms firms over timeframes as short as a decade (yes, this is short), it destroys some firms in periods as short as a few years, and it leaves a gaping and almost unanswerable hole when an incumbent, powerful, visionary leader steps down.

Daniel Goleman, whose title is the business-card-filling Co-chairman of the Consortium for Research on Emotional Intelligence in Organizations (based at Rutgers University’s Graduate School of Applied and Professional Psychology), and who is the author of Social Intelligence: The New Science of Human Relationships (Bantam, 2006), has a new article out on Harvard Business Review about "Social Intelligence and the Biology of Leadership." Here's the kickoff:

In 1998 one of us, Daniel Goleman, published in these pages his first article on emotional intelligence and leadership. The response to “What Makes a Leader?” was enthusiastic. People throughout and beyond the business community started talking about the vital role that empathy and self-knowledge play in effective leadership. The concept of emotional intelligence continues to occupy a prominent space in the leadership literature and in everyday coaching practices. But in the past five years, research in the emerging field of social neuroscience—the study of what happens in the brain while people interact—is beginning to reveal subtle new truths about what makes a good leader.

The salient discovery is that certain things leaders do—specifically, exhibit empathy and become attuned to others’ moods—literally affect both their own brain chemistry and that of their followers.

What we have recently learned is that it's not just "leadership" in the abstract, but that there are neurological bases to what makes people respond:

Perhaps the most stunning recent discovery in behavioral neuroscience is the identification of mirror neurons in widely dispersed areas of the brain. Italian neuroscientists found them by accident while monitoring a particular cell in a monkey’s brain that fired only when the monkey raised its arm.

One day a lab assistant lifted an ice cream cone to his own mouth and triggered a reaction in the monkey’s cell. It was the first evidence that the brain is peppered with neurons that mimic, or mirror, what another being does.

This previously unknown class of brain cells operates as neural Wi-Fi, allowing us to navigate our social world. When we consciously or unconsciously detect someone else’s emotions through their actions, our mirror neurons reproduce those emotions. Collectively, these neurons create an instant sense of shared experience.

Mirror neurons have particular importance in organizations, because leaders’ emotions and actions prompt followers to mirror those feelings and deeds. The effects of activating neural circuitry in followers’ brains can be very powerful.

In a recent study, our colleague Marie Dasborough observed two groups: One received negative performance feedback accompanied by positive emotional signals—namely, nods and smiles; the other was given positive feedback that was delivered critically, with frowns and narrowed eyes.

In subsequent interviews conducted to compare the emotional states of the two groups, the people who had received positive feedback accompanied by negative emotional signals reported feeling worse about their performance than did the participants who had received good-natured negative feedback. In effect, the delivery was more important than the message itself. And everybody knows that when people feel better, they perform better.

Forgive me for repeating this finding, but it's striking: Positive performance reviews with negative body language are perceived as negative, while negative performance reviews with postive body language are perceived as reinforcing.

Here you have the key to something powerful indeed. You can lead, out of bad news, into improved performance and optimism on the part of your team, by evincing positive energy. Is this all smoke and mirrors? I think not.

Faced with a seemingly implacable challenge? Acknowledge it frankly, explore it thoroughly, discuss it openly, but proceed with optimism, candor, and energy.  This is where the sometimes misused and even more often simply confused notion of "emotional intelligence" comes in. 

If human beings were all about "IQ" and not about "EQ," the performance review tests would have had a different outcome:  You are evaluated in negative terms so you feel bad, positive terms and you feel good, period.  But that's not what happened.  This tells us that "EQ" is a powerful factor in human relations indeed—with the power, in fact, to override what our old-fashioned "IQ" should be picking up on. 

Given its power, the question is how to develop your "emotional intelligence"--and whether that's even possible.

Now, the bad news.

Lawyers are constitutionally predisposed, and through the law school and law firm selection process this predilection is reinforced and redistilled, to be analytic and rigorous, emotionally distant and frankly unfeeling. We are not, by and large, emotionally intelligent.

Here's a Cliff's Notes case study of a Fortune 500 exec seemingly suffering the same syndrome (emphasis supplied):

When Cavallo [the psychologist conducting the study] presented this performance feedback as a wake-up call to Janice [the executive under study], she was of course shaken to discover that her job might be in danger. What upset her more, though, was the realization that she was not having her desired impact on other people.

Cavallo initiated coaching sessions in which Janice would describe notable successes and failures from her day. The more time Janice spent reviewing these incidents, the better she became at recognizing the difference between expressing an idea with conviction and acting like a pit bull.

She began to anticipate how people might react to her in a meeting or during a negative performance review; she rehearsed more-astute ways to present her opinions; and she developed a personal vision for change. Such mental preparation activates the social circuitry of the brain, strengthening the neural connections you need to act effectively; that’s why Olympic athletes put hundreds of hours into mental review of their moves.

At one point, Cavallo asked Janice to name a leader in her organization who had excellent social intelligence skills. Janice identified a veteran senior manager who was masterly both in the art of the critique and at expressing disagreement in meetings without damaging relationships.

So this has been a longish detour into "emotional intelligence," but what again does it have to do with leadership?

Permit me to offer a brief excerpt from an interview with Allen & Overy's new senior partner, David Morley, from their just-published Annual Report:

Q: If that’s what it takes to be global, what else does it take to be part of the elite?

David Morley: It takes high levels of client trust and the most talented and motivated people, working together as one firm.

Q: No one would disagree with that, but how does Allen & Overy achieve that?

David Morley: For both our clients and our people it is the quality of Allen & Overy’s relationships with them, and the levels of trust we establish between us, which are critical.

A relationship is personal and unique. It cannot be replicated by a competitor.

Isn't this the distillation of "emotional intelligence?" A relationship which is personal and cannot be replicated?

Sorry that law school and your law firm's recruiting process didn't select you for this, but I have news for you:  Get over it.

As our industry becomes more competitive, more global, more client-centric, more focused on the war for talent, the winners will increasingly be those with charisma, drive, energy, and yes, those with "emotional intelligence." 

Face it:  Everybody in sight in your firm has nothing to apologize for on the IQ front.  That won't work as a distinction, either for you personally in your career or for your firm as a whole on the competitive landscape of the 21st Century.  But EQ, precisely because it's been so consistently selected-against in our profession, just might do the trick.

What's Your Time Horizon?

Time to take stock.  This dratted credit crunch has now celebrated, if that's the word, its first birthday, and there is no clarity about when it may end.  What's a law firm to do?

If you believe McKinsey, and if you believe that where investment bankers go, law firms will follow, the answer is:   Look to the emerging markets.

Relying on the results of the McKinsey "Global Capital Markets Survey," which purports to forecast estimates of investment banking revenue for the years 2007 to 2010, the message is that:

• Emerging Asia,
• Emerging Europe,
• The Middle East, and
• Latin America

will probably show absolute revenue growth over the next three years and under what they call "all likely outcomes," emerging markets' share of global revenues will "jump sharply."  Here's the soundbite:

Collectively, indeed, revenues from investment-banking and capital market activities in these regions are projected to match those in North America by 2010; in 2006, before the credit crunch, they amounted to less than half. A case, perhaps, for referring to “emerged” rather than emerging markets in the future?

Uncertainties, to be sure, abound.  Primary factors determining when the credit crunch may ease include the overall macroeconomic prospects for growth in the US and developed economies; investors' behavior--simply put, when and to what extent confidence comes back; regulators' behavior (do they over-react and clamp down in market-suppressing ways); and of course the grand-daddy unknowable of them all, namely when the credit and liquidity lockup will start melting as the lending institutions in the economy begin to see clarity about the future and are able to restore their balance sheets to health.

But back to the emerging markets.

Why are they so attractive at this juncture in the economic cycle? For one thing, as McKinsey alluded to above ("emerged" vs. "emerging"), they're already getting sophisticated (emphasis supplied):

First, their macroeconomic environment remains comparatively benign, even if talk of a complete “decoupling” of their economies from those of the United States and Western Europe was premature. Although, if trade flows with the West do suffer, regional demand for oil and commodities, growing intra- and interregional trade flows (especially within Asia and between it and the Middle East), and huge infrastructure-investment programs will continue to underpin growth.

Second, a new breed of global corporate players, notably in countries such as China, India, and the United Arab Emirates (UAE), now demands the sort of sophisticated investment-banking services [and concomitant legal services] previously reserved for large Western multinationals. This new group thus represents an increasingly attractive fee pool.

Add to that that they're less exposed to the infamous credit crunch. For example, if writedowns is your blunt-instrument measure of exposure, investment banks have written down only about 7% of their revenues from emerging markets as opposed to three times that--21%--on a global basis.

Two other reinforcing trends are in play. First, certainly in Asia, economies are growing, pure and simple, on their own. That just increases the stock of financial instruments and their tradability. But second, as Asia becomes increasingly integrated with the global economy, inbound and outbound investment will increase, and it will take increasingly sophisticated forms. For "sophistication," substitute "lawyer-heavy," and you have a reason to take this region more seriously.

Do you have to be there?

I believe you do. But let McKinsey speak to this:

Asian markets are fast becoming as demanding and sophisticated as markets in Europe and the United States. Clients have developed a taste for complex financial products and demand good local service; domestic competitors are ramping up their skills and opening their checkbooks to attract international talent.

An onshore presence in emerging Asian markets, meanwhile, is becoming critical. The old model of the suitcase banker operating from hubs such as Singapore and Hong Kong will fail to satisfy clients and regulators seeking a true commitment to the local market.

I've observed before that in America the first "real" question people ask a new acquaintance is, "What do you do?" In the UK it's "Where did you go to school?" And in China it's "Where are you from?"

Not to be cute, but if this is remotely correct (and I've reality-tested it with numerous people in all three areas), you really need to be on the ground in Asia to manage inbound or outbound investments more than you need to be on the ground in (say) Silicon Valley to manage a high-tech IPO or Brussels to handle an EU regulatory matter.

So much for Asia. What about Eastern Europe?

In a nutshell, McKinsey sees overall annual GDP growth from 7% (in their "darker" scenario) to an astonishing 19% in their "more benign" scenario. I'll take some of that, thank you very much.

The only trouble with this area, for law firm land (as opposed to investment banking land), is that the primary source of increased fee revenue McKinsey foresees has almost all to do with sales and trading: "In the future, we believe, growth will probably shift from foreign exchange to interest- and equity-based derivatives, among other products."

And the Mideast?

No surprises here: Investment banks are redeploying more and more professionals from New York and London to the region:

The oil-rich states of the Gulf Cooperation Council (GCC)—Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the UAE—are generating wealth at levels not seen since the 1980s. High oil prices have triggered an unprecedented wave of investment, including a huge pipeline of industrial and large-scale infrastructure projects, such as Saudi Arabia’s new “economic cities.” By some accounts, the GCC will have invested around $3 trillion in the region by 2020.

Can you afford to miss this?

That is for your firm to call, including your partners' appetite for risk and their willingness to endure a period of potentially protracted investment, but the historic shift of momentum seems clear:

Emerging markets now have a rare window of opportunity to catch up with the rest of the world, not least because they don’t have to mitigate the mess created by current market dislocation in the West.

Here we have, in other words, the flip-side of the credit market and liquidity freeze.

Stung (perhaps severely?) by that meltdown? Here (the good news) is an enormous, far more durable, opportunity. But (the bad news) if you are still bleeding from overexposure to the frozen credit markets, you may not be in a position to make the requisite investments half a world away.

Don't ever again think that managing a law firm is an exercise in quarter to quarter or year to year performance.

The transition from "emerging" to "emerged" will take a few decades. You need to have the same time horizon.

Update:  Mon 1 Sept.

The September issue of The American Lawyer (published online today) has a lead story, "No More Pure Plays," attempting to apply lessons learned by law firms sideswiped (or worse:  see Brobeck) by the dot-com meltdown in 2000—2001 to today's market where securitization and structured finance have experienced a similar sickening sensation of the trap door opening beneath them.

The first thing to be said about these types of market tops is simply this:  "In hindsight, the folly of it all seems obvious. But here we are again."

And, as Stephen Neal, managing partner of Cooley Godward Kronish from early 2001 through today puts it with commendable clarity:  "In retrospect you might say [the growth] was a mistake, but we didn't know at the time how long this market would last. At the time it was almost irresistible."

The "almost irresistible" comment brings to mind the business classic, The Innovator's Dilemma, where Prof. Clayton Christensen of Harvard Business School set out a coherent, compelling, and historically astute view of just how the most powerful incumbents in any given industry are precisely the firms most vulnerable to maverick upstarts with what appear at first glance to be second- or third-tier offerings of no conceivable utility to the incumbents' core customers.  While it might seem intuitive that the most knowledgeable, most strongly capitalized, most sophisticated firms in an industry would be theones most capable of exploiting innovations "in their own backyard," as it were, Christensen demonstrates precisely the opposite is more common.  Incumbents suffer from:

• Being excessively loyal to their core, established clients (yes, even client loyalty can be pushed too far, when it becomes a limitation rather than a strength);
• Focusing on continuous incremental improvements to their existing product or service offerings, while being blind to "disruptive" innovations; and finally and most tellingly of all
• Being unable to abandon extremely profitable existing lines of business to take a chance on an unproven innovation whose value will only be known in some indeterminate future time.

It's the final point that Mr. Neal is echoing, and it's the seductive power of any boom:  When the getting is good, the getting is very good indeed.  (Or, as The Onion recently facetiously headlined, "Americans Reeling from Housing Meltdown Seek Next Bubble to Invest In.")  Some of the key Silicon Valley firms grew as follows—and this doesn't include all the firms from elsewhere in the country that starting piling willy-nilly into Northern California just as the window was about to slam shut on their fingers:

• Cooley added 300 lawyers in a 12 to 18 month period;
• Wilson Sonsini went from 550 to 812; and
• Brobeck from 540 to 724.

Even at that torrid pace (let's not even think about quality control, shall we not?), "'We turned away nine out of ten pieces of business--maybe more,' said Mark Tanoury, who then headed Cooley's business group, in 2000."

Still, the article finds reason for optimism this time around, at least as compared to the carnage at the start of this decade.  Why?  Primarily because the NY-centric firms that doubled down on securitization have been far quicker to wield the "scythe" with associates.  To this day, Wilson Sonsini has never publicly admitted that it laid off associates, although, mirabile dictu, its headcount shrank from 812 in 2000 to 540 in 2004, and the beginning of the end of Brobeck, at least as the received wisdom has it, came when Tower Snow refused to lay off associates. 

The article gives, indeed, the last word to Mr. Snow:  "History shows that those who are overconfident or arrogant tend not to do well when the environment changes." Ironic, and prescient, words indeed.

But I choose to give the last word to Chris White, chairman of Cadwalader, who told The Wall Street Journal last month: 

"There was a bubble, we rode that bubble, it contracted, and we adjusted. Even knowing what I know now, I wouldn't have changed a thing,"

The cynics in the audience may judge that chutzpah of the highest order.  But I for one see it differently, and give Mr. White great credit for a shockingly salubrious spasm of candor. 

Now the only question will be whether their "adjustments" have been rapid and strong enough. 

The Balanced Scorecard, Version 5.0

One of the most famous management books in recent history is The Balanced Scorecard, published in 1996 by two Harvard Business School professors, Robert Kaplan and David Norton. If you've never heard of it, you should at the very least become familiar with its core precepts, which can be roughly summarized as recognizing that purely financial measures of performance are inadequate and that a multidimensional analysis is required to effectively evaluate your firm's organizational effectiveness.

There are basically four sections to the "balanced scorecard:" articulating your firm's strategy; communicating that strategy and linking it to relatively objective measures which clearly reflect your progress (or lack thereof) towards achieving the strategy; setting targets for individuals to inspire them to reach higher on those measures; and finally enhancing feedback and learning.

Now Kaplan and Norton are back with their fifth book as coauthors, The Execution Premium: Linking Strategy to Operations for Competitive Advantage. If you think this is a franchise they're milking, all I would say is give them a moment's credit for inventing the franchise--after which I agree with you utterly.

But in the land of business literature, where the average half-life of a concept can be measured in terms of one or at most two quarterly earnings releases, the "balanced scorecard" has legitimate legs, and so it's worth seeing what new they have to say.

As implied by the title, the new book takes leadership in crafting a credible, distinctive, and powerful strategic vision as almost a given (or at least as a prerequisite): "There are two key issues. First is leadership. Without strong visionary leadership, no strategy will be executed effectively." That's about all they have to say on the topic. The rest of the discussion focuses on how to actually imbue operations with the strategic vision or, in other words, how to get it done:

The normal course of events is for companies to focus on day-to-day operations and short-term problem solving. Management meetings focus on fighting fires and fixing problems. Often little time and few resources get committed to strategic issues.

We don't advocate abandoning an intense focus on operations and their improvement. But we do advocate planning strategy, not just describing it as important. The senior management team needs to have regular, probably monthly, meetings that focus only on strategy.

To emphasize the importance of marrying strategy to execution, they offer this quote perhaps apocryphally attributed to Sun Tzu: "Strategy without tactics is the long road to victory; tactics without strategy is the noise before defeat."

What's wrong with being strong on tactical execution? Obviously, nothing per se. In corporate America, tactics are often addressed through initiatives such as Total Quality Management, Six Sigma, and other "continuous improvement" and business process re-engineering efforts. All well and good. But they are typically pursued without regard to whether the processes that are being optimized are actually things the company should be doing. As the authors put it, "quality and process improvement programs are like teaching people how to fish. Strategy maps and scorecards teach people where to fish."

Here's a simplistic example from law firm land: A "zero-based budgeting" examination of your office space requirements--for partners, for associates, for staff, for the library, for conference rooms, etc.--might yield incremental improvements in how you allocate those expensive downtown Class AA building square feet. But they will not address the question of whether all the activities you perform in that premium space need to be performed there.

A stronger example might be in how you pursue development of your lawyers' client relations skills. If you are sufficiently progressive as to have a dedicated client relations or client focus program, good for you. But does it discriminate in favor of your best clients or is it scattershot across the board? Even more strategically, are the clients (and prospective clients) it focuses on informed by the types of work the firm aspires to get and the industries and practice areas you want to emphasize going forward? Not all dollars of revenue are created equal.

Don't assume a focus on strategy happens automatically.

Indeed, the authors recommend monthly meetings explicitly focused on strategy:

"[M]ost management meetings get consumed with discussions about short-term operational and tactical issues. It is important to meet to discuss and solve operational problems. But companies err when they devote all their time together for fire-fighting and coping with near-term issues. The formal strategy execution system schedules strategy review meetings at a different time from operational review meetings. In that way, each meeting has its own frequency, agenda, information system, and participation, as best meets the goals for that meeting."

Beyond monthly meetings, they recommend creation of what they call (they are business school professors, alas) an "Office of Strategy Management." Stop rolling your eyes and stay with me.

Think of the "OSM" as the managing partner's or executive committee's "chief of staff:" Not the person who sets the strategy, but the person who tries to ensure that (a) the right meetings are held (b) attended by the right people (c) with appropriate follow-up and follow-through.

Essentially, the OSM is responsible for making sure that nothing important falls between the stools, and that you have the right stools in the right places. Finally, they can reach out to less central but still important functions such as finance, recruiting, marketing, and IT, to make sure those departments' activities are closely aligned with the firm's espoused strategy.

Is your leadership team, then, delegating responsibility for day to day oversight of strategy execution? Not on your life:

"[E]executive leadership pervades every stage of the management system. Throughout The Execution Premium, we describe organizations that have successfully implemented their strategies. They operate in varied regions and industries ... Their strategies differ ... About the only common element all these diverse successful strategy implementers have in common is exceptional and visionary leadership. In every example, the unit's CEO led the case for change and understood the importance of communicating the vision and strategy to every employee. Without such strong leadership at the top, even the comprehensive management system we introduce in this book cannot deliver breakthrough performance.

"In fact, leadership is so important to the strategy management system that we make a rather bold claim that leadership is both necessary and sufficient for successful strategy execution. The necessary condition comes from our experience with the more than one hundred enterprises around the world who have become members of the Balanced Scorecard Hall of Fame. In every instance, the CEO of the organizational unit implementing the new strategy management system led the processes to develop the strategy and oversee its implementation. No organization reporting success with the strategy management system had an unengaged or passive leader."

At every stage, then, senior leadership is doing exactly what it's being paid to do: Leading.

You:

• set the ambitious agenda and "stretch" goals;
• explain and relentlessly communicate how each professional will have to adapt their behavior to pursue those goals;
• modify the firm's organizational units as need be to suit them to pursuing the goals;
• run the on-going strategy review meetings and determine what mid-course corrections are called for; and finally
• allow the strategy to be challenged as circumstances change, performance is evaluated, and professionals respond more and less favorably to the new mandates.

