Thacher, Proffitt & Wood LLP: 1848 - 2008

A Merry Christmas, Happy Holidays story of the first order:

As noted this morning by The New York Times, Above The Law, and The WSJ Law Blog, Sonnenschein is acquiring about 100 lawyers, including 40 partners, from 160-year-old Thacher Proffitt & Wood—technically, not a merger of the firms but a large lateral group acquisition.  The lawyers come from Thacher's four main practice areas, including Structured Finance, Corporate and Financial Institutions, Real Estate, and Litigation, and include the chairs of each group.. 

The sad news is that this represents the end of the road for Thacher as a firm, but the reason to celebrate is that this extremely talented group of lawyers will have the opportunity to remain together, serving their clients from a broader, more diversified, and financially strengthened platform.

Are there larger lessons in this deal for our industry?  I believe so, but for now I'll leave those for another day.  (Hint:  They have to do with heavy concentration on specific practice areas.) 

For the moment, it's a much-needed vote of confidence in the ultimate recovery of the financial services sector:  Thacher's core clientele included all the biggest banks and investment banks and today a marquee client is the US Treasury Department itself, under the TARP program.  The sector will regain a pulse eventually, and this is a sign that I'm not alone in that faith.

Sad as it is to see a storied firm, bombed out of the World Trade Center twice and still resilient, reach the end of its road, what really matters is not the name of a brand, but the individual lawyers and professionals. No one at Thacher died during the two WTC attacks, and none will "die" professionally today. That's why it's a good news holiday story. They are living to fight another day, and (disclosure) from personal experience and acquaintance, I can testify that they're fighters.

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.

Buy High, Sell Low

Best of times or worst of times to make some acquisitions?

This is one area where the head/heart divergence may be more radical than usual—and where it could really cost you.

Here's how McKinsey poses the dilemma:

"As the credit crunch threatens to become a global downturn, corporate leaders have a choice: pull in their horns and ride out the storm or look for opportunities to pick up bargain-basement assets that will help them grow and create future value for shareholders. If past is prologue, more will follow the first course—which is a mistake."

The head/heart opposition is simple to understand:  While your head tells you that one of the best times to invest is in a downturn, that's precisely when your heart quails.  "Buy low, sell high" is advice so impeccable as to achieve the truly advanced state of tautological, but "buy high, sell low" is more descriptive of the way people actually behave across economic cycles. 

I may not be able to change your heart—only you in league with your spouse or your shrink can do that—but I can at least hope to arm you with the intellectual fortitude to mount a stalwart case for exploring some acquisitions now, in the teeth of the fretful and querulous naysayers.

Based on a survey of over 200 global companies, the authors (who also collaborated on the May 2008 book The Granularity of Growth), derive two pivotal conclusions:  The most powerful way to position one's firm for growth coming out of a downturn is through selective acquisitions during that downturn, and, conversely and with wonderfully rewarding and symmetric logic, during an upturn selective divestitures create slightly more value than acquisitions.

If only people behaved that way:

This shows the actual behavior across a sample of 537 product/service lines (from 187 companies) between 2001 and 2004, in reaction to a "major" (> 10%) upturn (top blue bars) or downturn (bottom green bars).  Essentially, the lessons are:

• Companies are more likely to divest during a downturn;
• And more likely to acquire during an upturn;
• While the reality remains that during both upturns and downturns the most likely course of action of all is simply to do nothing.

Again, this is understandable.  But that, I would argue, is less an excuse than an indictment of conventional wisdom. 

Do you want to "protect your balance sheet" during a downturn?  Sounds logical.  (And, to be sure, some firms simply aren't in a position to do otherwise.)  And as revenues flag and margins are compressed, you may focus on cutting costs and trying to at least match previous periods' earnings levels.

But the savviest growth companies do otherwise.  Famously (as even the usually somnolent business coverage of The New York Times realized in 1999), GE Capital immediately went on a capital spending binge following the Asian financial meltdown in 1997:

The last two years alone, [GE Capital] has made at least eight major investments in four Asian countries, expanding its assets to about $20 billion in the region. Acquisitions included two consumer-credit businesses, a life insurance company and a $5 billion leasing company in Japan, a consumer-credit business and a portfolio of car loans in Thailand and a life insurance unit in the Philippines. It also has its sights on a stake in a South Korean bank.

[...]

[T]he 1997 Asian financial meltdown and resulting recession turned the area into a vast bargain basement. Here was GE Capital's chance to buy up distressed companies and establish itself in the one part of the world where it lacked a strong presence.

''There's no question that financial turmoil has resulted in an environment that facilitates deal creation,'' Denis J. Nayden, president of GE Capital, said in a telephone interview from the company's headquarters in Stamford, Conn. ''Yes, we have moved into that opportunity.''

In other words, countercyclical growth works. 

If you're in a position to do so, think about trying some for yourself.  You may like where you'll end up on the other side of this credit markets lockdown.