In many ways, the Holy Grail of leadership is to identify and articulate a compelling strategy tightly suited to the firm's capabilities and market opportunities, and then to assure that everyone starts rowing strongly in that direction.

The fact that it's relatively easy to state makes it no less daunting to achieve. How hard is it to state "I want to lose weight." "I want to stop smoking." "I want to get more exercise."

Or, "I want to align everyone in the firm with our carefully crafted and potent strategy."

Good luck. Seriously.

The Thirty Years' Associates Salaries War

Put these trends together, as reported by this month's issue of The American Lawyer, and what do you get?

• Midlevel associates, despite their pay jump since 2006, aren't satisfied with with their compensation;
• New York City salary levels have penetrated every major market across the country;
• The annual midlevel associate survey "shows associates eyeing the door;" and
• Howrey is continuing its revolutionary efforts to end associate lockstep.

I suggest you get what could be the beginning of cataclysmic cracks in the associate compensation/promotion/professional development model.

Shall we start with the easy stuff?

According to The Paycheck Report,

"Finally, everyone's being paid like a New York lawyer. Thanks to an informal wage freeze in the country's largest market, midlevels in other major cities caught up to the salaries of their New York counterparts this year, although they still lag behind in bonuses.[...]

"Even though New York salaries were flat, the data shows healthy pay increases elsewhere, as non-New York medians caught up with those in New York--$185,000 for third-years, $210,000 for fourth-years, and $230,000 for fifth-years. For midlevels outside of New York, those are one-year increases of 9 percent, 11 percent, and 10 percent, respectively. Nationally, median bonuses increased 17 percent for third-years, 21 percent for fourth-years, and 14 percent for fifth-years."

Next, we have the report from the front lines that even associates in firms receiving "going rate" salaries aren't satisfied if they don't receive going rate bonuses. You may be asking yourself whether the notion of a "going rate bonus" isn't an oxymoron, and I would be the first to agree with you.

At risk of revealing how far back my memory goes, and worse, at risk of appearing a curmudgeon, I do recall the days when bonuses were individually determined based on--quelle horreur--individual performance. But that was then and this is now. This says it all: "'Compensation is too low for the New York office' notes one Blank Rome associate. 'The bonus is not a market bonus, even if the salary is a market salary,' says another." As they say hereabouts: "Deal!" (Not as in, "you're on," but as in, "deal with it.")

The issue is not one of pay for performance, but one of comparative envy. And, to a large extent, of shocking law student ignorance about the differences between firms in training, culture, professional development, opportunities for partnership, strength of the alumni network, value of the firm's "pedigree" for future options, chances to spend some time in an overseas office, and so many other things that are critically important to one's future career.

So it comes down to money: "Students can’t easily differentiate between prospective employers, so they rely too much on pay as an indicator of prestige. Competitive and clueless, students are "the most uneducated consumers of law firm life and what it really means to practice," says a Simpson Thacher & Bartlett midlevel."

But associates may actually be the most brutally honest realists about what's going on. If their careers in BigLaw are destined to be "nasty, brutish, and short," they may be being perfectly rational. We all know that the odds of equity partnership are asymptotically approaching zero:

“We’re like pro athletes,” says a Jenner & Block midlevel. “Only a few will make equity partner, and [most] will have a limited amount of time at a big firm.” In that scenario, the growing paycheck becomes a substitute for an enduring career with a single firm."

In other words, you can buy allegiance--temporarily, and I hate to call it loyalty--by paying salaries that are arbitrarily and capriciously set by a "going rate" market that changes in unpredictable and unforeseeable epileptic seizures, but don't kid your associates that they're anything other than hired brain meat, the vast majority of whom will burn out from career-ending morale injuries. This is the problem:

"[T]he message from management was, 'We're just doing [the raise] because the market is doing it,'" recalls another Jenner [& Block] associate. "They're not raising because they value us. We're just the collective beneficiary because the firm needs to keep up in the market. It’s a back-handed compliment."

OK, I put it harshly, but is this any way to sustain and grow a superb, world-class professional services firm?

And what ever happened to the old dream of making partner after serving your years at Parris Island boot camp?

Maybe that doesn't hold the delayed-gratification appeal it used to, either. Start with the twin facts that: (a) partnership is not the tenured position it used to be, with de-equitizations rampant; and (b) partners work only marginally lower hours than associates, and have more non-billable hour responsibilities, so, in the famous joke, the achievement is seen as "a pie-eating contest where the reward is more pie."

This sums up the change in the mindset:

When Arnold & Porter's director of professional development, Caren Ulrich Stacy, started working in law firm recruiting in the mid-'90s, she says there was one question that she could count on hearing from every incoming associate, be it a new law school recruit or a potential lateral hire: How long does it take to make partner here? But today, Ulrich Stacy says, it goes largely unasked. "I've maybe had that question once in the past five years," she says.

It seems not to be a mask for insecurity. Associates still report (70+%) that they're "on partnership track," and even in today's straitened economy fewer than a quarter say their hours are lower, while fully a third say their hours have increased.

So if it's not insecurity, it's what?

Lack of desire: They may not want partnership.

For one thing, they see some junior partners working even more ferocious hours than their own. "There have been times when I have been watching a movie late at night that I've gotten an e-mail from a partner," says a Latham and Watkins third-year ... Adds a midlevel [at another firm]l: "When you see how many hours [junior partners] put in, you realize there really is no end to it."

Yet isn't there more to life as an associate, and as a partner, than grinding out the hours? The happy news is yes. And there may be hope that those firms willing to work on what that "more" is may be able to put together career paths that make financial, emotional, and professional sense for associates and financial and client-service sense for the firms.

Here are some clues:

"The professional development programs are all well and good," says one Arnold & Porter midlevel. "But in terms of learning the craft, you can't beat learning through a real-life experience and working on client matters."

And this:

"I wanted a place that would treat me like an adult, as opposed to a place that would hold my hand for three or four years before letting me do anything of substance," says one Gibson Dunn midlevel.

And this:

Howrey chief professional development officer Heather Bock adds that the pitch to this generation of associates has to include more than just a prospect of partnership. The question Bock asks herself: "What is it that we can offer these high achievers that will appeal to them?" One of Howrey's answers is to offer a two-to-three-day intensive academy each year of an associate's career. (The firm ranks in the top third of the survey overall, and in the top 10 in terms of training.) "We try to make it a very high-impact experience," Bock says. "It's very rare for them to come and listen to hours of PowerPoint presentations."

Arnold & Porter even employs two career counselors--former lawyers both--who help associates navigate internally within the firm or even help them plot an exit strategy; and it's all confidential. What do these efforts have in common?

• Treating associates as autonomous adults, not fungible factors of production.
• Giving them the rope to hang themselves, if hang themselves they will.
• Taking "professional development" seriously. It's not about videotapes and PowerPoints.

Take this thought experiment a step further, and broaden it out from one firm to BigLaw in general.

What do associates want?

Essentially, they want two things, in varying mixtures: Money and training.

We're actually very strong, and extraordinarily undifferentiated, at the first, and wildly variable on the second, from firm to firm, department to department, and even partner to partner.

Here's the thought: What if firms chose to position themselves along a two-dimensionally differentiated spectrum from exceptional pay and minimal training to exceptional training and below-market pay?

Wouldn't associates be able to make informed choices about where they wanted to begin their careers, based on their own needs, goals, and aspirations?

Now imagine adding other dimensions to these two simplistic ones:

• Higher or lower partner:associate leverage.
• More or less pro bono work.
• Clarity (this is a challenge to communicate to law students) about whether your firm is focused on corporate, finance, and transactional work, or on litigation and dispute resolution.
• Clarity (again, a challenge) over whether your firm is regional, national, or truly international, and the opportunities (or lack thereof) for, say, spending three years in Hong Kong or moving to the EU for an extended tour.

Associates are complaining that high salaries don't equate to career satisfaction. Is this any surprise? Recall the "back-handed compliment" remark?

Imagine differentiating your firm on dimensions that truly matter, and which you can communicate as:

• credible;
• distinctive to your firm; and
• beneficial to potential associates.

And start thinking about what those dimensions might be pretty soon. Because when the next jump in first-year salaries comes--and it will be to $200,000, I predict--you may want to have other, truly meaningful, differentiators in mind. Other than going to $210,000, that is.

Bubbles

This is about the Cadwalader layoffs.

But I won't be piling on. I really won't.

Instead, I'd rather examine how the firm got to this unhappy pass and what managerial lessons it might hold in store for us. To understand what brought it to cutting fully 20% of its lawyer headcount vs. late 2007, we have to begin, not at the beginning, but at what the firm has just done. Here are the highlights key decisions:

In a statement Wednesday the firm said: "From 2003-2007, when [commercial mortgage-backed securities] issuance tripled, the firm grew rapidly to meet client needs. With CMBS issuance now at a small fraction of previous levels, we are making these personnel adjustments in response to this change in demand. In September 2008, the firm will have 580 lawyers, the same number we were in January 2006."

At the end of 2007, the firm had around 720 lawyers.

Adding to Cadwalader's woes are that Bear Stearns (RIP) and Lehman Brothers, now under siege, were key clients. One unnamed "chairman of another leading New York firm" said that he was not only "stunned" by the scale of Cadwalader's layoffs but added that this economic downturn feels "fundamentally" different than the post-9/11 and post-dot-com falloffs.

"Those were lulls in activity," he said. "This is a fundamental change. A whole segment of capital markets has disappeared and we're not sure when it will come back, in what form or if it will ever come back."

The real challenge to Cadwalader may yet lie ahead. Reportedly, all of the 96 lawyers let go this week (and the 35 let go earlier in the year) were associates or "of counsel." The question this immediately poses is: And not a single partner? Not one? It's possible, of course, that some partners have been "spoken to," and since Cadwalader is not responding to requests for comment, we don't really know.

Yet I promised this would not be about this week and more about how a firm could get into this fix. For that we have to go back to a strikingly revealing interview a year and a half ago profiling Bob Link, then Chairman. The first insight into Link (the article starts in the context of "bowling night out" at Cadwalader) is "'Don't let him fool you,' someone says as Link, 52, takes down another frame. 'He's the most competitive person you'll ever meet.'" Profits per partner were on a tear, at more than $2.5-million in 2005 and $2.9-million 2006. Link had set out to make the firm almost obsessive about profitability. This from the February 2007 profile:

The oldest law firm in America and once one of the most genteel, Cadwalader under Link went through a wrenching and controversial 1990s turnaround during which it transformed itself into perhaps the nation's most aggressively profit-focused law firm. Today's Cadwalader, at which big producers are lavishly rewarded and underperformers are shown the door, presents a stark alternative to the more conservative ways of New York's traditional top-tier firms.

"They are definitely the firm to watch," said the managing partner of one leading New York firm recently overtaken by Cadwalader in the profit charts. "Even though they recognize the business realities, most law firms still hold on to certain ways of doing things. Cadwalader is run like a corporation."

But whether a law firm should be run that way is a question Cadwalader is far from definitively answering. The departure last week of antitrust chief Steven Sunshine, lured to the firm just two years before from Shearman & Sterling and now heading to Skadden, Arps, Slate, Meagher & Flom, underscores persistent criticisms that the firm, while able to attract star laterals with high pay, is unable to build sustainable practices around them.

And Cadwalader's approach has won it a reputation for ruthlessness that suits some but turns off others.

"It's exactly the shark tank that everybody says it is," said former partner Robert Vitale, "If you're a shark, it's great."

Now, of course, Link is no longer Chairman, but the seeds of this week's news were well and firmly planted at least a few years ago. In February 2007, he readily proclaimed the firm's success in concentrating on structured finance:

"Are we going to have difficulty sustaining this?" he asked. "No, short of some cataclysmic event that hits everyone else too."

This puts me in mind of nothing so much as the infamous quote by Chuck Prince, late of Citibank:

"When the music stops, in terms of liquidity, things will be complicated. But as long as the music is playing, you’ve got to get up and dance. We’re still dancing,” (he said in an interview with the FT in July 2007).

Unfortunately, Chuck Prince didn't foresee just how "complicated" things could be. Including forfeiting his job in short order. (Link, as noted, is no longer head of Cadwalader, either.)

Other elements of Cadwalader's pursuit of profits included:

• Very high leverage. Roughly the same size as Davis Polk in total lawyer headcount, Cadwalader had only half as many partners. Link's observation on this: "Why would I have any more partners than I need?"
• The abrupt closing of the firm's 15-lawyer Palm Beach office led to a lawsuit by a former partner (who was awarded $2.4-million) and led to these remarks by the judge overseeing the case: "Such activity cannot be said to be honorable," Palm Beach County Circuit Judge Jack Cook wrote in his 1996 decision. "While life in the marketplace may well be made up of fear, greed and money ... life in a partnership is not so composed."
• Partners with less than $5-million in business were "eased out."

But the question of deepest interest is whether Cadwalader had embarked on a new business model that we all should attend to, and which was unfortunately waylaid by the vagaries of the financial services industry's cyclicality, or whether the model was fundamentally flawed. Eighteen months ago the former partner, Vitale, posed the question thus:

But the difference between Cadwalader and other firms he has been with is still striking to Vitale. Though he said there was no question that Cadwalader had achieved tremendous financial success, he said the firm still seemed to be trying out a "new model."

"It'll be interesting to see whether they've really built something that lasts," he said, "or if it's Finley Kumble in richer clothing."

Getting closer to the point, Link staunchly defended the firm's concentrating its practice on asset-backed and structured finance, and Vitale underscored the difficulty the firm had in accommodating to the investments required to build practices that would diversify its exposure to the markets.

First, Link:

The engine of the firm is its asset-backed structured finance practice. Link made his name in the area and still serves as the firm's practice leader. It is a specialized area ...

It is not generally regarded as a premium practice area like M&A or high-yield bond offerings, and some have questioned how Cadwalader could have achieved such impressive results from that foundation. For the most part, the other major firms in the area are not Sullivan & Cromwell or Simpson Thacher but non-New York firms like Sidley Austin or Orrick, Herrington & Sutcliffe.

The head of another New York law firm described securitization as a high-volume "commodity" practice, an area top firms avoided because of their inability to command premium rates in it.

"Somehow they've managed to make a success of it," he said of Cadwalader.

[...]

According to Link, the firm only wants to be in those areas where it can achieve a similar level of profitability, primarily those revolving around financial institutions. This discipline also explains why the firm has avoided most overseas expansion apart from London and a small office in China. In the United States, Cadwalader also only has offices in Washington, D.C., and banking center Charlotte, N.C., aside from New York.

"All other offices are dilutive," said Link.

And, Vitale:

Cadwalader's tight focus can clash with its attempts to expand into new practice areas. Vitale said it was frustrating trying to push the firm in a direction that required investment but guaranteed no immediate return. The firm did not yield.

"The firm decided that what it needed to do to expand its project finance practice, it wasn't willing to do," said Vitale.

In his case, he said, what the firm needed to do was swallow the pill and open some overseas offices, particularly in Latin America. The firm's unwillingness to do so meant its project finance group had a hard time competing for business with more global firms. Cadwalader could be a lonely place for those outside the humming core practices, he recalled.

And there you have the stark contrast: Link stands for reinvesting and doubling down in highly profitable areas--given the extant market conditions--while Vitale stands for the school of thought that investing in different practice areas could yield dividends down the road.

Today the choice facing Cadwalader is far more stark than the quasi-intellectual debate between Link and Vitale 18 months ago would have you imagine.

But consider this ineluctable responsibility of management: The task of management is to choose. The task of management is to decide. And the task of management is to do so with an eye towards likely future scenarios. Expecting a bubble to continue growing linearly to the sky is a mug's game. "Everyone thought it would grow to the sky," you retort? Goldman Sachs didn't; the vast majority of the AmLaw 200 didn't, and (we learn through recently released emails), even S&P, one of the great enablers of the bubble through their promiscuous granting of investment-grade ratings to toxic CDO's, knew it was a mug's game: "We can't rate this thing, it's a joke." "Don't you know we rate everything? We'd rate this thing if it were put together by cows."

Is it possible Cadwalader's management was thoroughly in the dark about the nature of the structured finance bubble? Were they in touch with their clients? Did they read the WSJ? Did they think strategically beyond what it would take to create a strong and sustainable law firm for the future, other than showing up for work every morning and answering the phone?

In a way, you can compare the Link/Vitale schools of thought to the grasshopper/ant fable that you recall: The ant spent the six months of summer storing up provisions for the winter while the grasshopper lived off the seemingly endless fat of the land. And we know what happens when autumn arrives.

This brings us to Cadwalader today. While it's scurrying to develop new practices, such as private equity, one has to wonder if its cultural DNA is capable of the long-term investments needed.

In the last year, the firm has established a private equity practice led by former Latham & Watkins star R. Ronald Hopkinson, as well as an intellectual property litigation practice comprising several former Morgan & Finnegan partners. The firm also substantially boosted its bankruptcy practice with the recruitment of four partners from Weil, Gotshal & Manges.

But it is unusual for new practices and partners to immediately boost a firm's bottom line, and some question whether Cadwalader acted wisely in investing heavily in private equity, another practice severely impacted by the tightened credit environment.

"You can't just buy some PE guys and present yourself as an alternative to Simpson Thacher to [Kohlberg Kravis Roberts & Co.]," said the [unnamed] firm chairman.

The question, of course, is whether the firm's reputation in the recruiting market will suffer long-term damage from laying off 20% of its lawyers (albeit, as noted, no partners). But the other question is whether those partners reflecting the figurative grasshopper mentality are willing to stick around through what could be, relatively speaking, winter.

Zero Tolerance to the Rescue

"This is [the program] in its best light. But what lies beneath is a pattern of behavior that places law firms at risk. Generally, the improper activities take place out of the spotlight. ... [Participants] expressed a sense of feeling powerless about how to respond. Their anecdotes offer a sobering look at a long-standing culture. ...Often deeply in debt, it is difficult for [people] to do anything but endure.  ... The rules are never explained, but known to all."

What sinister environment is being described here?  The accounting department at Enron?  A major firm in the midst of a humiliating e-discovery meltdown?  People at the heart of the UBS tax fraud/evasion probe?

None of the above:  The answer is summer associate programs at AmLaw firms.

We are graced with this insight today courtesy of The National Law Journal. 

The bill of particulars?

• "Everything is free. The atmosphere is higher class than anything we are used to, and the pressure to attend every event, including the after-parties, is significant." 
  • This from an unnamed summer associate at an unnamed firm—suffering mightily from the expectation to attend high class events.
• "Summer associates report an atmosphere that seems to condone inappropriate comments and sexual overtures. Consider, for example, the married partner with children who was overheard at one event asking a young woman what her dating age range was." 
  • I would submit that whatever "her dating age range" is, the partner has demonstrated he's far too juvenile to fall into it.
• "Law firms further contribute to the problem by sending inconsistent messages."
  • And this would be a first in the American workplace?

Altogether predictably, the advice for remedying this is the nanny state's first line of defense:  "Zero tolerance." 

"One suggestion is to develop clear rules for personal conduct and communicate them not only to the summers but to associates and partners, making it clear that everyone will be held accountable for a zero-tolerance policy. Zero tolerance needs a safe haven for communicating concern and the assignment of more than one person to whom a summer associate can confide."

Finally, we are advised that "Law firms could derive a significant competitive advantage by transferring the enormous resources from late-night parties to programs providing creative training and mentoring."

Where to begin?

Could we revisit the balance between investing in associate recruiting and investing in associate mentoring?  I know firms are doing that constantly.  Frankly, they're complementary, not conflicting.  But that's merely a numbers game, and the tenor of the article has nothing to do with numbers.

Actually, this reminds me of nothing so much as the history of instituting risk management and loss prevention programs at firms.  Back in the dark days, when every partner was a cowboy, conflicts checks were cursory, work went loosely supervised, "best practices" was a phrase the future would invent, and, not surprisingly, claims against firms occurred with some predicctable frequency.  Think of it as the equivalent of the open bar summer associate parties, only grafted into the mindset of the 1950's and 1960's.

In the next phase of loss prevention, firms embarked on serious-minded, admirable, and largely effective efforts to institute policies and procedures.  Conflicts checks were institutionalized, new matter opening procedures got teeth, work was formally reviewed.  Now entrants to the bar are at least being carded and reminded not to proposition anyone (be they opposite or same sex, and emotionally older or younger).  But of course, human nature being what it is, not all misbehavior disappears.  And firms still buy E&O insurance.

Which roughly takes us to today:  Policies and procedures are great, and yes, I imagine most firms would say they enforce them with "zero tolerance"—certainly for egregious, intentional, or repeated violations, if not for inadvertent, trivial, and sincerely regretted infractions.

But one more ingredient is still missing, and it's the ineffable one that cannot be instilled no matter how many all-hands emails go out and no matter how many trainers are brought in to conduct "risk management awareness" sessions.

The ingredient is a combination of emotional maturity and culture:  The potent combination of knowing in your heart of hearts that "that's not the way things are done around here" and the wisdom and perspective to follow through on those core values in moments of darkest and deepest temptation. 

So, no, it's not about the "zero tolerance" police, whose guiding assumption is that people are children whose knuckles need to be regularly rapped.  It's not about workshops and HR guidelines, and it's not about "a safe haven for communicating concern."  It's about knowing you're in an adult environment, believing you have earned the right to be there and belong there, and living up to the implicit promise you have made to your colleagues and to your firm (and to yourself).

Update (24 July 2008).  A regular reader writes:

Hubba, hubba, Bruce! 

I won't comment on the apparent horrors that young adults who graduated from college a year or two ago are encountering when forced to participate in many high-level social events in the presence of alcoholic beverages.  What a shocker that must be. 

But I am clear about one thing:  Being asked your dating age range is simply a question that may or may not deserve an answer. 

Fielding such a question may even feel awkward or difficult and could require finesse.  But that's life -- sometimes awkward or difficult and sometimes eased with a little charm. 

Speaking just for myself, I long for a sense of balance and a little grace and humor, now gone, in these conversations and recall with nostalgia the sign that once hung on the back of my office door in the early 1990s:  "Sexual harassment will not be tolerated here.  But it will be graded." 

Ann Lee Gibson
www.annleegibson.com

As facetious as the sign on the back of the door was meant to be, doesn't it express a core human truth?  There are pitches and there are come-on's, in life and in business, and then there are pitches and come-on's.  Adults can tell the difference, even if the nanny police cannot.

The Bi-Modal Starting Salary Distribution

My friend Prof. Bill Henderson of Indiana University School of Law has just published a highly significant column titled "How the 'Cravath System' Created the Bi-Modal Distribution." At least one blog ("MoneyLaw") has already deemed it "The blog post of the year;" be that as it may, it's worthy of the attention of any serious student of our profession.

The "bi-modal distribution" Bill discusses is that of salaries of starting lawyers, which for the Class of 2006 looks like this (all diagrams courtesy of Bill):

This is unlike any normal labor market salary distribution I've ever seen. Yes, to be sure, there are the "winner take all" labor (read: talent) marketplaces in industries such as professional sports, celebrity entertainment, and CEO compensation, but those are sui generis for reasons we all understand. What I mean is this is unlike any normal labor market involving tens of thousands of people and not just a handful of superstars.

Even more intriguingly, this is a recent development. Things were not always thus. Here are the graphs for 1991, 1996, and 2000 (the Internet boom, you will fondly recall):

How does Bill explain this? Here's the heart of his theory:

"What are the market forces that have created this peculiar salary structure? In my working paper, "Are We Selling Results or Résumés?: The Underexplored Linkage Between Human Resource Systems and Firm-Specific Capital," I posit that the runaway $160K mode is a confluence of two factors: (1) the continued growth in the corporate legal services market, primarily due to the growing scale and scope of transnational corporate activity; and (2) law firms' nearly universal adherence to the "Cravath system," which purports to hire the best graduates from the best law schools and provide them with the best training."

To understand Bill's thinking there is of course no substitute for reading the primary text, but I'll outline it for you briefly:

• 30, 40, and 50 years ago, firms that were the predecessors of today's AmLaw 100 hewed to the totemic "Cravath system" in ways unimaginable today. For example, a researcher found that in the early 1960's 73% of the lawyers in "law firms" (not solo practice) in Detroit came from Harvard, Yale, Columbia, Chicago, and Michigan law schools.
• The expectation/need of paying top "going rate" salaries to recruit people of that caliber became ingrained in law firm practice and behavior and partner expectations (or, as Bill puts it, "partners remained psychologically wedded to their own perceptions of eliteness."
• This model is becoming increasingly unsustainable.

I have my own take on Bill's fascinating data, which I first posited well over a year ago: The bimodal distribution of starting lawyer salaries is not, economically speaking, an equilibrium condition. It will change.

The last great associate salary spike, from $125Kto $160K, took place roughly 18 months ago when times were flush. Even then, some firms began panting at the effort to keep up. (Recall that the instigator of that spike was Simpson Thacher, which didn't have to raise its resting pulse to manage the spike.)

The next spike—I won't predict when it will be but I will predict it will be to $200K—will leave a lot of firms crying "Uncle." They will stop struggling to keep up with the receding red lights moving on down the highway. And it will be economically rational, geographically defensible, and culturally unifying.

Is Your Firm Innovative? As Innovative as Pixar?

Does it strike you (as it does me) that the noise level surrounding "innovation" in law firms is reaching crescendo proportions? Just in the last few months, I've written about Legal OnRamp, Allen & Overy's mini-conference on innovation here in New York, Eversheds' 21st Century Law Firm survey, Altman Weil's Legal Transformation Study, different ways of measuring lawyers' quality, the FT's expanding its "Innovative Law Firms" awards to the US next year, whether GC's really want change, how J+J innovates, NovusLaw, Axiom Legal, the potential impact of the Legal Services Act in the UK, etc., etc. It's enough to make one's head hurt--or to make you cry "uncle" and decide to stick with the tried and true model of business as usual unless and until the roof falls in.

Tempting, indeed.

But part of the genius of capitalism is that standing still means losing ground. So if "innovation" is here to stay, perhaps it's time to take a page from a firm that's almost by definition a genius at innovation: Pixar.

Our good friends at McKinsey provide the helpful background in "Innovation Lessons from Pixar Director Brad Bird."

Let's start with where innovation comes from: Unexpected places (they cite the Wright Brothers, "bicycle mechanics," as the fathers of heavier-than-air flight, and the muscle-bound Pentagon as the inventor of the Internet). Bird, whose name may not be household, has won Academy Awards for best animated feature for The Incredibles and Ratatouille. What are some of the ingredients of "innovation," as he sees it?

"Bird discussed the importance, in his work, of pushing teams beyond their comfort zones, encouraging dissent, and building morale. He also explained the value of “black sheep”—restless contributors with unconventional ideas. Although stimulating the creativity of animators might seem very different from developing new product ideas or technology breakthroughs, Bird’s anecdotes should stir the imagination of innovation-minded executives in any industry."

An initial insight of Bird's is the peril of complacency. When he arrived at Pixar, they had recently released three animation blockbusters: Toy Story, A Bug's Life, and Toy Story 2. And Steve Jobs said "the only thing we're afraid of is complacency." Given a mandate to change things, Bird proposed what was to become The Incredibles. Bear with the slightly technical background to get to the organizational point:

"The Incredibles was everything that computer-generated animation had trouble doing. It had human characters, it had hair, it had water, it had fire, it had a massive number of sets. The creative heads were excited about the idea of the film, but once I showed story reels of exactly what I wanted, the technical teams turned white. They took one look and thought, “This will take ten years and cost $500 million. How are we possibly going to do this?”

"So I said, “Give us the black sheep. I want artists who are frustrated. I want the ones who have another way of doing things that nobody’s listening to. Give us all the guys who are probably headed out the door.” A lot of them were malcontents because they saw different ways of doing things, but there was little opportunity to try them, since the established way was working very, very well.

"We gave the black sheep a chance to prove their theories, and we changed the way a number of things are done here. For less money per minute than was spent on the previous film, Finding Nemo, we did a movie that had three times the number of sets and had everything that was hard to do. All this because the heads of Pixar gave us leave to try crazy ideas."

Around this time you're doubtless thinking, "Black sheep? Crazy ideas? Guys headed out the door? Hand the car keys to them?"

Bear with me.

One of Bird's key insights is that innovation can result from not having to hold every single aspect of every single project to the same (unattainable) degree of superbness. It's unattainable, you understand, on the assumption that you want to get the project out the door before it's overtaken by events. Here's how Bird puts it in Animation Land:

"There are purists in computer graphics who are brilliant but don’t have the urgency about budgets and scheduling that responsible filmmakers do. [...] I’d say, “Look, I don’t have to do the water through a computer simulation program. If we can’t get a program to work, I’m perfectly content to film a splash in a swimming pool and just composite the water in.” This absolutely horrified them. Or I’d say, “You can build a flying saucer, or you can take a pie plate and fling it across the screen. If the audience only sees the pie plate very briefly and you throw it just right, they will buy it as a flying saucer.”

"I never did film the pool splash or throw the pie plate, but talking this way helped everyone understand that we didn’t have to make something that would work from every angle. Not all shots are created equal. Certain shots need to be perfect, others need to be very good, and there are some that only need to be good enough to not break the spell."

Admit it: Isn't it true that "not all shots are created equal" and that not all aspects of a deal's documentation are created equal? What if "good enough to not break the spell" were deemed an appropriate quality level for some types of documentation?

But let's pursue innovation a bit more deeply. Where, again, should you look for it? Let's back away from the notion that it's the crazy people and explore what Bird is really saying:

"Q: Do angry people—malcontents, in your words—make for better innovation? Can you be innovative and also happy?

"A: I would say that involved people make for better innovation. Passionate involvement can make you happy, sometimes, and miserable other times. You want people to be involved and engaged. Involved people can be quiet, loud, or anything in-between—what they have in common is a restless, probing nature: “I want to get to the problem. There’s something I want to do.” If you had thermal glasses, you could see heat coming off them."

And of course there's another angle to motivation and involvement, which is morale. To paraphrase the bumper sticker about education, if you think building morale is expensive, try the cost of dispirited professionals:

"In my experience, the thing that has the most significant impact on a movie’s budget—but never shows up in a budget—is morale. If you have low morale, for every $1 you spend, you get about 25 cents of value. If you have high morale, for every $1 you spend, you get about $3 of value. Companies should pay much more attention to morale."

How do you help make all this happen?

I'm not a fan of architecture as a cure-all (which runs the risk of letting management think the space will do their work for them), but there is surely something to be said for throwing people into situations where they're likely to run into colleagues they wouldn't ordinarily encounter. You may draw the line at the bathrooms, and the atrium isn't feasible in Class A Capital Markets office space, but consider what you could learn from this:

"Then there’s our building. Steve Jobs basically designed this building. In the center, he created this big atrium area, which seems initially like a waste of space. The reason he did it was that everybody goes off and works in their individual areas. People who work on software code are here, people who animate are there, and people who do designs are over there. Steve put the mailboxes, the meetings rooms, the cafeteria, and, most insidiously and brilliantly, the bathrooms in the center—which initially drove us crazy—so that you run into everybody during the course of a day. He realized that when people run into each other, when they make eye contact, things happen. So he made it impossible for you not to run into the rest of the company."

Do your litigators run into your transactional people? Do your M&A people run into your project finance people? For heaven's sake,do paralegals run into partners?

All is not necessarily rosy on the innovation campaign front, of course: You can have innovation destroyers, starting with passive-aggressive people "who don't show their colors in the group but then get behind the scenes and peck away; they're poisonous."

Most importantly, the greatest innovators are the perpetual students, the people for whom curiosity is a disease, who can never be satisfied simply by duplicating what they did last time around. Bird talks about meeting some of the legendary Disney animators when he was a teenager:

"I met a lot of the great old master animators. Their worst animation was 1,000 times better than this new director’s best, yet they would get to the end of a film and say, “I just started to feel like I was understanding the character, and I want to go back and do the whole thing over. Can’t wait for next time!” They were masters of the form, but they had the attitude of a student. This guy taking over the studio had only done a few pieces of pretty good animation, and he was totally satisfied. Could not have been less inspiring."

So the question for your firm might be: Are your lawyers inspired to perpetually learn? Do they wish they could go back and do the deal again, litigate the case again, knowing what they know now? Are they passionate about applying what they've learned to the next client and the next engagement? Are they, essentially, never satisfied?

If so, you're on the road to having an innovative firm.

Thoughts on Innovation from the Firm That Brings You the FT's "Innovative Law Firms" Award

Here's an addendum to the coverage I gave to Eversheds' Report on The Law Firm of the 21st Century, as well as to the story I published last month on the conference held here in New York sponsored by Eversheds.  This email came in over the weekend from RSG Consulting. 

If you're not familiar with RSG, you're almost surely familiar with their work.  Perhaps their most high-profile work is as research partner (now for the third year) to the FT's annual "Innovative Lawyers Report." Next year they will be expanding the report to benchmark US firms. 

Dear Bruce,

As the research consultancy, which designed and conducted the 100 interviews for the 21st Century Eversheds report, we wanted to add our thoughts, if we may.

The most interesting revelation emerging from our research is the gap between client expectations and law firms’ performance. A general counsel at a FTSE250 company said, “Law firms at the moment get the benefit of clients not taking a standardized approach to tackling issues. There aren’t many other areas that have escaped so miraculously from significant re-engineering. GCs only have themselves to blame. There has not been a consistent call anywhere for the legal profession to rethink the provision of services to business. It’s a medieval guild. “

That’s a powerful client who knows the symptoms and has produced a diagnosis for what might be called ‘Big Law Malaise’. The general counsel of a Fortune 100 company felt that the lack of forward thinking amongst big law firms would soon end: “At what point in history was the horse and trap most successful? About the time Henry Ford released Model T.“

Is the stage set for radical change? Not even the impending recession will really affect the prosperity of the biggest firms or alter their behaviour. But we do see evidence from another research project we designed, the Financial Times Innovative Lawyers Report, that law firms are gradually re-engineering themselves.

Last year, the UK’s top ten firms earned combined revenues of 6.3billion. Some of this revenue was ploughed back, in the case of Allen & Overy, into an innovation panel with a two million pound budget. Innovations submitted from other firms ranged from non-lawyer project managers to partnerships with third parties to both enhance their client service offering and their roles as responsible businesses.

This year, the innovations are more client-focused and consciously add value. Some are even positively imaginative!

Big law firms are broad churches; they are homes to both great experts and commoditisers. Some high priests pursue the new in legal expertise as if their livelihoods depend on it (they often do) whilst triumphantly resisting any other form of change. Meanwhile, those in the next office devote considerable intellectual and financial capital to the next generation of IT-based systems that will deliver tomorrow’s legal advice quicker and more efficiently.

In other words, great change and great stasis can co-exist – as they have done in the history of many a service industry. But law firms who understand themselves and who are willing to adapt to changing business conditions will close that gap between them and their clients.

Congratulations on a fascinating e-resource,

RSG Consulting

My take on this?

His core observation that large law firms are "broad churches" with room for many approaches to client service is surely correct.   The truly high end, "bespoke" client matters will always go to the Magic Circle, the New York elite, and their equivalents (Latham, etc.), and that is a tried and true model that has worked for a century or more. 

The challenge will, as always, be on the more routine, "commodity" type work.   Specifically, it will be whether those firms—or others, perhaps, that specialize on doing little else—will be able to design and deliver compelling value through the innovative use of IT combined with creative fee arrangements.  People have a tendency to look down on this work and this segment of the market as second tier, ever so slightly "slumming," and not where the excitement and challenge are.

I beg to differ.

If anything, figuring out how to profitably deliver these more routinized—but essential—legal services to the FTSE 100 and the Fortune 500 is the territory that's uncharted.  Marty Lipton presenting a seven-figure bill "for professional services rendered" is at this point an old game that everyone understands.  Few if any people really understand the new market.  Which means mistakes will be made and experiments will fail.  That's what experiments are for, you know; just don't run the failed experiment a second time.  Here, and not in the "premium, price-insensitive, high-end work," is where innovation in new business models will occur.

2011 Is Not Far Off

Richard Turnor, a partner in the Private Client Group at Allen & Overy, has penned for Managing Partner Magazine one of the more thoughtful pieces on the implications of the Legal Services Act in the UK.   In particular, he asks the same question I've been asking for some time: 

"After ‘Big Bang’, many, if not most, of the historic financial institutions in the City of London disappeared – replaced by the global giants that feature so prominently in today’s reports of turmoil in the financial markets. Will the Legal Services Act have a similar effect on the law firms of today?"

He begins by reviewing the reasons sophisticated firms might welcome outside investment—embracing the so-called "Alternative Business Structure" model—which include:

• Building their brand;
• Upgrading IT systems and infrastructure in order to compete more cost-effectively in existing markets;
• Financing the development of "know-how" (knowledge management to Yanks) systems and precedent banks;
• Covering investments in penetrating new markets, presumably either practice areas or geographies;
• Using the newly-created market for equity in the firm itself to incentivize non-lawyers in senior positions at the firm, or to buy out underperforming partners, or simply to let current partners monetize a portion of the discounted present value of their anticipated earnings stream.

Usefully, he provides a recap of the regulatory hurdles outside England and Wales.  They are numerous:

• At the moment, Australia is the only other jurisdiction that permits "ABS"'s.
• Scotland is beginning to consider amending its rules to conform them to those in England and Wales, "so as to enjoy a level playing field," but that process is far from complete.
• Spain permits up to 25% non-lawyer ownership since 2006.
• In France and the Netherlands, lawyers cannot share revenue with non-lawyers, making ABS's a non-starter there.
• Germany focuses more on regulation of individual lawyers than on firms' structures, so the jury may be out as to what's ultimately permissible there.
• And finally, of course:

"The US, in particular, would be a problem for international firms with branches in New York and New York lawyer partners. If non-lawyers were admitted as partners, every partner who was a New York lawyer would be in breach of the New York Code of Professional Responsibility and subject to disciplinary action."

Conflicts and client confidentiality, as well, will need to be seriously addressed.  At a bare minimum, there can be not the barest scintilla of a suggestion that outside investors could sway what matters a firm does or does accept, who it does or does not represent.  And client confidentiality must be maintained with the utmost punctilio.    In reality, I view thse problems as far more hypothetical (and even hallucinatory) than real:  What firm in its right mind would compromise on either of these counts one iota?  The damage to reputation would immediate and probably fatal.  Nor, I might add, do we see self-defeating debasing of standards in other industries where public companies are the norm:  Airlines have no interest in accidents and crashes for the same reason that pharmaceutical companies have no interest in adulterated drugs and Goldman Sachs has no interest in shading its advice post-IPO.

But Mr. Turnor rightly fingers a more telling consideration: 

"Firms will also need to convince their own lawyers, and the managers who may be partners from 2009, that an ABS can offer a career as rewarding as a career in a more traditional law firm – despite the fact that future profits will have to be shared with investors. Will the introduction of outside capital, and the opportunity to participate in the equity and make a market in shares, create value and earning power that counterbalances the diluted profit shares of the partners? Why not borrow from a bank instead?"

This, to me, is the heart of the economic debate that must be resolved before ABS's will be attractive to investors—and to existing partners and other stakeholders in conventional law firms. 

Put simply, if the outside capital cannot increase the total profits pie by more than the amount it will be withdrawing for a reasonable return on investment, then the entire exercise should be aborted before birth.  

Unfortunately, we have seen this in some professional service industries before.  Famously, in the 1980's, much of the New York-based advertising industry went public or was acquired by already-public firms.  The sad but typical experience was that senior executives and other favored insiders at the time of sale cashed out their interests to the tune of tens of millions of dollars, but the underlying economics of the ad agency business did not change. 

It still required virtuoso copywriters coming together with inspired art directors under the strategic direction of clear-eyed account management to identify and articulate each client's "unique selling proposition."  The fact that some who had the luck of fantastic timing and were able to exit at the top did not expand the agencies' war chest for recruiting top talent or wooing top accounts.  They were simply one-time monetizing events, with the vast majority of proceeds captured by exiting inside shareholders.

But fortunately, we know this model doesn't work and with luck we won't go down that path again.  (I hate to be the one to break the news to those of you in the audience who are 55—65 and at your career peaks in terms of "points" and so forth....)

Are we getting ahead of ourselves? Will the potential outside capital even be there? I have no doubt it will, and Turnor chimes in: "Lyceum Capital certainly thinks so, and has announced the appointment of a heavy weight team (Tony Williams, Richard Susskind and Paul Hewitt) to advise as it seeks to establish a position in the legal sector." [Disclosure: Tony Williams has been a friend for years and "Adam Smith, Esq." is in a strategic alliance with his consulting firm, Jomati, while I also Richard Susskind a friend.]

So let's assume the money is available, either from private equity or the public markets. What might we confidently predict will happen?