How's Your 2008 Shaping Up?

We have our first comprehensive report on how 2008 is shaping up financially, courtesy of The American Lawyer, and Dan DiPietro of Citi's Private Bank, and it paints a picture of what are soon going to be, if they aren't already, vastly diminished expectations.

Let's set the scene.

Since 2001, we've enjoyed overall consecutive year over year growth rates at almost double digit levels in practically every metric that counts. Here are the CAGR (compound annual growth rate) figures for the 2001 to 2007 time span:

• Revenue: 10.6%
  • YTD 2008: 4.8%
• Gross billable hour demand: 3.9%
  • YTD 2008: -0.3%
• PEP: 9.3%
  • YTD 2008: -9.1%
• Growth in the ranks of equity partners: 2.9%
  • YTD 2008: 1.7%
• Associate compensation (roughly 23% of total firm revenues): 10.1%
  • YTD 2008: 15.2%

Now all of these trends have turned negative:

• Revenue growth has reversed, with demand the weakest since 2001
• Since firms have continued to add lawyers, there's "profit margin compression"--lower revenues hit higher expenses

And, fascinatingly:

The slowdown is hitting the most profitable firms the hardest. In the first half of 2008, demand dropped off even more dramatically and expenses increased at a more rapid pace at the top firms, resulting in even greater margin compression and a steeper drop in productivity than experienced by their less profitable rivals. The practice areas that normally provide a lift in a downturn -- restructuring, bankruptcy and litigation -- have not helped cushion the drop-off in transactional work.

It's not just a failure of the classic countercyclical practice areas to kick in; there appears to be a structural component involved as well.

When firms are broken out by profitability, our data produced an interesting finding. The firms that soared in 2002 through 2007 were harder hit in the first half of 2008 than their less profitable peers. From our sample of 165 firms, we broke out 63 top-tier firms (defined as those with profits per equity partner above $650,000 in the year 2000). Over the past six years, this group has consistently produced higher growth in revenues and PPEP than other firms.

That changed dramatically in the first half of 2008. Growth in PPEP for 51 of the 63 top-tier firms that reported their results to us plummeted from an 11.7 percent increase in 2007 to an 11.8 percent drop in the first six months of 2008. In contrast, their less profitable rivals experienced a 5.3 percent drop in PPEP in the first half of 2008. After reaching a seven-year peak of 7.4 percent growth in 2007, demand at top-tier firms actually dropped 1.6 percent in the first half of 2008. Again, this decline compares unfavorably with the 1.1 percent rise in gross billable hours at the other firms in our sample.

Top-tier firms experienced even greater profit margin compression than their peers, with revenue growth of 4.3 percent and an increase in expenses of 10.9 percent. In contrast, the other firms we surveyed had revenue growth of 5.5 percent and a rise in expenses of 9.1 percent. Demand at top-tier firms declined in both the first and second quarters of 2008, in contrast to their less profitable competitors, for whom demand dipped in the first three months but increased in the second three months.

The posited explanation is that since firms with the highest profitability tend to concentrate on serving the financial services industry's demand for transactional work, they are suffering disproportionately from the freeze gripping that sector. This rings convincingly true to me. And the data support it: Hours per lawyer have dropped 8% at these top-tier firms compared to a decline of 2.9% elsewhere.

One last observation from the report and then some commentary.

What Citi defines as "international" firms, with between 10 and 25% of their lawyers abroad, "experienced greater profit margin compression than any other group of firms." By contrast, "global" firms, with more than 25% of their lawyers abroad, have experienced the least profit margin compression.

If you assume that firms just beginning, or in the early stages, of international expansion are focused on the UK and the EU, this makes some sense: Those geographies are experiencing a similar, though not as sharp, a slowdown as we here in the US. So their geographic diversity hasn't helped much. By contrast, if you think Citi's definition of "global" firm identifies firms farther down the globalization path, they're likely to have substantial presences in Asia and the MidEast--areas anything but suffering from the Western economies' downturn.

More importantly, this speaks to the power of a diversified portfolio of practices--both by specialty and by geography.

So: What's to be done?

Since you can't create a truly compelling international platform by yourself overnight, you have one aggressive and one passive option. The aggressive one is to carefully, thoughtfully, and thoroughly explore a potential merger with a firm that, together with yours, would provide that international platform.

Globalization is here to stay, and the notion of a powerhouse firm based primarily in one country--no matter how large the domestic economy--will increasingly become a mark of irrelevance.

The more passive, or perhaps I should say more cautious, response is simply to do what you can to cut costs.

There's just one problem with cutting costs: Your biggest costs are (a) people and (b) office space.

You can't cut corners on either one. And, as many firms learned to their lasting chagrin after the dot-com bust, if you cut associate ranks drastically to improve short-term results, you have no mid-level bench strength when the good times return. Neither your clients nor people in your recruiting pipeline--nor partners who have to turn down work or over-stress their colleagues--forget this soon.