• Certainly, consolidation and potentially "roll-up's" of existing consumer and family-oriented legal services should take place, including practices such as:
  • Routine small scale real estate transactions;
  • Matrimonial law: Pre-nup's, divorces, child custody agreements, separation agreements;
  • Small business law: Incorporations, partnerships, shareholder resolutions, routine contracts, employment issues, general housekeeping;
  • Garden-variety employment disputes: Harassment, unfair terminations, discrimination;
  • Torts and negligence: Personal injury, car accidents, workmen's compensation, occupational hazards, slip and fall, etc.
  • Low-level criminal defense work: Misdemeanors, DWI, and so forth.
• Perhaps the introduction of legal services into the "product mix" of companies with large retail branch/distribution networks where legal advice is not too far afield from what they traditionally provide. Here, I doubt that "Tesco law" will be first (although Tesco is a consummately innovative organization so I could well be wrong). But what about banks or other financial services industry providers. Why wouldn't Bank of America (say) introduce BofA Law, or H&R Block, or Charles Schwab? They have trusted brand names and provide services inarguably relevant to legal advice, already.
• Essentially, any area of law where price, convenience, and baseline reliability are more important considerations than pedigree, impeccable quality, and bespoke services is a candidate for new entrants.

Beyond that?

I'm not an expert on corporate and partnership structures in the UK, but the good Mr. Turnor hypothesizes that outside investors could participate through more traditional law firms structured as LLP's permitting outside investors "in" in the form of a corporation which is a new member of the LLP. Assuming this is structurally correct (and it sounds eminently plausible to me), the next question is what dynamic influence their introduction into the LLP would cause.

Permit me to suggest a few:

• Pressure for more merit-based pay and performance evaluations.
• The expectation of senior non-lawyer staff that they'll be able to participate in the profits and growth of the firm.
• The inexorable introduction of more professional senior "C-suite" executives.
• Greater lateral mobility between firms (yes, I do mean even greater), especially for the newly empowered C-suite executives.
  • Meaning "the rich get richer"--this is part of capitalism's charm.

And overall, the changes will increase the tempo and decrease the cycle time of decisionmaking.

So what's to be done?

Most important of all, it's time to realize that we can't predict what will happen. The only failure that is inexcusable going forward is a failure of imagination. If law firms have never had meaningful access to capital on market terms (true), the challenge is not to think linearly from that world, but to think disruptively about what could happen--what business models could be invented--if capital access opened up. Will there be failures? To be sure. Successes? To be sure.

First, start thinking about these changes now. Once your competitors are not thinking about them but acting on them, the clock will have tolled midnight.

Second, take a hard, unblinking look at your firm's capabilities:

• Its internal strengths and weaknesses;
• Its external threats and opportunities;

and what your partners and partnership are capable of. (Let me add this counsel: Don't underestimate what people are capable of. "Stretch" goals often inspire inspiring behavior.)

But whatever you do, be hard-headed and realistic. Go it alone may not be an option, for example. That you should not take as a counsel of defeat. Rather, pursue that path (whatever path!) from a position of strength, not weakness.

One thing is certain: If "stay the course" seems a comfortable and time-tested strategic plan, that may be a complacent luxury you will soon be unable to afford.

Lessons From Johnson + Johnson

Knowledge @ Wharton has an enlightening interview with William Weldon, CEO of Johnson + Johnson, on the challenges of leadership in a decentralized company.   You may think the scale of J&J (120,000 employees, $61-billion in revenue, operations in dozens upon dozens of countries) means there's no analog between what he does and what you do, but I think his insights into how you manage a fundamentally decentralized organization harbor valuable learning for law firms.  If you're inclined to agree, read on.

First, a word about the analogy between J&J and a large law firm—whether or not you're international.  Your offices, practice groups, and even individual client teams operate with a very high level of autonomy, certainly by the standards of corporate America.  That's why I think it instructive to listen to someone as thoughtful as Weldon talk about leadership in that context, where the sheer fact of J&J's over 200 operating companies means they'll be operating autonomously:  Even if he devoted a full day to each operating company, it would take him the entire year to cycle through all of them before starting over.  Is, then, running such an enormous organization fundamentally impossible or impracticable?  Not at all; he sees advantages to it.

"I think there are pluses and minuses to decentralized and centralized. I think J&J is probably the reference company for being decentralized. There are challenges to it, and that is you may not have as much control as you may have in a centralized company. But the good part of it is that you have wonderful leaders, you have great people that you have a lot of confidence and faith in and they run the businesses.

"If you look at Japan, for example, we have the local management running the companies. They understand the consumer, they understand the people they are dealing with and they understand the government and the needs in the marketplace. Whereas it's very hard to run it from the U.S. and to think that we would know enough to be able to do this. [...] But, with our credo and the value system that we work under, we feel very confident about our leadership and our management -- and you have to have trust and confidence in them.

"I think the other thing that decentralization does is that it gives you a tremendous opportunity to develop people. You give them a lot of opportunity to work in different areas, to work in smaller companies, to make mistakes and to ultimately move to larger companies."

There's much in here.  Listen again:

• You sacrifice control but you gain great people, who develop into leaders, assuming you have "a lot of confidence and faith in them."
• You get your operations closer to the ground, closer to the customer, and for that matter closer to the regulatory authorities.
• But—and this may be challenge #1 for law firm leaders—you have to be realistic about ceding control and realistic about people "making mistakes."  (Don't tell me you never made a mistake in all your career?)

And also listen to what he has to say about mistakes:

"The challenge really... I see it as a great benefit, rather than a challenge. This is because the problem with centralization is if one person makes one mistake, it can cripple the whole organization. This way, you've got wonderful people running businesses. You have to have confidence in them, but you let them run it -- and you don't have to worry about making that one big mistake."

In the current environment, haven't we seen firms that have made "one big mistake?"  Betting bigger and bigger on markets just as they were becoming frothy?   (Or, in the previous dot-com downturn, betting on Northern California at the top.)

Perhaps the supreme and ongoing challenge for J&J is maintaining the pace of innovation.  Law firms don't face this to the same degree, but I believe inventing new legal forms (new types of financing vehicles, for instance, or creative new covenants) is one of the few ways firms have to create an enduring impression in clients' minds that they are not only unlike their peer group but unlike their peer group in a most admirable and "unlawyerly" way:  They're legal entrepreneurs.

How does Weldon describe how J&J pursues innovation?

It starts with decentralization:  "Where decentralization helps in innovation is that it allows different people with different skills, different thoughts, to bring together different products and technologies to satisfy the unmet needs of patients or customers."  Not that it's without its challenges, and they are the familiar ones of expense (which is highly manageable if you believe in this), but more importantly the challenge of getting people to, even briefly, let go of the familiar (emphasis supplied):

"It's the ability to work across the boundaries that really brings true innovation, and is going to take some real breakthroughs and will bring real breakthroughs in the future. But, it also does take some coordination and some sacrifice from the individual. That is the toughest thing, getting people to get outside of the silos that they work in and work across the groups."

Yet isn't this precisely the way innovation works? The most famous legal innovation of the past couple of decades, Marty Lipton's poison pill, arose at the intersection of newfangled, gunslinging, hostile M&A and plain old Delaware corporate law.   Securitization (which will return—make no mistake) was initially a sort of weird child of banking regulatory law and bond indentures sprinkled with pixie dust.

What then might we do?

• Don't be afraid to set people free, even to the point of making mistakes. Even the most quality-obsessed companies in the world (Lexus, for example) recognize that defects are a fact of life.  "Zero defects" is a recipe for paralysis.  The question is not achieving zero but dealing constructively with defects that arise.
• Prod people to get out of their comfort zones and work—at least episodically—with other practice groups or other offices.  Barrels of ink have been spilled on how "Creative Companies" (IDEO, Apple, Google, et al.) ensure that employees run into people outside their group or function all the time—typically with something as simple as architectural design and layout of the offices.  Next time your firm is planning a move, you might interview a designer who has created spaces like these firms have.
• Finally, understand that letting people expand into their own leadership roles will only happen if they have a functioning ethical and professional autopilot.   Recall what Weldon said at the start of his conversation: 
  
  "[B]y being decentralized; what you do lose is control. But, with our credo and the value system that we work under, we feel very confident about our leadership and our management."

The key phrase is "with our credo and value system."  Is that something you can say with equal confidence about your firm?  The Johnson + Johnson Credo (crafted by Robert Wood Johnson in 1943 just before the firm went public) is a vibrant document today.   Whether or not your firm has anything similar written down, do your partners, associates, and staff live your firm's values?

Because if they don't, decentralization is not a workable option for you.

Northwestern Law School's "Accelerated JD" Program: It's Not About the Two Years

Late last week Northwestern University Law School in Chicago announced an "Accelerated JD" program, compressing the same 86 credit hours earned by traditional three-year JD students over the course of six semesters into five semesters over two years.  The compression of credits results from a combination of starting in the summer, taking extra courses each semester, and picking up credits through mini-courses between semesters.  (Students will start classes in May and graduate in May, two years on.)

But the real story has very little to do with compressing three years into two:  It has to do with a fundamental re-thinking of what a legal education entails.  The other components of the accelerated program include:

• A limit of 40 students in the first class, rising to 65 in subsequent years;
• A requirement that each individual applicant be interviewed;
• A requirement that they have at least two years of "substantive work experience" under their belts (sounds as though backpacking across Europe and Asia on your trust fund developing your "foreign language and cross-cultural sensitivity skills" wouldn't cut it); and
• Most importantly, the inclusion of two new and one existing course as new requirements.    As the NWU press release puts it:  "The two new courses would be devoted to quantitative analysis (accounting, finance and statistics) and the dynamics of legal services behavior (involving social networks, teamwork, leadership and project management); the other course focuses on strategic decision-making (improving students’ ability to understand the strategies pursued by their clients and organizations)."  The point of this, to paraphrase Northwestern Law's Dean, David Van Zandt, is to help prepare students for the way lawyers actually work today.

No sooner was it announced than it was denounced.  Perhaps this shouldn't be surprising, as Van Zandt noted with a slight air of resignation:

"Van Zandt said he expected some criticism. "Any time you innovate, you are always going to have people who pooh-pooh it or look down their nose," he said. "Law and legal education is tremendously conservative.""

What type of denunciation?

"University of Chicago professor and former dean Geoffrey Stone called the two-year program "irresponsible" and said it risked producing inferior lawyers who haven't had time to develop intellectual and analytical skills.

"My sense is that compressing the educational process is likely to seriously derogate from the quality," he said. "What is lost is likely to be much more than anything that is gained by hustling the students through more quickly."

And this:

"University of Illinois associate dean Lawrence Solum said students in a two-year program would have less time to explore career opportunities during the summer.

"Law school is already an extraordinarily intense experience and my gut instinct is that cramming it into fewer weeks and months is not likely to improve the quality of the education," he said. "If anything, law students already are doing too much in too few hours."

And—quelle surprise!—the commentariat on Above the Law and the WSJ Law Blog were, admittedly with exceptions, rambunctiously dismissive.  For example:

• Let's get this straight. The new two-year program would ...

  1. Cost the same;
  2. Allow no breathers between semesters; and
  3. Make it harder to find a full-time job at a big firm.

  If NW really wanted to be innovative, they'd make their third year optional.

• Wow. Just when I think I couldn't be any more ashamed of my Northwestern Law degree, they go and do something like this. Way to dilute whatever value a NW degree has and turn law school into a vocational school in the manner of any number of unaccredited California TTTs. Jesus.

• This is just another way for Northwestern to cheat on the US News rankings. Just like some law schools admit students into their night programs so they do not “count” in US News, NWU will admit students into the “short program” who will not get counted against NWU in the rankings. Free money from 50 below average students without the threat of sinking in the US News rankings or the faculty revolt from having an onerous night program. Great idea.

You get the idea. 

And the "exceptions?"  Those who had something positive to say.  They tended to be, excuse the phrase, adults.  For example:

• This is not a new idea. Back in the sixties, I came out of the Army and immediately began a 27 month law school curriculum at the University of Michigan, starting in June of one year and ending in an August 27 months later. Most of my colleagues in this program were a little older than the students in the regular, full 3 year program, having, like me, done a stint in the military or worked a few years after college in some sort of job. In fact, most of them were already married. [...] When I left law school, I joined one of the large first tier law firms, and I was a distinctly odd man out, because my peers at the firm finished the bar exam half a year before I did and had also enjoyed the work and bonding experiences of a summer together as interns. Still, I felt that the advantages accruing to me overall outweighed these disadvantages. For one thing, a space of several years between college and law school resulted in my being more mature when I started law school and, I think, made me a far better law student. (By my last year of college I was a real goof off, and might well have failed out of law school if I had gone there straight out of college. This is exactly what happened to a good college friend of mine.) And of course, as others have noted above, I basically gained back a year of time lost in military service and picked up an extra year to work and make the big bucks in my chosen profession.
• I totally agree with you. As an Iraq vet, it was beyond excruciating to watch another 3 years drain away sitting in a library - especially when I got little out of it. I don’t think the last year of credits is worth anything at all, intellectually. It would be better to implement a two year program, and then maybe add an optional third year that allows law students to do each semester as an externship somewhere - that way they at least get some practical experience.
• This is a visionary experiment, as is the experiment now going on at Washington & Lee. Bottom line: the three-year model is unnecessary and all the power behind it — the ABA and the AALS in particular — cannot stop the momentum behind a two-year law school curriculum. In two decades, it will be gone.

Clearly, Van Zandt intends to make Northwestern distinctive.  Referring particularly to the two new courses in quantitative analysis and in social and emotional skills, he says:

"For us to be successful, we have to be producing students that the rest of the world wants. Just producing people who are great at legal analysis, they are a dime a dozen out there now," Van Zandt said. "We are trying to differentiate our students in a way that is positive."

Earlier today I had a chance to talk with Dean Van Zandt and learned quite a bit more about the impetus for the program and its background.  Here's what I learned from him.

He's been in his post for over a decade and when he started he decided to undertake a comprehensive review of the law school's plans. The first step was to start looking for applicants with substantial post-college work experience, and a second step was to become the first major law school to conduct interviews as part of the admissions process. He reports that this past year they interviewed 75% of their 4,500 applicants, a substantial investment in manpower and time (although alumni can help with some of the off-campus interviewing). As for work experience, the incoming class stacks up as follows:

• 95% have worked at least one year after college;
• 82% have worked two years; and
• 58% have worked three years or more.

When they started this effort, the Dean assumed that they'd have to compromise on academic quality and be willing to suffer a small decline. But the opposite has turned out to be the case. From the time they started the "work experience" program until today the average LSAT has gone from 164 to 170, a greater increase than that of any other law school during the same period.

Another surprising benefit was to get more applicants coming from the East and West coasts. The Dean explained the dynamic this way: "Normally, aspiring law students will apply to Harvard, Yale, Stanford, and then some 'safe' schools nearer to home. In the Midwest, that often meant us, Chicago, maybe Iowa and Indiana, whereas in the East it would be Columbia, Penn, NYU, and in the West Berkeley, USC, UCLA. But by differentiating ourselves on the work experience parameter we find students outside our home territory are now applying to us."

A key part of the program, and the part of greatest interest to me, is the changed curriculum. It now focuses on six fundamental competencies that Northwestern has decided are of critical importance to its students (more on how these competencies were identified in a moment):

• project management and leadership;
• teamwork;
• strategic understanding of the client's business and organization, as well as how people in organizations make decisions and how they navigate organizations (in this the law school is greatly aided by having Kellogg Business School professors teach the basic strategy course);
• basic communication skills, including:
  • basic exposition;
  • training in formal legal writing and legal analysis;
  • contract drafting; and
  • business exposition, meaning how to take your recommendations and analysis to the client, be it orally, in a one-page memo, or in PowerPoint;
• quantitative analysis, including financial statements and statistics; and
• globalization: What skills do you need to be effective in a global business, how to work cross-culturally (not substantive legal expertise).

The Dean points out that when he graduated from law school technical excellence (along with many many long hours) was enough to make partner in a big New York firm, but no longer. Today, it's all about understanding the client's business.

Students often tell him that they aspire to being "international lawyers," and they start counting up the number of courses in the curriculum that have the word "international" in the title. He jokes that he'd like to sprinkle all the courses with the word just to make students feel better, but the actual advice he gives is different:

• become a very good Anglo-Saxon common law lawyer;
• go to work for a truly international US or UK firm;
• try to get on matters involving their transnational clients; and
• you will soon enough find yourself to be an "international lawyer."

Did he experience any pushback when trying to get the program started?

"Interestingly, much of it was from the existing students and faculty; very little of it was from the alumni, because they understand this is the way the world works."

And how exactly do the new required courses, the previous work experience, and the acceleration of the degree tie in together? "The idea was to put together one integrated package that--we hope!--will appeal to a slightly different cross-section of applicants, and a slightly different cross-section of employers. And limiting it to the small initial size means we don't have to up-end the law school! After all, it's been around for 150 years.," he says, with a smile in his voice.

The emphasis will clearly be on everything that the traditional law school admissions process overlooks:  The ability to lead teams, emotional maturity, interpersonal and communications skills, a degree of business understanding of the world that goes beyond what LSAT's select for, and (the ultimate goal) the ability to work with clients from the start, in an environment where business operates globally and law penetrates the operations of business in unprecedented ways.

Now let's step back a moment and ask how this might change the law school dynamic.

To begin with, what type of student is likely to self-select into the Northwestern program?  I strongly suspect they will be drawn from the ranks of the "adults"—and not just because of the prior "substantive work" requirement.  As we could infer from the "commentariat" I noted earlier, this program will appeal to people who are serious about getting on with their lives and getting to work.  (I would like to imagine it would have appealed to me.)

Then you take those students who already, by hypothesis, have a higher level of emotional maturity than your average shoot-the-lights-out LSAT overachiever, and immerse them for two years in a program emphasizing teamwork, quasi-real world experience, probably a dose of international exposure, and specific training in quantitative analysis including finance, accounting, and statistics, as well as training in group dynamics (teamwork, leadership, and project management).

If you ask me, putting on my metaphorical hiring partner's hat, the graduate coming out of that program is who I want to interview first, before those coming out of the conventional program.  The "accelerated JD's" will have:

• Real world work experience, and presumably a dose of the realism that comes with it about what it takes to earn a dollar;
• Impeccable academic credentials—this comes with the territory;
• A fighting chance to hit the ground running, with a grasp of business fundamentals both from the theoretical perspective and the hands-on perspective; and
• On average, a couple of more years on them than conventional JD's.

All it will take is a few high-profile AmLaw firms showing a revealed preference for those graduates for the next shoe in the marketplace dynamic to drop:  Given heightened demand, law schools will respond to the demand by increasing the supply of graduates with this type of profile.   Northwestern will surely be included:  Indeed, I have asked myself whether this program isn't the Trojan horse designed to take over the entire school in due course. 

In the meantime, in the market's recursive fashion, isn't it likely that more "adults" might find the accelerated JD attractive, and the post-graduation career prospects more promising?  Extend this thought experiment only a tad further to imagine that they would in fact be all-around better associates:  Higher-performing from the start, more realistic about work and therefore likely to stay longer, better suited and better skilled for what they actually have to do and therefore more likely to succeed (which feeds back into predicting lower attrition), etc., all in a virtuous loop.

And the problem of intellectually overqualified emotional dwarves, much discussed at the Georgetown Law conference on The Future of the Global Law Firm, will begin to be ameliorated.  Not through ABA or AALS regulation or accreditation, not through changing a single component of a single state's bar exam, not even through law school alumni pressuring their preferred Alma Mater to turn out people with at least a fighting chance to succeed, but through the market's invisible hand.  Then, how long indeed, before the classic three-year curriculum is gone?

On his cv, it says that Dean Van Zandt majored at Princeton as an undergrad in sociology, and that his Ph.D. from the London School of Economics was also in sociology.   But I'm betting he spent a fair amount of time slumming over in the economics department. 

The Great Divide

Last week Eversheds sponsored a conference in New York, primarily targeted at senior inhouse counsel, to discuss the current and future state of relations between law firms and inhouse departments.  It was not pretty.

About 90% of the attendees were the chief legal officer of their companies or just a rung or two below, representing companies such as GE, Cisco, Tyco, Schering Plough, FMC, and other major companies you've heard of.  Jeffrey Carr, GC of FMC, delivered the keynote:  The first half was a thought experiment imagining the law department of 2020 where all the information he needed about case loads, new developments, assignments, deadlines,  etc., was delivered by an artificial intelligence engine with a voice mildly reminiscent of an English butler.  The second half was Jeff delivering a stemwinder about the out of control  costs of outside counsel, the relentless 6 to 10% annual growth in legal fees, the incongruity of those increases in the cost-constrained corporate world, the insanity of first year associate starting salaries, and the menace of $1,000/hour rates.

The conference  featured instant wireless audience "voting" devices, and a couple of dozen questions were scattered through the morning session, the responses  to which the event's organizer has been kind enough to provide me with. 

This was one of the initial questions asked, I might note, before Jeff's keynote:

What single factor has the biggest impact on your company’s legal function right now?
                - the economic downturn
                - involvement of procurement / purchasing function
                - the pace/scope of global growth in your business
                - recent corporate crisis or regulatory issue we had
                - rising costs of outside counsel

And here are the responses:

After the keynote, Peter Kalis, Chairman of K&L/Gates, the only law firm managing partner in the audience to my knowledge, posed the first question to Mr. Carr [paraphrasing]:  "How do you square  your emphasis on costs with the response to that question, which indicates that 4 out of 5 people here do not consider outside counsel cost their largest challenge?  In particular, about twice as many rank the complexities of global growth their key concern."

Another question dealt with the degree to which law firms understand the clients' key concerns [1= poorly, 5 = very well]:

Not an impressive grading, overall.  Yet the next question indicates the inhouse counsel believe they're  doing a fairly cogent job of explaining the "business  and constraints" of matters to their outside counsel:

It strikes me that these two responses are, shall we say, lacking alignment. 

A subsequent question recurred to globalization [1= not very; 5 = highly]:

Not to dwell on Pete Kalis' point, but with 90% of respondents rating their companies as quite global—and half selecting the strongest option available on that score—I would submit that their need for law firms with comparable global capability has never been greater.

Next came the related issues of project management and knowledge management, which many observers of this scene, myself most violently included, believe could do  more to rationalize how outside and inside lawyers handle litigations and transactions, than any other readily available tools.

Ready for our next disconnect?

So 60 out of 62 agree with me.

Yet they don't believe  their law firms are doing a remotely decent job on this score:

Yet when asked, by implication, whether their departments would be willing to collaborate with outside firms to improve knowledge sharing, about 3 out of 5 don't want to make the investment:

If the question is not mutually supportive investments (we'd prefer not to) but rather cost sharing for budget overruns, we  get a drastically different  story:

Predictably, law firms were also charged with being insufficiently concerned with costs—a charge evidently given heat and force by the pressure inside counsel feel on precisely that score.  Yet firms, in their defense, noted that:

• In this economic environment, they have never been more concerned with costs, especially as top-line growth is challenged; and more importantly:
• The three  primary costs for firms (in order) are:
  • Lawyers;
  • Rent and occupancy; and
  • Insurance.
• Essentially none of these three are negotiable or discretionary in the least. Firms cannot scrimp on talent (nor, I imagine, would their clients want them to), cannot move their offices to Jersey City, and in the insurance market are pure price-takers, not price-makers. All other costs amount, economically, to nickels and dimes.

As noted, one particular element in the bill of particulars indicting law firms' practices was the high level  of associate salaries.  Not only were they obnoxious, unjustified, and objectionable per se, but they forced inhouse departments to pay extravagant amounts to recruit their own staff attorneys. 

By now you perhaps won't be surprised to discover that this particular count of the indictment is not widely supported when push comes  to shove:

Of the following, what is the most challenging issue for your legal department in responding to global demands?

• finding and keeping in-house lawyers with skills for cross-border work
• managing the complexity and diversity of global demands
• dealing with regulatory compliance as we grow globally
• dealing with risks and disputes as we grow globally

In other words, only about 6% of respondents actually name "finding and keeping in-house lawyers with skills" their key concern.

Let me conclude with—I believe—one of the most illuminating results  of all.

We know that towering above all other objections to how law firms do business is resentment of the almighty billable hour.  So yes, yours truly suggested the following question to the organizer:

The billable hour will disappear during my career:

• Yes, because it’s a preposterous measure of “value.”
• Yes, because it sets up an inherent conflict between the law firm’s and the client’s best interests.
• No, because it’s simply too ingrained.
• No, because law firms would be tempted to overcharge.
• We already use “alternative billing” for the majority of our work.

And the results?

My reading? "Alternative billing" has an embarrassingly small "market share," and for all the bemoaning everything that's wrong with the billable hour, the vast majority are resigned to its continued reign. 

I won't go so far as to characterize these findings as a counsel of despair, but I was taken aback—briefly, shocked—by the apparent absence of engaged, constructive, creative, imaginative dialogue between firms  and senior inhouse counsel.  The complaints are  familiar—perhaps too familiar, as if we've become  exhausted by this conversation.  And yet the gulf shows  no signs  of narrowing, or (imagine!) being bridged.

David Wilkins of  Harvard Law School has described the evolution of corporate/law firm relations metaphorically as  moving from that of  a marriage to that of serial dating to that—he hopes—of joint venturing.  Joint venture partners each bring indispensable  capabilities to the mutual enterprise, both understand they can't achieve  their goals without the other, and both  show sincere deference to and interest in their  partner's economic and professional viability.   Is that too much to expect?

On the current evidence, it may well be.

Update (Sunday 22 June, 5:00 pm)

Jeff Carr of FMC writes:

Bruce -- the Eversheds conference was an eye-opener for me not because of the depth of despair, but rather for the simple reason that a major international law firm hosted the event.  At least personally, I've grown tired of speaking about the problem -- because the true problem is on our side of the table -- that is in-side counsel.  Firms are indeed acting quite rationally and we are acting as if this is a highly inelastic market.  Indeed it is not -- we simply choose to believe it is. 

One of the slides I used at the conference compares our "depth of despair" to the coping cycle of a cancer patient -- you know, denial, anger, despair, acceptance, healing.  Most of my brethren are firmly ensconced somewhere between denial or despair -- but we cannot rest there and the happy little band in which I travel (Dupont, Cisco, CP Chem, Tyco and others) seem to be joined by more and more fellow travelers.  I believe we are near a tipping point and it is time to engage our firms in meaningful dialogue about how to get back to value -- the new ACC [Association of Corporate Counsel] project Fred Krebs talked about at the conference hopefully provides a context for those discussions.  We need our law firm partner/providers to be successful and profitable -- they need to change their business model to focus on profits as opposed to top line revenue growth in a cost-plus world.
 
 
All the best,
 
Jeff

Others?  Time for you to weigh in. As painful as this dialogue me be (cancer death?!), it is shockingly overdue.

You know where to reach me.

Update:  25 June 2008.  E. Leigh Dance of ELD International, Inc. writes:

Dear Bruce,

You captured well what we saw and heard at the June 12 conference. As one of the conference “organizers” you mention in your June 21 posting, I have two observations:

In the last six to nine months I’m witnessing a leap in the global trends we’ve been seeing climb year to year. I’m about as internationally oriented as an American can get, and yet week to week I add to my list of fast-growth markets whose cities I can’t spell (without Google, how fast can you find Tallinn, Florianopolis or Chongqing ?) Every multinational corporate counsel I talk to these days is facing a huge increase of business investment and focus in emerging markets (read: higher complexity, risk and exposure), coupled with heavy pressure on legal costs in mature markets.

Generally these counsel just don’t see their law firms as allies to meet the challenge. The conference findings show clients don’t think many outside counsel really understand their issues or can organize themselves to help effectively. That’s not just a damn shame, it’s one very big opportunity. Lots of law firms are growing offices here and there and many are happy to grab high-margin multi-jurisdiction transactions, but precious few firms are offering clients deep, consistent and practical assistance to cope with this global tipping point.

It makes it easy for Eversheds (one of those few) to tell a good story, as it has done over the last year or two and did again in New York earlier this month.

Second observation: more than despair among these CLOs, you were seeing underlying anger. Some of their responses were unreasonable, and that’s a sign of their frustration. With global demands mushrooming, they see marginal help and rising costs from their law firms. Many in-house lawyers want to defend their outside advisers, but often they aren’t given much ammunition to fend off aggressive procurement functions. Meanwhile, the double-digit law firm profits that clients worldwide keep seeing in legal media have an effect similar to soaring gasoline prices. Market forces or not, it seems like others are getting fat off their backs, and it hurts. Law firms have been good at marketing expert advice—but advice is only a fraction of what companies need to successfully address their legal issues globally.

Best regards, Leigh

_____________________________________________

E. Leigh Dance, ELD International, Inc.

[Bruce again:]

Leigh makes some powerful points:  First of all, the disconnect is "not just a damn shame, it’s one very big opportunity."  BigLaw, take note.

Second, "more than despair among these CLOs, you were seeing underlying anger.  Some of their responses were unreasonable, and that’s a sign of their frustration." 

I would add only (as I've written before), that GC anger at starting associate salaries is profoundly irratiional, and I can only chalk it up to a toxic combination of envy and resentment.  Why is it irrational?  Because as a business person (or as an economist), you should care less about what your suppliers pay for each of their factors of production: You should care only about the final product or service delivered.   Perhaps an example disconnected from law-land will help.  We know that many parents (and students, with loans) bemoan the rising cost of Ivy League educations.  Fine, and GCs are entitled to bitch about law firm rates.  But the irrational component is to single out associate salaries for  invective.  People struggling under the weight of Ivy League tuitions don't frankly care whether the burden is attributable to professors' salaries, an "edifice complex" at the college, or the cost of cleaning dorm common areas of beer cans and peanuts Sunday mornings.

And as Leigh recognizes, when a reaction is irrational, it's really about something else.  People who aren't making sense are sending a signal that there's something else going on you're best advised to tune in to.

New York's White Shoe, the Magic Circle, and Historical Path-Dependency

Chambers has a nice seasonal report it mails to subscribers, but it doesn't provide it online. This is a pity (and, I predict, a practice with a finite half-life), but one of the articles in the issue I recently received (August 2007 for those of you following along at home) is too rich to escape comment: Success or Failure? UK law firms in New York.

The subhead is "After struggling in New York for years the magic circle has at last gained some traction. But have London firms downgraded their brand in the US in order to upgrade their profits?"

Well, this is a typically British journalist cheeky lead-in, but the article has some genuine substance:

• A former senior Linklaters partner comments: "The British firms arrived in New York thinking their names would carry a lot of weight, but people had no idea who they were and didn't really care; the firms took too much for granted."
• Paul Wickes, a 59-year-old bankruptcy litigation partner who left Shearman & Sterling along with three other partners in 2003 to join Linklaters/New York found an office "bereft of direction, low on morale, hemorrhaging partners, and losing money." He quickly realized the composition of the office was not, shall we say, aligned with the local marketplace: "I remember saying to people in London after we joined that a third of the New York practice should be litigation and their eyes would get wide! But to make an international firm a success its offices have to reflect a mix of the firm's overall strategy and the local market realities."
• Litigation now makes up 31% of Linklaters' US business, and 34% of Clifford Chance's.
• The type of litigation the Magic Circle seem to excel at is US-centric but where the party involved is based overseas and there are concomitant regulatory proceedings in various jurisdictions.  This is becoming more common, according to Rob Khuzami, general counsel for the Americas at Deutsche Bank:  "I was skeptical about the need for multi-jurisdictional litigation capability:  I couldn't think of many matters when you'd need it.  but in the last year or so that's changed."  Today there may be cooperative regulatory investigations by the SEC in the US, the Financial Services Authority in the UK, and BaFin in Germany.

But the real question is not what has happened, but what will happen, and here the piece has some observations that portend trouble for US firms' push abroad.

The fundamental dynamic has been that London-based firms, faced with a relatively small domestic market, and with a bred-in-the-bone orientation towards both continental Europe and the US, got a long head start in international expansion.  Meanwhile, New York-based firms, sitting on top of what for a long time was the most lucrative market in the world, not only saw no urgency to establish costly beach-heads abroad—they reasoned (inarguably, if short-sightedly) that international expansion would dilute profitability during the invest and build-out phases.

Tony Williams sums it up like this: 

When the US investment banks—Goldman Sachs, Morgan Stanley, and the rest—expanded into Europe and Asia in the late 1980s most white shoe firms decided "to leave them to their own devices:  It could prove a key strategic error.  The American firms, given how profitable they were, didn't invest in London or Hong Kong at that time.  This was wrong and complacent.  If they had, the UK firms' international ambitions would have been stillborn.  But because of that oversight British firms are on the radar in relation to New York deals because bankers move around.  The decision makers in Manhattan will have spent time in London or Hong Kong and used the British firms."

The final crack in the wall of Fortress New York may be the finally-competitive levels of PPP the Magic Circle are generating.  Consider these numbers (the most recent available as of publication of this column):

• Linklaters,:  £1.62-million, or $3.25-million
• Allen & Overy: £1.54-million, or $3.1-million
• Clifford Chance:  £1.15-million, or $2.3-million
• Freshfields: £1.44-million, or $2.9-million

The moral is simple:  The parity of PPP "has given many good lawyers the confidence to move laterally," as Ward Bower of Altman-Weil puts it.

And it's not just about lateral partners:  Consider the market for new associates.  What percentage of Harvard Law School graduates are now non-US natives?  [Tick tock tick tock....]  23%.

"Among the best students who are interested in Linklaters, an enormous proportion have something international about their background," says Paul Wickes.  "We see  a lot of students that have grown up somewhere other than the US and have language skills.

"The student who interviews with us one day and with a Wall Street firm the next faces a relatively conventional decision on one hand, and something more unusual in deciding to come to us. The thing that will tip people in our favor tends to be the opportunities we offer as part of a genuinely international firm."

Assume for purposes of argument that 80—90% of classic New York white shoe firms' lawyers are in Manhattan; that proportion is reversed, at the very least, for Magic Circle firms.  Be careful what proportion of top-notch students you may be ruling out.

And we'll give Wickes the last say:

"What top New York-based firms need to be worried about is what we're doing in the world at large," he retorts [at those sniping at the Magic Circle's slow start in  New York].  "If anybody thinks that the battleground for legal services today can be described in terms of individual geographical markets, they've missed what's happened in the last five to ten years."

Do I believe New York firms are behind the eight-ball in their international growth?  (1)  Yes. (2)  At the moment.  Marketplaces have a way of surprising people with their dynamism, especially the incumbents who, if you believe this article, are the Magic Circle.

But beware linear extrapolations.  The historic path-dependency of the New York firms may explain their positions today, but alter that historic reality—as we are witnessing with our own eyes—and be prepared for the landscape to take on different contours, potentially with great rapidity.  

Lessons From Toyota

Have you ever considered a completely different approach to strategic planning for your firm? An approach kind of like Toyota's?

Let me explain.

There are traditional and classic strategic plans, which typically focus on practice group and geographic reach, perhaps with an overlay of a third dimension of client or industry focus. These can be amplified and implemented by organizational and structural adaptations including practice group management, client relationship initiatives, and business intelligence and profitability analysis toolkits.

These are relatively familiar—even if honored most often in the breach—but consider a different approach entirely, namely Toyota's.

Now, understand that Toyota is light-years away from being a stranger to classic strategic planning. They came to the US marketplace with extremely modest offerings (early critics called their first cars "two motorcycles bolted side by side," and worse) but relentlessly and purposefully moved upscale, with the Camry now the best-selling car in the US. (The Toyota Corolla is number 5, the Honda Accord #2, the Nissan Altima #3, and the Honda Civic #4, shutting the US out of the top five altogether, but that is not only a topic for another day, it's not a topic for "Adam Smith, Esq." tomorrow or ever.)

Finally, Toyota has gone upscale in a large way with its introduction of the Lexus line. (And for my earlier thoughts on what that might mean for law firm land, see Lessons from Lexus.)

The real genius of Toyota's rise to becoming top automotive manufacturer in the world lies elsewhere altogether. It's simply the "Toyota Production System," as described summarily in this wonderful New Yorker "Financial Page" piece by James Surowiecki (who's always worth reading, by the way).

The "TPS" began after World War II when Japan was rebuilding and capital, equipment, and labor were all hard to come by. A Toyota engineer named Taiichi Ohno decided to make a virtue of necessity by instituting a system to get the absolute most out of every part, every machine on the assembly line, and every worker. The principles were, and are:

• Do away with waste;
• Have parts arrive the moment they're needed, not before and not after; and
• Fix problems as soon as they arise.

You may be saying to yourself that these principles are not new, and they're not. Ohno borrowed from both Andrew Carnegie and Henry Ford, among others, not to mention throwing in a healthy dose of common sense. But the secret of the TPS is that it's no secret at all. According to Surowiecki, more than 3,000 books and articles have analyzed Toyota, they regularly give exhaustive factory tours, and concepts such as the andon system (a simple pull-cord that any worker can yank at any time to signal a problem and shut down the entire assembly line) have been widely adopted.

Let me remind you of another company that did things differently, was wide open about it, and ran away from its peers in the industry (at least for awhile): Dell Computer, with its zero-inventory model, building no computer until a customer had ordered it, collecting the cash payment upfront and delivering the machine later, thus becoming one of the first companies of any substance to have negative working capital--the higher its order level, the more cash it had on hand.

The Dell model worked brilliantly until laptops slowly began to overtake desktops in market share. What's wrong with that? Simply that people like to physically see, handle, pick up, and hold onto laptops before they buy them, whereas they're comfortable buying desktops (physical) sight unseen. Dell has since regrouped, but the point is simply this: Dell's model was totally transparent; everyone knew what it was; Michael Dell himself was happy to explain it ad infinitum in the business press; and yet no one managed to copy or even seriously emulate it.

Which brings us back to Toyota. The TPS is the world's worst-kept secret competitive advantage. Let's revisit some of its components:

• Employees contribute suggestions--by some counts, a million suggestions a year. They can be large but mostly they're small: Move this shelf of parts closer to me, change the angle of the lighting, let me pick up the part with my left hand before I install it with my right, etc.
• Embrace the notion of kaizen, or continuous improvement; you needn't go for the touchdown pass or the home run. Singles, bases on balls, and 4 yard runs will get you where you need to be.
• "Innovation" is not reserved to the executive suite or the elect; everyone is involved, every day.
• Not every suggestion works. Fine. Even Toyota has had its miscues, including a batch of quality problems in 2006. But cumulatively, the impact is game-changing.

Note what this is the antithesis of: The bolt-from-the-blue approach to change, where everyone invests their hopes in a grand scheme. As Surowiecki puts it, this is more like the regular sustained diet approach to weight loss (competitive advantage) as opposed to the miracle 90-day cure. (According to McKinsey, two-thirds of companies that put quality improvement programs in place abandoned them.) And that's precisely why the relentlessness of the Toyota approach is so hard to emulate.

Now, what has this to do with law firms?

Let's pretend you have a basically sound, classic Strategy in place: You know what geographic markets, practice areas, and clients/industries you want to focus on, and you are aware of your strengths, opportunities, weaknesses, and threats. You believe your capabilities are well aligned with your opportunities.

Congratulations; that's a start.

Now consider what adopting the TPS in your firm would need. Here are just some thoughts:

• Can associates suggest changes to the KM system or procedures for finding precedent, template, and sample documents and clauses?
• How are assignments made? Who has input? What are the criteria?
• Are "vacuums" in training part of the assignment process? How are they monitored and addressed?
• Has anyone thought about how time worked is lost between the actual work and the final bill? Where are the leakages?
• Do associates have the opportunity to be exposed to other practice areas than the one they first choose, even tangentially?
• When partners are assembling teams for deals and cases, who has input?

The point is not, really, to suggest anything specific for your firm. The point is to suggest that you might embark on the continuing pursuit of excellence in all you day. Even matters so small as moving a parts shelf closer. For surely, part of the genius of the TPS is not just its concrete suggestions, multitudinous as they are: It's the sense of engagement it engenders. By some measures, Toyota workers generate one hundred times as many suggestions per capita as workers at their competitors.

That, without doubt, is the single most significant component of the genius of the TPS. Why wouldn't you want to embrace that? And remember: It's extremely difficult to emulate, as wide open as it is for all to see. You don't need to fear others seizing upon it as a competitive advantage after they see your example. Or if they try, just remind them that they need to get more exercise, lose weight, and stop smoking.

Eversheds Brings Us "The Law Firm of the 21st Century"

Eversheds is often up to interesting things.

One of the most attention-getting, which was just renewed for another year, was Tyco's decision to entrust work it had previously distributed among 250 law firms exclusively to Eversheds. Here's the deal in a nutshell:

"Tyco has signed up for the second year of its groundbreaking $10m (£5.14m) deal with Eversheds, with a number of new innovations added to financially reward good performance and diversity achievements.

"Eversheds is set for six-figure bonuses if it achieves a 35 per cent improvement in client satisfaction and if litigation against Tyco drops by 15 per cent.

"Tyco’s Europe, Middle East and Africa general counsel Trevor Faure told The Lawyer: “We’ve designed something that eliminates the zero-sum game and replaced it with a profitable partnership.”