Which brings me to the real point.

Firms that are "suffering" (down 10% in profits?--let's get a grip, people) are probably in that situation because they made bets--hopefully calculated--to concentrate on practice areas that were hot. That's all well and good, if they were consciously chosen bets placed with an understanding of the odds of their coming up snake-eyes.

Managing a sophisticated law firm is not remotely a quarter by quarter exercise, and it's also not a year by year one. It requires explicit, considered, hard thought through choices about what your firm is, what it's capable of, and what it can credibly and realistically aspire to given your client base, your recruiting pipeline, and a clear-eyed view of your partners' and associates' appetite for change.

And then it requires a consistent communications effort, forceful, undeviating, adapted to different audiences at different times but indistinguishable in thrust. You need to be shockingly clear about the vision, able to crisply articulate it, relentless in communicating, and prepared to reinforce it all with carrots and sticks.

Come to think of it, maybe it's easier just to cut costs.

A Conversation with Jay Zimmerman

I recently had the chance to sit down with Jay Zimmerman, Chairman of Bingham, to discuss the changes he's seen over his career, and to talk about the future of the legal industry and Bingham. Herewith a synopsis.

Jay (Harvard, Harvard Law) started his career in New York at Debevoise, but within a couple of years moved to Boston and joined what was then Bingham, Dana, and Gould. Making partner in 1986, he relocated with his family the following year to London to manage what was just about then the tiniest office imaginable for Bingham--one partner and one associate--and ended up staying seven years. (Since Jay’s transatlantic stint, the London office has grown to 45 lawyers, focused on financial restructuring and financial regulatory practices.) Enjoying the quintessential ex-pat experience, Jay got to the point where he never expected to return. But of course he did, to lasting effect.

"Are you sorry in any way that you left London? Obviously there's a school of thought that London has or will overtake New York as a financial capital."

"Well, I wouldn't write New York's obituary quite yet!" Nor, he volunteers, would he worry about the "New York elite" firms who haven't yet invaded London to a material degree. They have the resources and the will to do so when they see fit, he opines. "It's a problem lots of firms would like to have."

The firm he returned to relied on Bank of Boston (founded in 1784) for fully one-third of its business, and the comfortable relationship engendered complacency (my reading, although Jay would probably be more politic). Sure enough, in the recession of the early 1990's the Bank was challenged: Its share price hit a low of $3. In 1996 (we now know) it was to merge with BayBanks, then to be acquired in short order by Fleet (1999) and finally by Bank of America (2005).

Although Jay and his partners had no inkling of that subsequent history, it was clear that with such extraordinary over-reliance on one key client, and with essentially all of its 200 lawyers based in Boston, Bingham had what was not exactly a business model for durability in a world of change.

In 1994, Jay was elected Chairman and embarked on nothing less than a concerted transformation of Bingham, with no fewer than nine mergers since 1997, and the following results:

Increasing the number of offices from one with three small satellites to 13, across the globe;

• Quadrupling its size and then some to nearly 1,000 lawyers;
• Growing revenue eight-fold; and
• Increasing revenue per lawyer from about a third of a million dollars per year to nearly $1-million.

Last year was Bingham’s best on the financial front. As for 2008, Jay reports that the firm is experiencing an even stronger first half compared to last.

How did Jay do this? As he observed drily, "fear is a great motivator."

Other firms have tried to move from a metropolitan or regional base to a national and even international platform, with varying degrees of success. How has Bingham done it?

"Well, for starters, Boston was, second to New York, perhaps the most sophisticated and highest-rate legal market in the domestic US. If you want to try to build a global firm, it helps to begin in what's a relatively high-end home market.

"LA has produced some absolutely terrific firms, Latham, Gibson Dunn, etc., but when you think about it the LA market itself is an uncommon place for very high-end law firms to come from: It's not a powerful financial capital, it doesn't have a lot of Fortune 500 headquarters, and its industries are widely dispersed. But then again, when you look at where other nationally prominent firms have come from (the Midwest, for example, and I say that as a St. Louis native), Boston wasn't the worst place to start."

It's clear to me, I observe, that Jay personally has been a large part of the driving force behind Bingham's decade of expansion. "How do you deal with the challenge of leading notoriously autonomous and independent-minded lawyers? Obviously this is a challenge for any managing partner or Chairman, but when you embark on a course of, essentially, transformation of the firm—not a 'steady as she goes' strategy—you've really upped the ante."

"It's probably a cliché, but it's communicate, communicate, communicate. I'm constantly traveling—in fact I just got back from London and Tokyo—and I meet and talk with as many partners, associates, and staff as I possibly can. I do videotapes. [There's a nice sampling on the firm's website—Bruce] In fact I just did a videotape for the summer associates, who are just starting. But there's no question it's a challenge. You need to be out in front of your partners, but not too far out in front."