And Eversheds' propensity for innovation seems to be paying off, or at least not hurting. Their 2007 results saw total revenue and PPP both grow by 10% over 2006 (to $780-million and $1,004,000, respectively).

But this column actually isn't about Eversheds.

It's about a fascinating report they commissioned, The Law Firm of the 21st Century, which set about to answer the question: "How will our law firm need to change to meet the needs of our clients, our people and society in the future?" And the challenges are well-known and not unique to Eversheds:

"The globalisation of business, the demand for greater value from clients, the struggle for talent, the need to be responsible citizens, the desire for greater balance in our working lives: These issues and more all need to be tackled as the current century progresses."

What's new and different is that this was no exercise in crystal ball (or navel) gazing. Eversheds commissioned RSG Consulting to conduct 100 interviews in late 2007 and early 2008 with 50 partners at top 25 firms along with general counsel and others at 50 of the globe's most prominent companies and investment banks. Here's what they learned:

The future law firm

Billing is more likely to be a matter of shared risk with clients. Advice today considered premium will become commoditized. More interestingly, "lawyers themselves will become more commercial," doing more than delivering black letter law and working more closely in conjunction with clients' business people.

Most intriguingly, they flatly renounce any radical reforms on the famous "work-life balance" front: "Internally, we still can't see an end to long hours and a compromised work-life..." Nor do they see firms going public, but they do foresee some alternative career paths.

Core findings

• Clients are increasingly concerned, and vocal, about rising fees. 55% of in-house counsel said that the recent growth in fees is unsustainable.
  • Nevertheless, only a small minority of clients (22%) volunteered that value billing and risk sharing would be of greater importance in the future, whereas an evidently more forward-looking 48% of partners mentioned them.
    
    
• Not surprisingly, lawyers and clients diverge on cost control: 57% of in house counsel say it's a key priority but only 21% of law firm partners agree.
  • Inhouse lawyers focus more on predictability and certainty than on the absolute level of fees.
    
    
• The "hegemony" of the Magic Circle will become, well, less hegemonic, as clients look to obtain legal services elsewhere, seeking both better value for money and better service.
  • Although law firm partners thought consolidation would affect mid-tier firms more than the very high end, many also thought the legal market would become "more brutal" and that firms would increasingly need to merge to survive.
  • But when the key to the client/lawyer relationship is explored, it is "sacrosanct--you just can't use lawyers that you don't trust."
    
    
• Despite the countless barrels of ink (or megabytes of server storage) that have been spilled predicting the demise of the billable hour, do not by any means count it out yet: 82% of law firm partners and an amazing 86% of clients believe it will "be alive and well in ten years time." And not because it's well-loved, but because it's well understood.
  
  
• The vaunted reforms in the Legal Services Act will have "limited impact." 73% of law firm partners felt it would result only in insignificant changes, and while 55% of clients said they were unconcerned about the organizational form of their legal advisers, 24% contradicted that and said they would be dubious about an incorporated firm and were positively in favor of the partnership model.
  
  
• While much advice will become commoditized, "expert advice never will be." When I read this, I thought it rather tautological: After all, "expert" advice is by definition the antithesis of "commoditized." Yet there may be something here after all, and it actually reveals that commoditization has a long way to go. Namely, while half of clients say they believe standardization "could add value," fewer than one in five say they've actually had any direct experience with it. My take? Far more bruited about than reality.
  
  
• The "work-life balance" problem is no problem at all at the top: 77% of law firm partners report their firms are good places to work, and one-third report they're better places to work than 10 years ago. (How many might feel they're worse is not reported.)
  • Comments included "Unless you've got motivated people, you won't get excellent client service," and "the easy answer is no [to work-life balance]. You can fiddle around at the edges. But at the end of the day, clients expect 24/7 from the leading firms."
  • Especially for transactional work, 56% of partners and 45% of clients thought flexible working was not a credible approach: "To be honest, when we're paying these huge fees [said a client], we do expect our lawyers to be there and it's difficult to accept if they are not there when we need them."
    
    
• Finally, on work-life balance: 56% of clients and 45% of partners believe more flexible hours are not a realistic solution. More specifically, while 51% of clients believe firms ought to be able to offer a "credible" balance alongside excellent client service (and did not see their demands as part of the problem), 48% of partners thought that work-life balance and top-notch client service are "a contradiction in terms."

Reaction

Here we have some of the best-informed and most thoughtful people in the English-speaking legal world responding to an important Eversheds--nay, make that industry--initiative. At the very least, "attention must be paid."

My take on it is that the changes expected are both more and less radical than we have imagined.

On the "conservative" side, the billable hour has a long half-life, work-life balance is a dream for another decade, and the Legal Services Act will have no immediate impact.

On the "liberal" side, the "chasing pack" behind the Magic Circle may find it has more traction than heretofore, lawyers will become more closely aligned than ever to their clients' true business concerns, cost control (and its ugly sister, commoditization) will finally begin to rise above the horizon, and consolidation among mid-tier firms is irresistible.

Permit me, however, to editorialize for a moment on "work/life balance." I don't believe you can have it at a top-notch firm.

There are utterly gilt-edged, top-of-the-world firms, and there are mid-tier, lifestyle firms: Both can deliver great client service in their sectors and both fill genuine economic and sociocultural niches. But they're fundamentally different creatures bringing with them fundamentally different expectations by clients for service and by colleagues within the firm for the level of commitment to the firm, the client, and the cause.

A few days ago in the WSJ Law Blog the author published a recap of a lunch he had with David Gordon, managing partner of Latham's New York office. Gordon was asked for his advice for associates, and he summed it up in terms of "commitment:"

"Make a Commitment: A successful associate has to be committed, to “your profession, your colleagues, and your clients.” Driving these points home, he said:

"Commitment to your profession: Don’t “judge your job too harshly or too quickly,” Gordon said, adding that it’s a rare job that is perfect. “If you’re happy with your job 60 to 80 percent of the time, that’s really a pretty good job.”

"Commitment to your colleagues: Be ready to step up to the plate, Gordon says. “You earn so much respect by being there when you need to be there with your brain engaged,” Gordon says. Good work “helps give you cover when you’ll need it for mistakes you’ll inevitably make.”

"Commitment to your clients: “If you’re not committed to your clients, then you’re in the wrong business.”

Unexceptional, say you? Indeed, thought I.

Until I started reading the comments, many of which were excoriating of Gordon's remarks and the whole notion of "commitment." (If you want to get seriously depressed, take a look.)

But people who are opposed to commitment are fundamentally unserious and unworthy of attention.

Public confession to you, Dear Reader: In my career, I have experienced commitment and I have experienced the absence of commitment. Commitment's better.

All in all, the Eversheds study strikes me as a surprisingly sane and non-radical vision of our futures--which, given the research sample, is precisely to be expected, is it not? And I'm utterly prepared to believe it, until I remind myself that capitalism has a way of surprising everyone involved.

Update:  A reader in an AmLaw 25 writes:

"Small point on "expert" and "commoditized" service.  There will always be both.  That said, I think what constitutes either will evolve.  Some of what is viewed as expert now - will devolve into commodity.  New areas (unseen before - maybe new types of financings to emerge from the current crisis) may be the new "expert" (i.e., the always-sought-after high value engagements) areas."

  Points well taken.  What's "expert" is always a moving target.  Remember when Sarbanes-Oxley was the subject of innumerable law firm seminars explaining this wild and woolly new frontier of securities law?

And from another commentator comes this:

"Bruce

The Eversheds report is interesting but I think fatally flawed. Not I hasten to add from a methodological perspective. Indeed it was carried out by one of the attendees at the Georgetown Symposium we both attended.

The really awkward comment for me was: "The "hegemony" of the Magic Circle will become, well, less hegemonic, as clients look to obtain legal services elsewhere, seeking both better value for money and better service."

From what we heard at the Georgetown Symposium, it was clear that corporate counsel would not be gulled by the longstanding ways of big law firms. Yet there were powerful data and forecasts that showed that those law firms already in the vanguard would not only stay there but actually increase their revenues and power in the market. Peter Sherer's article in this month's American Lawyer bears this out.

And if, with a nod to your perceptive piece on legal education, these firms are able to move law schools or training institutions towards providing "right brain skills" to augment their legal skills, they should effectively capture the market.

My feeling is that Eversheds wants to show that it ought to be in or close to the Magic Circle, but size doesn't mean you can always join the big boys club.

best wishes,

[...]"

Legal Education Reform?

Timely is the only word for the new article in Booz-Allen's Strategy + Business, which examines the history of business school education and asks if today's MBA programs are out of sync with the needs of 21st Century business.

Why timely? For two reasons.

One of the editorial goals of "Adam Smith, Esq." is to examine the entire food chain of BigLaw, from legal education through the associate experience to partnership, practice group leadership, executive committee membership, Chairman, and even through retirement provisions. I haven't been as focused on the beginning and the end of that timeline as I'd like, hence a first attempt to remedy my neglect of the first end.

The other, and primary, reason it's timely comes from a surprising consensus of remarks that spontaneously arose at the Georgetown Law symposium.   A chorus of voices, including managing partners and legal academics alike, critized the current state of legal education as antique, out of touch, and irrelevant to the practice of law today. The criticisms, let me immediately clarify, were not addressed to intellectual rigor or to admissions criteria or to "diversity" or to tuition debt burdens or other topics that seem to gain outsize measures of ink.

Rather, the criticism centered on the theme that while legal education might have prepared associates to have a fighting chance of starting off on the right foot as competent technicians 20 or 40 or 60 years ago, technical acumen is today taken for granted, and the real "action" over whether a 3L can mature into an accomplished practitioner has much more to do with qualities such as emotional intelligence, empathy, the ability to read personalities, judgment under pressure, and a knack for gaining the trust of one's peers and co-workers.

If these are the traits correlated with success, then the conventional law school curriculum has completely lost touch with what practitioners need to succeed.

Before we decide whether or not that's true, and well before the readers of "Adam Smith, Esq." decide whether to petition their various alma maters for serious curricular changes, let me suggest a far more modest proposal: Exploring how business schools may be re-examining their roles and their curricula. We might learn something.

Let's begin where the business school self-examination begins, with appropriate substitution of terms:

"Are MBA programs [JD degrees] out of sync with the needs of business [law] in the 21st century? Have they failed to keep pace with global and technological change? Are they too theoretical and removed from the day-to-day challenges faced by managers and entrepreneurs? And do they encourage the silo-ing of such functions as finance and marketing [litigation and transactional work] rather than instilling in their students a multidisciplinary view? These questions are taking on greater importance as the business environment becomes ever more globalized and competitive. “This is one of those punctuated-equilibrium moments,” says Joel Podolny, dean of Yale’s School of Management. “There’s lots of experimentation, and we have to adopt new models to meet 21st-century challenges.”

Aside from these relatively pragmatic questions, there are more existential issues in play. For example:

• Not unlike law schools' finding their roots in the case study method pioneered at Harvard around the turn of the past century by Christopher Columbus Langdell, business schools began to get professional respect with Joseph Wharton's establishment of the eponymous business school at the University of Pennsylvania in 1881.
  
  
• Enrollment in graduate business school programs grew quickly, from just over 20,000 in 1939 to 72,000 in 1950 to about 130,000 MBA graduates annually today. (JD's from ABA-accredited law schools in the US have stayed remarkably constant over the past 30 years at, give or take, 40,000/year.)
  
  
• But despite evident marketplace acceptance, business schools were already beginning to experience doubt about their fundamental mission. Here's Peter Drucker, writing in Fortune in 1950 on "The Graduate Business School:"
  
  
  • Although these schools were more popular than ever, they did not quite know “what their job is or how to accomplish it.” Most schools, he pointed out, embraced [Harvard Business School's Dean in the 1920's, Walter] Donham’s dictum that business schools have to “provide professional leadership in the modern enterprise and modern industrial society.” But there was no agreement on what the “function” — job, goals, standards — of someone in business should be, argued Drucker. Nor did many businesspeople, who were likely to see profit making as their key mission, agree with Donham’s call for business to contribute to the greater good of the economy and society. Drucker also saw three practical problems in defining the mission of business schools: (1) Business techniques could be taught to almost anyone, but the qualities needed for true leadership were difficult to convey to the typical MBA student, who at that time was a recent college graduate with little or no work experience; (2) courses on administration and policy emphasized routines — that is, bureaucracy — rather than the risk taking necessary for innovation; and (3) business schools fostered a “crown prince” mentality among their graduates, including an aversion to working one’s way up through the ranks of an organization.

Now, can't we see analogies to Drucker's shockingly prescient critique of MBA school nearly 60 years ago and the state of law schools today?

To wit:

• Are the schools themselves sure what the "job" of law schools is?
• Do they know (do we know?) what the "function" of a lawyer in society is?  And if that function is anything more ambitious than being able to overcome objections to hearsay evidence or to draft a complaint that will withstand a motion to dismiss, how relevant is what law schools teach?  (Here I'm not speaking of the wondrous advanced courses in the philosophy of jurisprudence and such that our elite law schools can offer, but of the core courses required of all 1L's that are the hard and irreducible essence of the classic curriculum.)
• While law ("business techniques") can "be taught to almost anyone," do we know how to instill true leadership potential? And perhaps most important:
• Do law schools give their graduates the remotest clue as to how the profession and the industry of law may change in the next few decades, and how they might contribute to shaping that evolution?

Lest I come across as too harsh on legal education,I will rally to its defense in at least one regard:  Whatever else legal education might accomplish, it does enable those who are willing to submit to its rigors to "think like a lawyer."  Now, this has long struck me as the most tautological and unhelpful of phrases, but as I mellow I understand that it's a somewhat spastic linguistic grasp for a genuine phenomenon and competence, the ability to utterly set aside emotion, sentiment, and even common human feeling, and to analyze a situation under the klieg lights of reason.   This has its value—provided you can turn it off at will, and make a habit of doing so.

I for one fear that the most salient failure of legal education may be the last one I listed:  Its imperviousness towards how the profession and the industry are evolving at the start of this century.

This brings us straight back to the question of what intellectual and emotional components of an individual help pave the way to success, and to the consensus from the Georgetown conference participants that conventional legal education is not optimizing those characteristics.

More from the MBA-land self-critique. How familiar does this sound?

"Even Harvard’s case method, while resisting the most abstract theoretical extremes, depends too heavily on analysis and talk, and not enough on context, experimentation, and the iterative learning that is essential for successful implementation. The cases students study, sometimes dozens of them in quick succession, are twice removed from the actual business setting. Mintzberg complains that the emphasis on data analysis without “the tacit knowledge of the situation” leads to facile decision making."

Ignoring "the tacit knowledge of the situation" sounds, to me, to be exactly what the commentators at Georgetown were focusing on when they talked about law schools' being at a remove from the actual practice.

What's to be done?

I'm in no position to pretend to suggest to law school deans what the next decade might behold, but business schools seem to be trying to reconnect with what actually seems to be working in corporate-land. And they're eschewing the previous research--however popular [read: best-seller] it was--that no longer seems borne out by reality. In this connection, In Search of Excellence and Built to Last both "lost their luster" when they were exposed as "the delusion of connecting the winning dots."

If the formula for success is not what we thought it to be, in corporate-land or in law-firm land, the answer for what environment breeds future success may lie in the only lasting source of competitive advantage known to man: Creativity and leadership. Can't bottle it? No, you can't.

But can you provide the environment where it might arise, even thrive?

The learning from business schools, emergent as it is, is that you can nurture these traits over a wide range of people; they are not innnately limited to the birth-talented few.  Harvard Business School's Working Knowledge just published "Getting down to the business of creativity," which argues that, while we:

"recognize the romantic allure of believing it's a rare quality bestowed on a chosen few, all agree that notion has been debunked long ago, and rightfully so.

"Creativity does have a reputation for being magical," says HBS professor Teresa Amabile. "One myth is that it's associated with the particular personality or genius of a person—and in fact, creativity does depend to some extent on the intelligence, expertise, talent, and experience of an individual. Of course it does. But it also depends on creative thinking as a skill that involves qualities such as the propensity to take risks and to turn a problem on its head to get a new perspective. That can be learned."

Essential to fostering creativity are an open and communicative culture, providing support rather than hindrances, and using setbacks as learning opportunities rather than occasions for rebuke.   And of course, encouraging people to drop the filters they're used to applying to the world and to think more broadly is essential. 

Could you imagine, or re-imagine, your firm as such a place?

If so, you might provide a model for law schools to rethink their curriculum, which at least at its core is all about instilling "filters" and thinking narrowly.

A few schools—I would like to believe Georgetown could be one—may be beginning to question the classic model.  But I don't imagine many will do it unbidden.  Come to think of it, you might ask your alma mater's dean how they are transforming the curriculum to align it with what 21st Century practitioners will actually need.  If you don't start agitating for change at your law school, you have only your first years to lose.

Managing Talent Globally

Do these descriptions fit your firm, or sound credible to you?

• "Managing talent in global organization is more complex and demanding than it is in a national business."
• "The movement of employees between countries is still surprisingly limited."
• "Many people tempted to relocate fear that doing so will damage their career prospects."
• "Yet companies that can satisfy their global talent needs and overcome cultural and other silo-based barriers tend to outperform those that don’t."

If so, welcome to the international "war for talent."

McKinsey has just reported the results of a study involving in-depth interviews with executives at 11 major global corporations and including the responses of senior managers at 22 other global companies to an online survey (more than 450 people in all), about how their firms deal with the multinational challenge of talent management. 

As much as we hear about globalization, and as cosmopolitan as we all like to believe we are, "silo's" are still far too much the order of the day.  But what's important about the survey is not its utility as a snapshot of how multinational corporations manage talent globally, but rather its insight into what differentiates top performers from the also-rans.  While the study's authors are quick to caution that their tools did not attempt to uncover evidence of true causality, and note the absence of a longitudinal dimension, nevertheless there are striking correlations between certain talent-management techniques and financial performance.

But first, what's holding companies back from managing their globally distributed talent as one seamless, whole, asset?  Attitudes like these:

• "Overseas experience is not taken seriously and not taken advantage of" (senior manager).
• "Much valuable experience dissipates [because my firm is in the habit of] ignoring input from returnees, and many leave."
• "People expect to be demoted after repatriation to their home location."

Difficult and uncomfortable as it may be to overcome these familiar ruts of thinking, the hard and strong message of the study is, "Get past it."

To be specific, if financial performance is measured by profit per employee, there is a very high correlation between companies that score in the top third of the survey on ten dimensions of global talent management, and profitability.  In particular, companies scoring in the top third on any one of three critical dimensions of talent management stood a 70% chance of achieving top-third financial performance.    The top three most important practices are:  (a) "ensuring global consistency in management processes;" (b) "achieving cultural diversity in global setting;" and (c) "developing and managing global leaders."

The seven other talent management practices are less statistically compelling, but a few notes about them nonetheless:

• "Translating HR information into action" is the fourth most important, which if nothing else proves that it helps if you have the courage of your convictions.
• On the other hand, "shaping the corporate HR agenda for managing global talent" has a mildly negative correlation with financial performance, which should reassure the smug skeptics of HR's ability to drive performance. 

None of this should be especially shocking or hard to understand, but let's elaborate on it for a moment. 

Why is consistency in talent evaluation across all geographic regions so important?  Simply because if mobility is to be a reality, managers need confidence that people transferring into (or back to) their practice areas have met the same standards their own stay-at-home stalwarts have.  Steven Davis, chairman of Dewey & LeBoeuf, said in a recent Bloomberg Radio interview that the firm takes great pains to assure senior associates rotating abroad that their chances for partnership will not be diminished. 

If you believe the McKinsey statistics, we can make an even stronger statement.  Companies that consistently differentiated themselves from their competitors excelled at:

• Top management encouraging people to get experience across multiple locations;
• Regarding overseas experience as essentially a prerequisite for promotion to senior-most levels; and
• Offering managers incentives to "lose" their most talented employees to other functions or geographies.

So as tempting as it may be to lie back in the cocoon of your departmental, practice group, and geographic "silo," resist at all costs.  Devote serious senior management time to exploding those comfortable silos, and encouraging (and rewarding) global mobility.  And the best place to start is the most common-sensical, the most powerful, and the most true to the tradition of honoring each of your professionals as an individual with unique talents and capabilities: 

Make sure your performance evaluations hew to the same standards worldwide.  Otherwise the unspoken but irrepressible suspicion of the foreign will derail your fondest hopes of achieving the "one-firm firm."

Going Two-Tier? Not So Fast

Thinking of going to a two-tier (equity and non-equity) partnership?  Or of increasing the non-equity ranks if (like 80% of the AmLaw 100) you're already two-tier?

I'm here to counsel extreme skepticism.  And I'm tempted to be even more absolutist:  Don't do it.