And the message is?

"The message is two-fold:

"Number one, this firm is ambitious, and our lawyers need to be ambitious. They need to understand that. When I talk to people we're thinking of recruiting, I try to get a sense of their level of ambition. People want to fit in, and we as a firm want them to fit in. So ambition is part of what we're all about.

"Number two, we love change. You don't hear that often from a law firm, but the fact is that the status quo is good for incumbents, and we're not an incumbent. In change we have opportunity; in stasis we don't. So people here need to be prepared to embrace change."

I observe that law firms can be fragile institutions. Is that something he worries about?

"Of course. We're all here voluntarily. And when you're in the business of assembling a bunch of highly talented people, one of the consequences is that those people have options. The only reason they come back up in the elevator in the morning is because you've presented them with, and continue to present them with, an attractive career proposition. But yes, I pay a huge amount of attention to that. It goes back to communication, and to having people here who fit in and want to fit in."

Is "work-life balance" part of that equation? Part of the task of retaining talent? And how different is "Gen Y?"

"Well, they're really hugely different. The original IBM PC was introduced in 1981 and our new associates were born after that. They've grown up digital; it's not news. But I don't think the term ‘work-life balance’ is helpful, descriptive, or informative. If you're going to make it here, you need to be committed. What has changed is that commitment takes a different form. When I started at Debevoise, it was all about 'face time.' You needed to be seen in your office at 7 or 8 or 10 pm, and the same on Saturday mornings. But today of course you can work from pretty much anywhere—so long as you do the work.

"But again, the commitment hasn't changed. Look at young investment bankers starting out. They get told, 'Look, you're going to make a lot of money, but you need to be on call 24/7. We're not going to need you 24/7, but you need to be on call.' For our associates, what I tell them is that it's all about realism. If they're realistic about the commitment this profession demands—as well as the rewards, intellectual, professional, and otherwise, that it can provide—then they'll be fine. If they're not realistic, they're in for a rude awakening."

I ask if he's familiar with the industry structure I call the "hollow middle," where consumers gravitate toward either the high-end, high-quality providers, or the mass market, value providers, but not in meaningful numbers to any middle-market providers. This industry structure is remarkably common and seems to be stable—an "equilibrium," as economists would put it. For example (think about whether these don't represent your own buying patterns):

• Apparel (you want Armani or Gap)
• Cars (BMW, Lexus, Mercedes, or Toyota and Honda)
• Alcoholic beverages: Beer, wine, and liquor (fill in the blank)
• Groceries (Roquefort or a dozen eggs)
• Financial services (free checking for life or Bessemer Trust)
• Etc.

Jay thinks it may hold lessons for the legal industry. And we know where he wants Bingham to be.

I realize that I don’t have a firm grasp on Bingham’s international strategy, so I pose the question bluntly: “Tell me what it is.”

Jay says he likes to use the phrase “global relevance.” By that he means Bingham attempts to offer a practice focused on one of their core strengths, which is global restructuring and financial regulatory work. They strive to offer this in London, in Tokyo, and increasingly in Hong Kong. “There are a lot of opportunities out there which are very real—they’re just not opportunities for us.” In other words, Bingham doesn’t need to have a dozen offices across the EU, or any offices in mainland China until the financial systems there mature a bit more.

“What makes this strategy work for you?”

“Well, first of all, there are spinoff benefits to other practice areas, including litigation, corporate, and finance work itself. But secondly, we’re benefitting—as we have in other areas—from changes and even relative turmoil in the markets. I’ll give you an example. Ten years ago in London everything having to do with restructuring distressed companies or distressed assets primarily involved banks: They had extended the credit, their covenants that were being violated, and they were in the driver’s seat. Since we didn’t have old-line relationships with those banks, we didn’t have the connections necessary to attract that kind of work.
“But today lenders are all over the lot: They’re hedge funds, maybe private equity, other sources of capital, and bondholders are no longer passive—they’re aggressive. This gives us many points of entry, and they’re not all the traditional institutional players. As I’ve said before, it’s a different world, and that creates opportunity for us.”

And what of the future?

“We believe that as globalization accelerates and the world becomes a more complex place, there will be increasing demand—both in absolute terms and across geographical regions—for sophisticated restructuring capabilities, again, with all the financial regulatory authority interfacing that goes with it. We don’t think this practice focus is at any risk of obsolescence.”

Regular readers will know that one of the “evergreen” topics here at "Adam Smith, Esq." is what can possibly explain the fact that for the past 30 years essentially 50% of law school graduates have been women and for almost the same period of time only about 15% of BigLaw partners have been women. Neither number is budging. Why, I ask Jay, is this?

“As a father of two grown daughters, I think about this often, so I’d like to take some time to share my thoughts on this. The unfortunate reality of today is that you can’t defy gravity, but I am optimistic things will change.   By ‘you can’t defy gravity’ I mean that graduates of our elite law schools, for the most part, marry people with equally promising career prospects. So you have all these couples composed of a pair of high-achieving people starting off.

"When it comes time to have a family, it often makes economic sense—putting aside any emotional issues—for one spouse -- and it is usually the woman -- to focus on raising the kids. If you assume that many of these couples are in a position to live on one income, it’s probably not so surprising what we see happening in the workplace.

"This scenario is not unique to law firms. We need to do a better job as a society to ensure that there are equal opportunities for women to pursue their career ambitions -- and not be automatically placed in a position of choosing between starting a family or building a successful career. Ultimately what we can do, and I do believe that we do this at Bingham, is to provide the opportunity for all our lawyers -- men and women -- to succeed.

"For women, we encourage flex- and part-time schedules. It is not uncommon for us to elect women partners who are or have been part-time. We provide an environment where women are encouraged and are given every opportunity to succeed. Our efforts have not gone unnoticed internally as well as externally. We’re consistently noted for our positive and supportive work environment by FORTUNE in its ‘100 Best Places to Work For’ issue (for five straight years), and by Working Mother and several regional publications where we have offices."

As we're preparing to adjourn, Jay recommends to me a Harvard Business Review article that has been influential in his thinking, "Strategy as Active Waiting" [only available for a fee, but I've bought it and look for a column about it here soon]. The concept is essentially:

• Keep your priorities clear, but your roadmap fuzzy;
• Test the future; examine your assumptions; keep an eye on the horizon;
• While you're watching, keep the pressure on your day to day competitiveness; don't let up; and
• When you see an opportunity opening up, focus on it with urgency.

As I’m about to get up, Jay asks abruptly if I think leaders can be made.

“No, I don’t,” I say. “You can ‘make’ managers, and you can expose people with leadership potential to career-broadening environments (say, sending them to Hong Kong for 3 years), but no, I don’t believe you can ‘make’ a leader out of whole cloth.”
“I agree; nope, you can’t.” (I’m relieved to have provided the right answer.)

There's little doubt Jay has managed Bingham with urgency and focus. The challenge—scarcely unique to Bingham—is now maintaining their strategic focus as they expand internationally. And besting the hollow middle.

Georgetown Law Conference on the Future of the Global Law Firm

I'm at the Georgetown Law Conference on the "Future of the Global Law Firm" for the next couple of days.

I'll try to report in as close to real time as I can, but whether or not I achieve that objective, look here on "Adam Smith, Esq." for the most complete coverage of this promising and unprecedented conference.

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.

"Legal Transformation Study" Released by Altman Weil

Today Altman Weil announced its release of The Legal Transformation Study:   Your 2020 Vision of the Future, published by Decision Strategies International:

“The comprehensive industry assessment identified 11 key global trends and uncertainties shaping the future of the legal industry, then developed four possible planning scenarios that the legal industry may face in the next decade,” said Paul Schoemaker, Ph.D., research director of the Mack Center for Technological Innovation at Wharton Business School, and the founder and executive chairman of Decision Strategies International.  “These four scenarios can be used as a framework for challenging current service models within the industry, answering key strategic questions, and helping stakeholders, including corporate law departments, law firms and legal service suppliers, identify proactive strategies to ensure future success.”

"According to Dr. Schoemaker, four possible scenarios for the delivery of legal services between now and 2020 are summarized as follows:

- Blue-Chip Mega-Mania: A model that emphasizes the global consolidation of legal service providers and the dominance of giant law firms with vast global presence and offerings spanning all legal areas.

- Expertopia: A scenario that envisions the increasing complexity of the law and challenges of corporations operating in multiple environments worldwide, thereby placing a premium on specialization and expert-driven cultures at legal services organizations.

- E-Marketplace: A model built on the premise that technology will be a catalyst, but not the core, for an industry transformation in which an array of Web-based technologies will make information more available and expert judgment more valuable.

- Techno-Law: A scenario that contemplates rising corporate investment in automation capabilities throughout the legal services industry, leaving only the high-end services to be delivered by legal professionals and potentially requiring a complete reconstruction of the traditional business models in the legal services industry.

“In the past, law firms and corporate law departments have frequently been taken by surprise by unexpected forces that directly influenced the practice of law,” said Jim Seidl, president of Legal Research Center and co-developer of the Study.  “The findings of this Study will empower legal service providers to proactively compete more successfully in the global legal marketplace, reduce the risk of unexpected business surprises and threats, and identify new opportunities for business growth in the next decade.”

“As a provider of services within the dynamic electronic discovery services arena, we closely monitor current trends and anticipate the future of our profession to help our clients make well-informed decisions and achieve favorable results,” said Greg Mazares, president and CEO of Encore Legal Solutions.  “The Legal Transformation Study is an important tool we can all use to prepare for any number of potential business scenarios.  We are pleased to have been a primary developer of the Study and look forward to sharing the results with our clients and other legal professionals across the nation.”