At least, that is, if the economics of the situation govern your decision.  Because—let me hasten to add—there are many perfectly praiseworthy and legitimate non-economic reasons to do so, including:

• Being able to retain valuable practitioners and producers—good citizens, if you will—who just don't quite cut it when it comes to joining the equity ranks.
• Providing an alternative career path, attractive in and of itself, for those who would prefer to avoid the ceaseless pressure of high billable hours and high expectations for business development that come with the equity partner pay grade.
• Creating a niche where practitioners with a peculiar, intrinsically valuable but somewhat arcane, specialty can be placed so as to remain available as needed.

And there's actually a fourth reason to introduce a non-equity tier which does not harm and may demonstrably benefit your firm's economics, as long as you're disciplined about it (as firms such as Kirkland & Ellis are):

• Introducing a non-equity, time-limited, period of, say, five years, between being a senior associate and a full equity junior partner, with these conditions:
  • To all appearances to the outside world, the non-equity partners appear to be, simply, partners;
  • They have access to all of the business development tools any partner would have;
  • They have a finite period of time to demonstrate—or not—that, armed with these competitive assets, they can indeed generate business;
  • Internally, they have the opportunity to demonstrate their leadership, team-building, and project management skills (with all of the implied authority that comes from being a "partner"); but lastly
  • Ascension to the ranks of non-equity does not entitle people to an indefinite stay conditioned only on good behavior:  Rather, it starts a second shot-clock running, during the pendency of which they must demonstrate the qualities expected of a full equity partner, or else be excused.
  • Oh, and if you think this is inhumane or too "tough" on general principles, I remind you to think of it from the perspective of the non-equity partner who's about to be shown the door:  Would you rather be job-seeking as a "partner" at Kirkland & Ellis or as a 9th-year associate at Davis Polk?

Now, why am I so skeptical about the supposed beneficent economics of non-equities?  Haven't we all been told for the past 20+ years, by consultants who shall remain nameless, that introducing a non-equity tier can improve your performance by boosting leverage and allowing you to retain proven and productive talent? 

Would the world were so simple.

As it turns out, what comes with introducing a non-equity tier is a subtly changed dynamic in the incentive set facing your talent.  Firms with a single-tier partnership attract the true Type A's:  Those of us who have never finished anywhere but at the top of a class and have no intention of starting to do otherwise.  But the two-tier firms hold out a veiled alternative:  If you keep your nose clean and work (reasonably but not insanely) hard, you might find yourself taking home (say)  $400,000 per year, adjusted for inflation, for the duration.   And you won't have to kill yourself in either billable hours or business generation.

I guarantee you plenty of people walking outside your windows right now would jump at that offer.

And my hunch is that, over time, that changes, ever so slightly, the composition of the people who put your firm into their consideration set.

But don't take my word for it.

Let's look at the numbers.  Fortunately, the just-released 2008 AmLaw 100 give us plenty of numbers, and I've been analyzing them off and on for the last few days.    Let's start with some correlation coefficients.

 (Correlation coefficients, for those of you who skipped statistics, are a mathematical measure of the strength and direction [positive or negative] of a relationship between two variables.   To use simple examples, red hair is correlated with green eyes; being of Asian extraction is negatively correlated with blond hair; and for people from birth to about age 16, age is highly correlated with height and weight.    Correlation coefficients can range in value from +1.0 to -1.0 and, in general, a correlation coefficient of +1.0 implies perfect correlation (being a resident of New York City correlates perfectly with being a resident of New York State); 0.0 implies no discernible relationship; and -1.0 implies no correlation whatsoever—or, in other words, that the presence of one connotes the absence of the other.   Correlation does not, please note, imply causation.) 

So here we have a few numbers.  Many of the figures are available in the AmLaw 100 directly as reported whereas others I calculated.  For example, what I call the "Non-Equity Partner Ratio" is simply (the total number of non-equity partners) divided by (the total number of equity partners).  For a single-tier firm, it's therefore 0 and for a firm with more non-equity than equity partners it exceeds 100%.

• Correlation between Non-Equity Partner Ratio and Revenue per Lawyer:  -0.4254
• Correlation between Non-Equity Partner Ratio and Profit Margin:  -0.7102
• And lastly, Correlation between Non-Equity Partner Ratio and Profits per Partner:  -0.4189

In other words, the higher your firm's proportion of non-equity partners, the lower your:

• Revenue per lawyer
• Profit margin, and
• Profits per Partner.

Here's another way of looking at it.  We know that Revenue per Lawyer and PPP are highly correlated (+0.8923 by my calculations), so I segmented the AmLaw 100 into five cohorts according to the proportion of Non-Equity Partners:

What's going on here?

I've already mentioned my theory that it makes your firm more attractive to those who aren't at the absolute top of the alpha-competitive distribution, but there are also concrete reasons to think that non-equity partners are: (a) getting more numerous, not less; and (b) constitute the most expensive tranche of leverage you have onboard.

This chart shows the breakdown, from 2000 to 2006, of all lawyers in AmLaw firms who are not equity partners.  The large red bars are of course associates and the two small grey bars are, per the survey's methodology (don't ask me!) "other non-equity lawyer" (darker grey) and "non-equity partners" (lighter grey).  The moral is very clear:  Associates are a shrinking component of the ranks of lawyers that give you leverage.  The problem with this is that associates are the cheapest form of leverage, and non-equity partners the most expensive form.

But wait, it gets worse.

Not only are non-equity lawyers the most expensive, they're the least hard-working.  Take a look:

On both charts ("higher" and "lower" profit firms) the two cohorts of lawyers that bill the fewest hours per year are "income partner" and "other non-equity lawyer."  Associates, not surprisingly, bill the most (the 3rd bar on each chart) and equity partners come in a close second (the 1st bars).  To summarize, then:  (1) There are more non-equity lawyers, as a proportion of headcount, than ever; (2) they're the most expensive cohort other than equity partners; and (3) they're the least productive.

So I ask you:  Are you still thinking of going two-tier, or going "more so" if you already are? 

There may be meet and right reasons to do so for the sake of specific individuals, for the sake of  your firm's "culture," or to preserve domestic tranquility, but if you're doing it because people who ought to know better have told you it will help your leverage, increase revenues, boost profitability, and help you retain highly productive people, I have just one question for you:

Can we talk?

"The Future of the Global Law Firm"--Installment #2 (Fall 2009?)

Here are just a few of the early reviews of the Georgetown Law Symposium on "The Future of the Global Law Firm:"

• “Extraordinarily well done.  Interesting people and good stuff.”
  
• “I thoroughly enjoyed the conference.  It was stimulating, informative, taught me much and yet left me looking for more.  Just the right balance.”
  
• “The format of quick fire 10 minute talks by people that really knew what they were talking about and had something to say is a much better format than the usual 45 minute slot to each speaker which is more common.”
• "Excellent:  A good mix of academics and real world, and I also found the ‘We don't have all the answers’ tone refreshing.”
• “It’s difficult to pull out the highs because there were so many; the content of everything said and discussed was spot on and very high quality. …  All in all, a triumph for Georgetown, and for [the organizers, Mitt, Larry, and Bruce].  I can’t wait for the next installment!”

Based on this type of feedback, plus innumerable conversations and emails, we are happy to report that the conference seems to have been a hands-down success.  If you weren't able to attend—or if you were and are wondering whether we have any plans to follow up—I have good news. 

We definitely plan a follow-on event, tentatively targeted for the fall of 2009.  As those of you who've been involved in organizing events like this will understand, coordinating people from around the globe to commit to a certain place and time requires long-lead planning.  Further, we anticipate and hope that by the fall of 2009 further developments "on the ground" will help inform the structure and content of the "The Future of the Global Law Firm II."

So stay tuned for further developments on this front.  You know where to look for breaking news about "GLF II"—right here, of course, on "Adam Smith, Esq."

And thanks again to all who participated and all who attended.

Georgetown Conference on the Future of the Global Law Firm: First-Hand Report

I'm back from the two-day "Future of the Global Law Firm" symposium at Georgetown Law School, which was organized by Prof. Mitt Regan of Georgetown, Prof. Larry Ribstein of the University of Illinois, and myself. You may read other coverage of this elsewhere, as in attendance were Aric Press of The American Lawyer, Leigh Jones of The National Law Journal, David Lat of AboveTheLaw, and other reporters.

But herewith the "Adam Smith, Esq." report:

We had about 130 attendees, roughly one-quarter academics and legal scholars and three-quarters practitioners and senior law firm leaders, from the US, the UK, Canada, and Australia. Seven panels over the course of Thursday and Friday through lunch tackled:

• The emerging dynamics of global competition.
• Ownership and capital structure, including the possibility and the desirability of outside (that is, non-lawyer) investment in law firms.
• Ethics and professional values.
• Perspectives from corporate law and finance.
• Organizational and cultural dynamics, and
• Lessons from other professional service firms.

Among those attending were:

• Ralph Baxter, CEO of Orrick, who delivered the keynote Friday morning
• Ted Burke, CEO of Freshfields, who delivered the keynote Thursday morning
• Stuart Popham, senior partner of Clifford Chance, who spoke after dinner on Thursday
• Practitioner/panelists included:
  • Richard L. Weisman, Partner;former Managing Partner, China offices, Baker &
    McKenzie
  • Mark Kirsch, Chair of Global Litigation and Dispute Resolution, Clifford Chance
    
  • Stephen Denyer, International Development Partner, Allen & Overy
  • Andrew Grech, Managing Director, Slater & Gordon
  • Steven Mark, Legal Services Commissioner, New South Wales, Australia
  • Osama Rahman, Ministry of Justice, United Kingdom
  • Yours Truly
  • Anthony Davis, Lawyers for the Profession Practice Group, Hinshaw & CulbertsonLLP
  • Steven Krane, Chair, Law Firm Practice Group, Proskauer Rose;Chair, American Bar
    Association Standing Committee on Ethics and Professional Responsibility
  • JeffreyHaidet, Chairman, McKenna Long & Aldridge
  • William Perlstein, Co-Managing Partner, WilmerHale
  • Lee Miller, Joint Chief Executive Officer, DLA Piper
  • James Jones, Senior Vice-President, Hildebrandt International
  • Christopher Simmons, Managing Partner, Washington Metro Market,
    PricewaterhouseCoopers
  • Ward Bower, Principal, Altman Weil, Inc.
    
• Academics who presented papers included:
  • Peter Sherer, Professor, Haskayne School of Business, University of Calgary, Predicting
    the Future of Large US Corporate Law Firms: AmLaw 2025
  • Stephen Mayson, Professor, Legal Services Policy Institute, College of Law of England
    and Wales, London, Global Law Firms: A Strategy Looking for a Market?
  • Laurel Terry, Professor, Penn State Dickinson School of Law, The EU’s Professional
    Services Competition Initiative: Is the EU Very Far Behind Australia and the UK With
    Respect to Publicly Traded Law Firms?
  • Christine Parker, Professor, University of Melbourne Law School, Australia, Peering
    Over the Ethical Precipice: Incorporation, Listing, and the Ethical Responsibilities of
    Law Firms
  • Elizabeth Chambliss, Professor, New York Law School, Law Firm General Counsel: The
    Paradox of Institutional Success?
  • John Flood, Professor, University of Westminster School of Law, Future Directions in
    the UK Legal Profession: Life After the Legal Services Act 2007
  • Larry Ribstein, Professor, University of Illinois School of Law, The Law Firm as Firm
  • Gordon Smith, Professor, J. Reuben Clark Law School, Brigham Young University,
    Form, Function, and Fiduciary Law
  • Timothy Morris, Professor and Director, Clifford Chance Centre for the Management of
    Professional Service Firms, Said Business School, University of Oxford, Navigating the
    Process of Innovation in Professional Service Firms
  • William Henderson, Professor, Indiana University School of Law, Are We Selling Results
    or Resumes? The Underexplored Linkage Between Human Resource Strategies and
    Firm-Specific Capital
  • Andrew von Nordenflycht, Professor, Segal Graduate School of Business, Simon Fraser
    University, The Demise of Professional Partnership? The Emergence and Diffusion of
    Publicly-Traded Professional Service Firms
  • Roy Suddaby, Professor, University of Alberta, School of Business, Post-
    Professionalism: How Multidisciplinary Accounting Firms are Reshaping Professional
    Institutions

If I were rationed to just one word to encapsulate the conference's theme, it would be: Change.

Lawyers are notoriously poor at coping with change: Indeed, recent psychological research indicates that change is not just hard, but actually causes physical and mental discomfort. (One managing partner recounted being faced with a near insurrection among half a dozen partners when he had the temerity to relocate their Washington, DC office by all of one short city block. I must confess that that may set a new bar for resistance to change.)

Yet change is in our futures, like it or not. More than once the observation was made that from the invention of the Cravath System around the turn of the 20th Century through about 1985, the profession looked remarkably stable, but that the last 20 years have seen revolutionary changes and the next decade promises further departures at least as radical as those we've just experienced.

Among the overall trends driving change are

• Segmentatation, meaning the increasing gap between firms able to win the highest-level, most complex work for the most demanding (and price-insensitive) clients, and other firms forced to compete on the basis of price and increasingly high client expectations for service quality, responsiveness, and consistency. Once price becomes a material part of a client's selection criteria, unfortunately, firms have put one foot on an escalator that goes in only one direction. And segmentation is driving the evolution of our industry not just at the top, in AmLaw 25 land, but at every level of the industry, including regional firms, boutiques, and even "the 22 lawyer firm in Vienna, Virginia."
• Globalization. It's no longer the exceptional corporation that has substantial business abroad, it's the exceptional corporation that doesn't. This trend is not going to reverse or decelerate. 20 years ago the percentage of lawyers working at NLJ 250 firms who were in overseas offices was just a few percent. Today it's nearly 17% and grew 11% in just the last year alone.
• Consolidation. 20 years ago the AmLaw 50 accounted for about 6% of all private, for-profit law firm revenue in the US. Today they capture over 25% of that revenue.

Other themes?

Scarcely a panelist failed to mention—or concentrate on—the "war for talent" and the challenges posed to the traditional law firm career ladder by Gen Y. (Yes, the usual caveats were added about how it can be misleading to generalize about an age cohort, since individual differences always outweigh broad demographic brush-strokes, but the point is universally acknowledged nevertheless.)

A particularly painful reality on this landscape is that, for about the past 30 years, essentially 50% of law school graduates have been women, yet throughout most of that time span, the number of female partners in the AmLaw 100 has hovered at a fairly constant 15-18%. Finally, I believe, firms are going to face up to the reality that they need to take fresh approaches to the dilemma created by the fact that the prime child-bearing and family-starting years happen to coincide quite nicely with the path-to-partnership tournament years. Proposals for innovative "off-ramp" and "on-ramp" programs were floated, some potentially in conjunction with forward-looking law schools (like Georgetown) to "de-couple" those time frames.

But the overall tone of the symposium was the simultaneous thrust of excitement and challenge balanced against the uncertain and the unknown.

Would outside equity ownership be a boon or a curse?

Why exactly do law firms need capital? Aren't we labor-intensive businesses, not capital intensive (A: As currently conceived, we are. But why is the current static model necessarily the model for a dynamic future?)

What has been the history of other professional service firms that have invited outside investors?

Will outsourcing and globalization in general (permitting work to be done in the lowest-cost jurisdiction, be that IT and HR support, or paralegal or e-discovery services) supplant the model of teams of extremely high-priced and highly educated professionals operating out of Class AAA space in the center of the world's financial capitals?

Will we lose the partnership ethos? (Laura Empson of Cass Business School gave a particularly nice presentation on this at lunchtime Thursday, positing that useful ways of thinking about partnership might be as analogous to The Three Musketeers, to Henry V's famous "band of brothers" speech before the Battle of Agincourt, to a buccaneer pirate ship, or, at last, to "Gone With the Wind.")

Can the partnership ethos survive outside the legal form of a partnership? (Yes, seemed to be the consensus--albeit challenging to do so.)

Would outside ownership actually threaten ethical behavior in law firms? In this connection, three salient points were made:

• We see no evidence of publicly owned companies in other industries behaving unethically as a pattern: No airlines cutting corners on safety, no pharmaceutical companies cavalier about product tampering, and, to be sure, no one questioning Goldman Sachs' advice since their IPO.
• Could the pressure to achieve profits from passive, minority-interest outside shareholders possibly be greater than the competitive pressures to achieve maximum PPP from the press, and to retain and attract talented partners?
• And lastly, note this well: In the famous flameouts of Enron, Worldcom, et al., the "whistleblowers" with integrity were inside the corporations, not in external auditing or law firms. If anything, this data point suggests that professionals in publicly held firms do not surrender their ethical obligations at the door.

Should we be optimistic about the overall global demand for law? I believe we should. After all, don't globalizing corporations require more, not less, legal advice? (As strange as it may seem to say, could we need, in a word, more lawyers?) The "rule of law" is not, after all, self-executing.

Clients are becoming more demanding, to be sure, but it's misapprehending the situation to think it's all about fees or price; rather, it's about actually comprehending the clients' businesses. In a sense, isn't this development "back to the future," back to a day when lawyers intimately knew their clients and were institutionally close to them in ways that are unusual today? More than a few name-brand law firms, according to their managing partners, are investing more in institutionalizing the client relationship than they are in any other recent initiative, even to the point of creating a "client relationship" dimension as a third organizational dimensional matrix on top of the familiar two of practice groups and geographical footprint.

The value of human capital--the "war for talent" again--has never been higher. But it's now beyond partners and associates to non-lawyer staff and C-suite executives. Among all these groups, lawyers included, it's no longer enough to be merely technically excellent. Today's clients and today's environment call for people with high levels of "emotional intelligence" and right-brain capabilities. If this is right, we need to re-think the ideal profile of a partner (and I believe strongly that it's right).

Also, if we value human capital, what's to fear from "outsourcing?" Isn't that just another way of saving a generation of associates from the equivalent of being consigned to working in the textile mills of e-discovery? (Whenever politicians rail against NAFTA or other free trade agreements, I always wonder which voters are out there desperately hoping their children have the opportunity to grow up and go to work in a textile mill.) Perhaps young associates should be exposed to one and only one tour of duty in e-discovery, but we know for a fact that too much of that is why on average they leave after 2.5-3.0 years. Wouldn't you?

Finally, as to the future, my own belief is that assuming the Legal Services Act comes into effect as currently scheduled in the UK, the inevitable flow of money from some firms that will take advantage of outside investment (and there will be some firms) will sluice into the US. Trying to stop the flow through prohibition and regulation will only lead to feckless, disruptive, and pointless excursions into attempted micro-management of global law firms' capital structure, an effort unrealistic at its core and doomed to swift failure. If you doubt money's vibrant ability to find its own level, I have three words for you: "campaign finance reform."

At the point where bar associations here, sclerotic and paleolithic as they are, are forced to confront a new marketplace reality, they will actually have no alternative but to respond in ways that recognize and accommodate that reality, and to get over their hundred years' war against genuine competition in the profession. And, it is my devout hope, they will awaken to the need for a "level playing field" in our global economy.

On this point, the insanity of firms' being potentially subject to 51 different jurisdictional bar authorities in the United States was, without exception, roundly denounced. GE (for example) gets to choose whether it wishes to be incorporated in Connecticut, New York, California, Delaware, or somewhere else entirely. Why shouldn't Latham have the same choice?

The conversation on this topic, brief as it was, focused on acknowledging the blisteringly obvious antique anomaly of "presence-based" regulation. The only interesting note to add is that corporate clients would presumably be roundly in favor of unitary law firm bar regulation since it would at once obviate the need to hire duplicative local counsel in jurisdictions far and wide for no commercial, economic, or strategic purpose.

Do we have all the answers?

I've never been at a conference before where so many readily admitted to so few answers. But that's the way entrepreneurship and innovation proceed. Not by knowing to a fare-thee-well what all will work, by specifying it exhaustively in advance, but by experimenting. New businesses are not created by figuring out in advance every possible contingency that could go wrong and only launching then; they're created by the "ready, fire, aim," mindset. Or, as I said in a prior life as CEO of a dot-com, "mid-course corrections are my middle name."

In my own presentation, I took issue with the assumption that our industry is not capital-intensive by opining that that's static, not dynamic, thinking, constituting a great failure of imagination. And by analogy I used evolution's famous "Cambrian Explosion" (great video courtesy of WGBH here) . If you're not familiar with this, the story is simple:

• For the first 3-1/2 billion of the Earth's 4-billion years, all nature knew how to produce were single-celled organisms: Algae, fungi, protozoa, etc.
• Then, from about 530-580-million years ago, evolution came upon and exploited the miraculous invention of multi-cellular organisms.
• Every single order of Animalia that exists today was invented during the Cambrian explosion.
• There were a huge number of dead ends, wrong turns, mistaken detours, and fundamentally bad designs (creatures with five eyes)
• But there was a never-before-or-since efflorescence of innovation including such truly useful structures as eyes, ears, scent, and four limbs. (Four limbs, if you're interested in mobility, are Truly Useful. There's a reason cars have four wheels.)