“This Study is a tool to test the resiliency of law firm strategic plans across a range of possible futures, or to develop new plans more likely to assure their success,” said Ward Bower, strategy consultant at Altman Weil.  “This is critical stuff for law firms.  If they get their basic direction wrong, they’re toast.”
 
“There can be no doubt that we are poised for significant change between now and 2020, with a wide range of business, technological and regulatory forces sure to have a major impact on the way that legal services are delivered to corporations worldwide,” said Mark Chandler, general counsel of Cisco Systems, and a Study contributor.  “This groundbreaking Study identifies the likely components of these industry changes and prescribes important guidelines for how corporate law departments, law firms and other legal service providers can start planning now to seize these emerging opportunities while protecting against competitive threats.”

Sponsors include of course Altman Weil, and Jomati, but also Encore Legal Solutions, Bridgeway Software, Inc., Deloitte Financial Advisory Services LLP, DuPont Legal, Eversheds, Intellevate, Meritas and Solomon Page Group LLC. 

You can order a copy here. 

Report From London

Just back from an abbreviated week in London (essentially Tuesday through Thursday).  Herewith a report.

I met with the managing partners of a good half-dozen firms, fairly representative of the marketplace, and unsurprisingly the top question on most minds is what the economic downturn portends.

Unlike most of life, where a bell curve distribution is the best first approximation of almost any sampling, views on this topic are bimodal:  Either people tend to believe things could get quite bad indeed, or else their  firms are having bang-up first quarters here in 2008.  To be sure, those on both ends of this spectrum are hesitant to predict that their gloomy or sunny outlook will endure:  Uncertainty, in spades, is the watchword of the day.  And so I resolved to try to delve into deeper and more enduring questions.

Primary among them are whether London will overtake New York as a global financial capital, and what the prospects are for a major (as in "headline news") US/UK  law firm merger.

In a bit of contrast to last time I was in the City last November, there's a more cautious and less triumphalist air about London attaining supremacy over New York.  (I will resist the temptation to link this, as rich as it is, to the overwhelmingly delightful, gratifying, and juicy self-immolation of Eliot Spitzer, which occurred during my trip.)  Now, the view  seems to coalesce around a consensus that New York and London will always be transatlantic cousins, each with respective styles and strengths and weaknesses, but neither regnant over the other in capital markets.

Interestingly, one lunch I attended featured a speaker (an American by birth but one who has lived in London for 20+ years) who discussed the cultural  differences between doing business in the US  and the UK.  If you will indulge me in a bit of editorial license, these were the highlights of her talk:

The first question people ask of new acquaintances in the US is, "What do you do?"

In China,  it's "Where are you from?"

And in the UK it's "What school did you go to?"

She also told the anecdote of a set of deal documents being jointly worked on by a US and a UK firm.  As drafts were updated, the routine became that the US firm would turn on "track changes," insert its revisions, and email it across.  The UK firm, by contrast, would leave the document untouched but return it with a cover memo suggesting editorial revisions.

After a few rounds of this, the US firm piped up with some exasperation that the UK lawyers were requiring double-work:  First, to read the memo and determine the validity of its points, and second to actually make  the changes.   Why not just  make the bloody changes?  And here, of course, we have a cultural misunderstanding:  The UK  lawyers were merely being politely deferential in not assuming they could trespass all over the so-far-agreed-upon document.  The US lawyers were assuming that  efficiency and expediency were the goals. 

Also anecdotally, in the departure  lounge of my return flight, a woman asked me from behind my back, "How are your dachshunds?"  Having succeeded in getting my attention, she turned out to be a former neighbor on the Upper West Side, in a building catty-corner to ours, who had moved a few years  ago to London with her investment banking husband for a tour of duty.  I told her that I hoped she felt as at home in London as in New York—on occasion I'm tempted to envision it as almost the sixth borough of New York—and then I took the opportunity to ask her how she would  compare the two cities, as someone with a ringside seat to each.  She replied that London is like Brooklyn Heights—unmistakably an urban locale with its own indelible identity, but less frenetic and less dense than Manhattan, lower-rise.

As noted, the other enormous question of interest (well, at least to me) was the prospect for a headline merger.   Previously, I must say, this speculation has  tended to be dismissed with suspicious abruptness on both sides of the pond.

This trip  was a bit different.  People were far less dismissive, and many indeed even owned up to the potential strategic and business logic of a hypothetical US/UK (read:  New York/London) merger.  Culture, of course, will always be the obstacle, but the financial misfit that was presumed to exist heretofore may be eroding as practices converge and globalization truly kicks in. 

One point of view I heard in different contexts and expressed in different ways, but pregnant with potential meaning about the market's readiness for a merger, was this:  Some US firms are relatively strong in Asia and some UK firms are relatively strong on the European Continent.  Wouldn't that make for a potentially interesting combination, delivering the three first-world continents, North America (including New York), Europe (including London), and Asia?

But repeatedly, the reservation was voiced that it is so intrinsically difficult to sustain long-run investments in new geographies and practice areas where partners' expectations are to "strip-mine" the firm of cash at the end of every year and even the most visionary managing partners with the greatest commitment to the long term find it almost impossible to orchestrate continuing, loss-producing, investments.

Pop quiz: Q:  What's the one line item that appears on every corporation's balance sheet that I suspect you have never seen on a law firm's?

A:  [tick-tock-tick-tock.....]  Retained earnings.

This still begs the economic question which applies to mergers and long-term investments in new geographies alike:  Why, if the initiative would benefit us all in the long run—better work from happier and more valuable clients, higher profitability, stronger weapons for recruitment and retention—can we not stomach the short-term sacrifice?

I have no answer to this question.

Which makes me optimistic that, during my career, we shall see a transformative merger.

But, you protest, conflicts will become insuperable the larger firms get?   You know as well as anyone that rules are made to evolve and adapt, and with Chris Perrin, the general counsel of Clifford Chance, calling for relief from conflicts just last week, can reform be far behind?  (He would permit sophisticated clients to waive conflicts in any and all circumstances.)

In any event, I predict that I'll be going to London pretty regularly.  Not the worst duty.

"Think Different?" Who, Me?

Consider your reactions to these three hypothetical scenarios:

• In light of slack demand, BMW announces a combination of price cuts, rebates, and financing incentives that would save you 15%. More or less likely to visit a dealer?
• The Dow Jones Industrials are down 15% year to date. More or less likely to add stocks to your portfolio?
• Reflecting softened deal flow in their area of expertise, a boutique firm that would be a nice fit with your firm announces revenue down 15% year over year. More or less likely to invite their managing partner to dinner?

Of course all three scenarios are structurally all but indistinguishable. So why would your instinct be to run to the BMW dealer, hold your fire on further stock investments, and postpone the dinner invitation for another few quarters to see what happens?

The good news, such as it is, is that if those are your reactions, you're in ample company. Actually, the first two scenarios—the "15% off sale" on BMW's and on stocks are by now a classic example of the irrationality of homo economicus. We love getting a deal on goods and services (and new homes, anyone??), but when investments are "on sale," we run for the hills.

But here at "Adam Smith, Esq.," we don't cover BMW's or the stock market, so let's focus on scenario #3.

Fortunately, yesterday morning's New York Times published a piece, "Mergers in a Time of Bears," speaking to #3. It describes a study published in this month's Academy of Management Journal (evidently unavailable online) which it summarizes thus:

"Most mergers fail.

"If that’s not a bona fide fact, plenty of smart people think it is. McKinsey & Company says it’s true. Harvard, too. Booz Allen Hamilton, KPMG, A. T. Kearney — the list goes on. If a deal enriches an acquirer’s shareholders, the statistics say, it is probably an accident.

"But a new study puts a twist on the conventional wisdom. It’s not that all deals fail. It’s just that timing appears to be everything. Deals made at the very beginning of a merger cycle regularly succeed. It’s the rest that fall flat."

The statistical analysis behind this provocative (but intuitively attractive) proposition must remain opaque, not only because the primary source seems unavailable, but because, as theTimes describes the methodology somewhat unhelpfully: "The professors measured the acquirers’ stock appreciation or deprecation by using a fancy calculation of what they call “abnormal returns,” which examined share prices five days before the announcement of the acquisition and prices 15 days later. The math is complicated, but they say the “abnormal return” is predictive of stock performance in the future."

Be that as it may, and taking the good professors at their word, what's really going on here?

My emphatic diagnosis of what is not going on here is "Think Different." What is going on here is the herd mentality affecting behavior and decision-making at the highest level. And we are reminded that that is no way to outperform the market. "Baron Philippe de Rothschild, ever an opportunist, is said to have advised, 'Buy when there’s blood in the streets.'" Warren Buffett has clearly subscribed to this advice, if not to its precise expression at the hands of Baron Rothschild.

The moral of this to me is clear: Being a victim of bandwagon effects is no way to exercise leadership and in spades it is no way to steal a march on your competitors. I assume you all noticed that Latham announced last week the simultaneous opening of three new offices in the Middle East (in Dubai, Abu Dhabi, and Doha). This is not shrinking-violet behavior, and it's not batten-down-the-hatches behavior. In my opinion, it's straight out of the Corporate Finance 101 playbook: Increase portfolio diversity, reduce Beta, maintain returns.

But you have to be willing to diversify. Buy more stocks. Schedule dinner with that managing partner. Or, as the Times less circumspectly puts it, "C.E.O.’s should stop being such scaredy-cats. While everyone else is battening down the hatches, go make a deal."