Do we know where it's all going, or where, as some linear extrapolations had it, where we'll be in 2025 as an industry? Not on your life.

But could you or I imagine such a conference even as recently as three years ago? Not I.

Hope to see you three years hence at the next conference.

Updates:  29 April 2008

Two addenda which have come in since I originally published this.  The first is an article, which is self-explanatory, and the second is an incisive comment by the General Counsel of a Fortune 500.

Second, we have our astute GC's thoughts:

"Bruce -- Sounds like an interesting conference.  It's a shame that in-house counsel appear to be poorly represented – after all, we are the reason for existence of most private practice counsel (and ultimately the source of revenue to support the legal education system).  Those attending have a high degree of interest in maintenance of the current extremely profitable and robust status quo as opposed to being agents for change.  The in-house community needs legal service providers as we simply cannot in-source all our work.  As such we need our law firms to be profitable.  We can move to a world where law firms are merely suppliers or one where they are partners and accept risk and reward in exchange for value -- but in either case, change must occur.  That change must take place at the law schools which need to train and produce counselors not lawyers (i.e., more focus on practical delivery of real world legal services) and at the law firms that must change their economic model to focus on profits through cost reductions as opposed to top line revenue growth.  We simply must begin a dialogue to focus on value -- and that means achieving the business client's objectives effectively and efficiently.  Generally speaking, clients are not interested in winning cases or answering interesting questions of law -- we are interested in reaching our business objectives profitably and with a focus on compliance and stakeholder value.  If there is indeed a war for talent, I do not believe it's a war that clients are asking law firms to fight, much less are willing to pay for.”

As for the relative paucity of inhouse counsel, guilty as charged.  As one of the organizers of the conference, all I can offer in mitigation is that we wanted law firm leaders to feel free to speak openly about their appetite for change and we perhaps assumed a little too casually that the presence of a large representation of GC's would make people feel defensive or guarded.  A senior representative of the ACCA was there, however, and made some of the very points advanced by our GC friend here.

I'll continue to update this as additional commentary comes in.

Diversity, the Billable Hour, & Other Challenges

First comes an FT story on clients demanding more "diversity" in City firms, then a followup letter attributing high female turnover to late night hours, next a WSJ Law Blog piece on how to keep female talent on the partnership track (featuring insights from WilmerHale and Cleary), a Working Mother story called "Young, Gifted, and Leaving" about law firm associates, and finally a lead editorial by the President of the California State Bar on "Escaping the billable hours trap."

Journalists like to say that three anecdotes constitute a trend, but here we have not three but five noteworthy articles telling us that what we're doing is essentially unsustainable. Are you paying attention?

The facts are pretty straightforward. For about the past three decades, women have constituted 50% or slightly more of law school graduates, yet they're still only about 17% of BigLaw partners. It can no longer be argued that they only need time to get through the pipeline; that argument exhausted itself about 20 years ago, and essentially nothing meaningful in the female partnership statistics has changed. Whatever we are doing and have been doing is not working if greater representation of women as partners is the goal. As the well-known joke sometimes attributed to Einstein has it, a working definition of insanity is to keep doing the same thing the same way and expect a different result. We need different results.

How big is the problem? Or is it even a problem? After all, law firms are hardly suffering, and PPP numbers continue (at least through the last reporting period....) to keep growing at double-digit rates.

But the question is not whether firms are profitable on the current model; the question is whether they could do better by deciding to seriously address the problem of sacrificing such an enormous proportion of their talent pool for no evident business reason. The question, in other words, is one of opportunity costs. By doing nothing to address staggering female attrition rates, what are firms losing? Some statistics.

"The number of young female associates leaving law firms hit a record high over the past five years—with an average annual attrition rate of 19 percent, according to the National Association for Law Placement (NALP) Foundation. Not surprisingly, the higher a law firm's required number of billable hours, the higher its associate attrition rate, according to a 2006 survey by the Bar Association of San Francisco. And many of these departing associates leave for good—some 31 percent, a recent survey by MIT Workplace Center reveals. Beyond bleeding firms of top talent, this loss can affect the bottom line: Each associate who walks takes along about $300,000 in lost training and recruitment costs. A 15 percent departure rate may siphon off an average of $12 million each year from a large firm, estimates Paula Patton, CEO and president of the NALP Foundation."

Taking this beyond "diversity"

Are there plausible ways to address the female attrition rate—and the overall associate attrition rate? Are there things we're doing wrong which are kneecapping our performance as consummately professional organizations delivering superb client service, as economic engines of profit generation, and as profoundly rewarding places to work?

Yes.

But only so long as you're willing to tilt at windmills, and the windfall (pun intended) du jour is the billable hour. No matter how many stakes have been aimed at its heart, none have been driven home true.

I can't say I'm surprised. For law firms, it's cost-plus pricing: A great deal! You literally cannot lose money on that economic model. Indeed, you can produce super-normal profit margins. And for clients, it's also weirdly bulletproof. "For services rendered...." followed by a six-figure number, unitemized, is tough for the green eyeshade crowd to digest.

You may know and I may know that figure is (a) entirely appropriate; (b) thoroughly earned; (c) probably understated vs what the law firm could have charged and gotten away with, but how do you "defend" it? Billable hours are defensible in the same way parking tickets are defensible. We know what the rules are: Never mind that the rules may be fundamentally nonsensical, you can't argue with City Hall.

And what is wrong with the billable hour?

Don't take my word for it, take a page from Jeff Bleich, president of the State Bar of California:

"This mission — ensuring access and justice by all means possible — is what attracted me to the bar. It is also what makes me think we need to re-examine a practice that is threatening the capacity of lawyers to serve the public effectively: billable hours. We all know about the lifestyle burden that billable hours places on lawyers. But on a deeper level, a billable hours system is corrupting to our profession in both obvious and more subtle ways. One of the important challenges of the next generation of lawyers and bar leaders will be to find a way out of the billable hour trap."

And permit me to go on by excerpting what he says in relatively full part. These are important words.

"The destruction brought by billable hours can be subtler in that it affects not merely the cost and efficiency of our work, but the quality of our profession as a whole. Firms now have only three ways to make more money — work longer hours, increase the number of lawyers or raise rates. Predictably, in a profit-maximizing system, firms have been doing all three. Instead of working 1,700 hours a year as lawyers did in the 1970s, today, new lawyers typically bill around 2,100 hours. Those additional hours come out of two places — evenings and weekends. That means less sleep, fewer outside interests, less commitment to loved ones and the crumbling of a decent life.

"Lawyers feel guilty about doing the very things that we should do to achieve access and justice — such as pro bono work for those in need or service to the community. Instead new lawyers come to view themselves as people who merely rent out their brains for a certain price per hour. And they and their work are degraded by the experience.

"The trend towards putting lots of lawyers on cases just compounds this. Young lawyers have fewer client contacts, less ownership of a case and fewer opportunities to actually solve a problem. As they advance, they aren’t asking the questions that will allow them to one day lead their firms and the profession: what experience am I getting, what sorts of colleagues are we developing, what is our culture and philosophy? Instead they think more and more about profit targets, hours targets and what their exit strategy is.

"An entire generation of lawyers has come to believe that their worth as a lawyer is measured not in how they solve problems but in how many hours they need to work. Not surprisingly, this has not made them better problem solvers.

"I realize that strong economic forces will continue to favor billable hours, and if a better and equally lucrative alternative existed, it would have been adopted by now. So this will not be an easy problem to solve. But we will eventually reach the outer limits of human endurance and the upper reaches of client tolerance, and if we do not begin addressing the issues now, it will be too late when we do. There are alternatives to billable hours, such as fixed fee arrangements with negotiated bonuses based on performance.

"The point though is not any one solution. The point is that as a profession, we need to start finding billing methods that will reduce distrust and damage to our client relationships, that will refocus young lawyers on being problem-solvers again, and that will remind us of — rather than distract us from — why we are lawyers in the first place."

Finally, there may be some good news.

WilmerHale's Bill Perlstein (and potentially some other firm leaders) have some innovative ideas about how to keep female, and male, associates on the partnership track through different approaches than the century-old Cravath system's 7-9 year up or out model. There do, indeed, have to be other ways.

This is a profound long-term challenge to our profession, and no one has all the answers.

What are your thoughts?

Update: Monday 28 April. A reader writes:

I enjoyed your piece very much because it hits home for me quite directly from both the female perspective as well as the billable hour one. In the last two weeks, I left my partner position at a large law firm in Chicago where I had been for more than 14 years to join some like-minded billable hour dissidents in the new litigation venture Valorem Law Group (www.valoremlaw.com). Having co-founded and co-chaired the women's initiative at my previous firm (incidentally, named one of the 100 Best Companies for Working Mothers in 2007) and co-founded a recent organization in Chicago called the "Coalition of Women's Initiatives in Law Firms," I am quite aware of the negative impact that the billable hour model has, not only on clients who want their work done quickly, efficiently and with good results, but also on attorneys who are creative, efficient and thrive on collaboration -- all things that the billable hour model hinders.

Without over simplifying it, as a working mother of 3 who was determined to work more productively in order to enjoy a balanced home life, I would venture to say that the billable hour model disproportionately (but not exclusively) impacts women, as any value measured by the commodity of already-stretched-too-thin time is going to favor those who have more of it -- and that is not typically women.

Our experience at Valorem and the widespread feedback we've received so far from clients and other attorneys tells us we are on the right track, both for clients and for the industry as a whole. As you would say, we are "tilting windmills." Stay tuned to see how the wind continues to blow.

Why KM Matters. With Soundtrack.

Here at "Adam Smith, Esq." I've written about Knowledge Management a fair amount, since it's my belief that knowledge is what law firms sell.

But despite the (I believe) inarguable centrality of KM to what we do, there are three enormous problems with it:

• Too many lawyers don't understand why it's of value to them, or, more precisely, why the return they could get out of it would exceed the investment they'd have to put into it.  (Never mind the threat of "giving away" your core professional asset—what you know.)
• Too many technologists and IT types don't understand how lawyers work, and end up creating shockingly powerful but essentially useless applications.
• And even the most powerful and user-friendly system requires constant care and feeding because legal learning is in a state of constant flux:  In a sense, pure white ignorance beats obsolete and mistaken knowledge.

Because some of these obstacles are a blend of the intellectual and the emotional, a brief foray, presented in video, yields two of the best visceral explanations of why Knowledge Management matters.  

With a big fat hat tip to Matthew Parsons and Neil Richards of Knowledge Thoughts, then, our first (2:21 running time, sponsor's logo at the very end):

And our second (5:29 run time, academic credit and "CC" license at the end):

Enjoy.

And reflect.

Shea Stadium Is Named For...?

The American Lawyer today takes note of the last opening day of the season of baseball's New York Mets to take place at their home stadium since 1964, Shea Stadium.

It was simpler days when Shea opened, and days when a mere lawyer-cum-power broker could actually end up with his name on a stadium. (The new Mets stadium, now under construction a parking lot away, will be known as the denatured, mispelled, and potentially transitory "Citi Field," after the bank.)

I write to summarize the type of lawyer Bill Shea was, and also as a tardy way to memorialize, in brief form, my own short years at Shea & Gould as an associate in the 1980's.

The story of Shea and his stadium began when the Brooklyn Dodgers and the New York Giants both left for California after the 1957 season, and New York became bereft of a National League club. Shea thought that baseball was a sort of social glue holding together different classes across the city ("What am I going to talk to my doorman about now?!") and he resolved to do something about it.

But, as well-connected as Shea was, he couldn't persuade any National League franchise city to cede a team to New York, nor could he persuade the league to open a new expansion franchise for New York.

So he turned to Plan B.

With Branch Rickey as his ally (the former Dodgers executive famous, among other things, for breaking the color barrier by signing Jackie Robinson) Shea formed the "Continental League," immediately granting a franchise to New York and reaching out to Florida, Minnesota, and Texas, among other places, to seed new franchises. He was calling the National League's bluff, and the National League blinked.

So were born the New York Metropolitans, with their signature colors of Dodgers blue and Giants orange.

But that's not why I'm writing about Bill Shea.

He's a model of a law firm leader the mold for which may have been permanently broken.

I won't talk about his technical expertise, which certainly entitled him to the platform he ultimately enjoyed, but he was actually a gifted banking lawyer. Beside the point. His genius lay elsewhere. Simply put, he knew everyone. The stories are legion about his Rolodex, but I'll add only one small one of my own.

Early in my days at Shea & Gould, I was assigned a very short and limited task: Try to find an interpretation of a particular Hawaiian tax statute that would be more rather than less favorable to our client. The diligent but unskilled associate that I was, I came up with an array of inconclusive regulations, letters, and tangentially related cases, and went back to the partner somewhat disconsolate with the miserable fruits of my labors. His immediate response was, "Let's go see Bill!"

We walked into his office, described the dilemma very briefly, and without saying a single word to us, he yelled over the intercom to his assistant, "Get me Inouye!"

Probem solved; Inouye is the senior US Senator from Hawaii.

But a few last thoughts on Bill as leader of a law firm:

"When I was a fourth-year associate, [Shea] and Milton Gould lent me and my wife money to make a down payment on our first home," says [Richard] Spinogatti, who was in the U.S. Army Reserve at the time [and who's now a senior counsel at Proskauer Rose]. "It was an interest-free loan made out of their pockets—not from the firm—and they did that for a lot of people.

“Bill was a bear of a man with bright blue eyes, and while he could appear gruff and rough, he had an absolute heart of gold,' he says. 'He would always listen to anybody’s problems and deal with them as his own.'"

In retrospect, it came as no surprise to me--although I had left and was only a lowly associate when I did leave--that very shortly after Shea's ultimate retirement the firm imploded.

Is there still room for such law firm leaders?

Yes, of course; we are minting them every day, if we care to notice, and if we care to cultivate them and let them thrive with all their idiosyncrasies. Which of Shea's winning characteristics bear attending to? His office door was always open, to the high and the low alike. The Spinogatti story alone demonstrates it was not an empty gesture. And when he exercised his power on your behalf, it was his personal touch, not a favor bestowed from the firm's resources at no risk or expense to him. From a business perspective, he realized that combining his infinite Rolodex with Milton Gould's celebrated courtroom talents could be the basis for a powerful firm. And he proceeded to build a firm that was a great New York institution in its day.

It's a tragedy it couldn't survive his and Milton Gould's retirement. Is there a moral in that? Not having been privy to the inner circle, I hesitate to draw one with any degree of confidence. But to all appearances, the Harvard Business School case that has not been written about Shea & Gould, but could be, might be titled "Failure of Succession Planning". When the benevolent rulers must retire, who of their stature is in line to take their place?

I choose to focus on the institution they built while they were in charge. You could do worse than to aspire to what they achieved.

Slaughters vs. Clifford Chance vs. Networks

The Times (UK) asks today, "Slaughter & May v Clifford Chance:  Who is pursuing the best route?"

The article puts head-to-head two concepts of what makes for a great and powerful law firm:  World-leading profits per partner, on one hand, vs. a truly global footprint and powerful international capability, on the other.  At over £2-million/year in partner profits, Slaughters is up where the air is very thin indeed—indeed, if you believe The Lawyer's latest rankings of the Top 50 US firms, one and only one firm is in that same troposphere, the usual suspect, Wachtell. 

But if what you care about is multinational local law capability, Clifford Chance is your horse.  In fact, in the past ten years Slaughters closed offices in New York and Singapore, leaving outside London only Hong Kong and Brussels.  It serves clients abroad through the familiar network of "best friends," and its friends are not only that but are highly ranked firms each in their own right:

• Bredin Prat in France,
• Hengeler Mueller in Germany,
• Bonelli Erede Pappalardo in Italy, and
• Uria Menendez in Spain.

We'll get back to Slaughters vs. CC in a moment, but first let's juxtapose that network of friends with thoughts from this piece courtesy of The Lawyer about "European unions." Citing Eversheds, Pinsent Masons, and CMS Cameron McKenna, the article posits that "With networks, national firms have found they can leapfrog City rivals with their own European offices, only without the hassle and expense of launching on the continent." Sounds a bit too glib to me, but let's entertain the hypothesis for moment.

Because, you see, we actually have not two models but three: Slaughters, CC, and the Networks. (You object that Slaughters is actually a Network, albeit perhaps a granddaddy of them all? I demur. Slaughters is Slaughters with or without its network: Eversheds, Pinsents, and CMS are far less interesting without their networks--and none of them is Slaughters.)

Slaughters would and does argue that its ability to provide absolutely top-notch service (advising 29 of the FTSE 100, more than any other City firm) is its trump card, and that having local law capability elsewhere is irrelevant in terms of why clients initially come to it--or, if relevant, that the top-quality "best friends" serves that need. CC would argue that corporate clients expect a seamless service delivery experience across all offices of their chosen law firms, and that only its footprint realistically matches that of its global clients.

Here's the issue as described by those on the front lines:

"The one-stop shops have a very powerful weapon, [Tim] Clark [retiring as senior partner at Slaughters] suggests: their brand. “This helps them to appear to the outside world as having a uniformity of approach and quality that is the same as their London office. Because that’s not necessarily the case, it allows us to compete very effectively.”

"[Guy] Morton [joint senior partner of Freshfields] counters by arguing that “the disadvantages of relying on a non-integrated network will become more pressing as clients become more truly international and more used to going to a single firm for multijurisdictional work”. There will not be a sudden implosion of the Slaughter and May model, he suggests, but the Freshfields model will gradually gain competitive advantage."

Both of course ignore the Network model. The truth is that there is no unitary "Network model:" There's a spectrum. At one end is CMS, where the firms are tightly integrated on virtually every dimension short of sharing profits. At the other end is a Nabarro, an Addleshaws, or a Berwin Leighton Paisner where relations are diplomatic and friendly but not exclusive or necessarily oriented towards closer and closer integration down the road.

Even Eversheds noted that its network partners wouldn't always jump when clients called until Eversheds landed Tyco as a major client and got the troops' attention. And other affiliations are at even more developmental stages: Addleshaws recently added the ability to do joint billing, and the service was considered noteworthy enough to merit coverage in the article. Other astonishing developments? Co-branded websites and integrated marketing materials! What next? A common currency?

Seriously, the point of a network is nothing other than seamless client service. The goal is not to create an organizational superstructure worthy of study in a business school case, but simply to deliver impeccable legal advice to clients who need cross-border integrated service and are indifferent to the letterhead of the person they're dealing with at the moment--provided only the prerequisite baselines of quality, timeliness, and consistency. Ideally, the client should see no difference whatsoever between the responsiveness of a "network" office and the responsiveness of one of the UK firm's own domestic branch offices.

Are these sustainable equilibria?

At fear of inspiring emails from those begging to differ (actually, bring it on), I believe loose, permeable, and utterly flexible networks are not much stronger than the tissuepaper uniting them. It seems less than dating, much less going steady and much much less than living together or getting married (merging). Not be flip about it, but more akin to what today's young adults categorize as "friends with benefits." Eminently flexible, eminently exit-able.

With commitments should come consequences, and without consequences there seems no real commitment.

Are there, still, "benefits?" Surely so, to clients and to the firms involved on both sides. The "referring" or hub firms gain needed expertise on the ground without the requirement to invest over a period of years or decades with uncertain results. The "referred" or spoke firms gain business they wouldn't necessarily otherwise obtain, and the hope of more in future. That, after all, is why these networks are so common. If they were pure and simple examples of market failure, they would cease to exist.

But we're not about whether they can or do work; we're about whether they're optimal, and I cannot believe in the long run they are. There are too many countervailing incentives, too much room for co-opting competition, too many reasons (economic and cultural) for impromptu alliances to fade away and disintegrate. A temporary solution, and an understandable ad hoc response to global clients and non-global law firms, but a response for the ages? I doubt it.

But this brings us back to the Slaughters vs. CC debate.

Building either firm is an astonishing achievement. With Slaughters, the ££ speak for themselves. With CC, the shockingly powerful network on the ground speaks for itself.

My question is whether in the next 10 years we shall see emergence of a firm that combines both: World-beating profitability, which reflects superb quality of talent and corresponding high-end premium work entrusted by the world's top clients; and a global network second to none, with robust Anglo-Saxon and local law capability worldwide.

Now that would be a firm to be part of—or to envy.