The Story Behind the Reed Smith/Anderson Kill Story

By now it's been amply reported that 55 of Anderson Kill's 126 lawyers are leaving for Reed Smith, effective February 1.   In classically hyper-ventilating fashion, the Brits (Legal Week) reported that Reed Smith "has swooped, ...taking almost half the fee-earners."  Adding to the somewhat melodramatic coverage given the story were confused and even conflicting statements initially coming from the two firms.  For example, on law.com the two firms couldn't seem to agree on the number actually departing, with Reed Smith sticking by the figure of 55 and Anderson Kill rather obliquely calling the number departing "fluid."  Meanwhile, on the widely read WSJ Law Blog, their second story about it said:

"Law Blog colleague Amir Efrati spent a good part of today tracking down the story behind the story. The Law Blog’s conclusion: given how little the firms agree on the circumstances surrounding the failed merger, it might be just as well that they didn’t tie the knot."

I decided I'd prefer to get to the bottom of things on my own, so last weekI had a chance to catch up with Greg Jordan, Reed Smith's managing partner, and the real story is a bit more complex (and human, and nuanced) than the immediate and somewhat sexed-up reports would have had it.

First, here are some of the basic facts:

• As noted, the deal is effective 1 Feb 2008
• A total of 56 lawyers out of about 120 at Anderson-Kill are coming over to Reed Smith:  25 partners, 3 counsel, 27 associates.
• Some  of the key personnel who came over include:
  • Jeffrey Glatzer, a bankruptcy litigator, and former Anderson Kill firm-wide president and CEO
  • Lawrence Kill, an antitrust lawyer and a name partner
  • James Davis, managing partner, Chicago
  • John Ellison, managing partner,  Philadelphia
  • Steven Cooper, head of litigation, and  J. Andrew Rahl, Jr., head of bankruptcy, both members of the executive committee.

As for how the talks began—and they were merger talks at the outset—Greg reported, which is not news, that Reed Smith is always on the lookout for ways to build  key practice areas, and since insurance recovery work is an important practice, the talks with Anderson Kill were logical. 

Another aspect of the early reports was also correct:  That the merger talks ultimately broke down over conflicts.  The exact nature of the conflicts, however, is slightly different than typically implied—it was not that Reed Smith represents large swaths of the insurance industry and Anderson Kill typically sues the insurance industry—but rather that the two firms found themselves representing different interests in some large bankruptcy proceedings.  (The rules and customs of the federal bankruptcy court are, shall we say, beyond the scope of "Adam Smith,  Esq.," but suffice to note that they are a land unto themselves where, among other things, even knowing and informed  consent to waiving potential conflicts is often a non-starter.)

Things then got complicated. 

Whether or not the conflicts were irreconcilable, ultimately, it was simply too hard—quite understandably—to ask  one or both of two groups of dedicated lawyers who had worked long and hard on sizable matters to resign their client representations.  And so the merger talks broke off.

But introductions had been made and some unmistakably positive impresions formed.  Soon, some senior Anderson Kill partners came back to Reed Smith and asked if they could still merge if they could  do it with almost everyone instead of everyone.  Reed Smith's response was that since it wouldn't work as a "whole firm" merger, then it was really up to Anderson Kill to solve their partnership issues and work out any alternative they'd like to propose, but that  Reed Smith would entertain continuing discussions if they could do that and there was anything they wanted to come back with.

Ultimately, the Anderson partners did resolve their issues and Reed Smith extended offers to 57 lawyers at Anderson Kill and 56 accepted.  As Greg somewhat ruefully put it, "it ended up being a heck of a lot more complicated than a straight merger would have been."

Does Greg have any regrets as to how it played out?

"In terms of the business for both firms, going forward, absolutely not!  For us, it's one more step in our  plan of filling in  gaps in our  practice areas, helping us build out our litigation and restructuring practices, and continuing to invest in our key offices in New York, Chicago, and Philadelphia.  And as for Anderson Kill, we think, they are going to do very well going forward; they have a good group and a good plan and we wish them all the success in the world."

Absolutely no regrets?

"Well, I have to admit  the way it  was reported made us look a little predatory—that was unfortunate and unfair.  But  I guess I understand it made for a better story."

---

What, then, are we left to learn from this?   My read is that both firms—and, on the whole, the individuals  involved—are going to be far better off in the long run.  And I don't think this is happy talk.

One of the peculiarities of the practice of almost any individual lawyer, and one of the few abiding truths in our world, is that some people are better off having a platform behind them that provides a diver

unse practice set, high capacity when needed, and a relatively ambitious geographic footprint, and for others those characteristics are irrelevant at best and an expensive and irritating distraction at worst.

My working hypothesis about all this, then, is that the people involved understood that—intuitively and subconsciously if not analytically and with cold rigor—and made  their self-enlightened choices.

Where I come from, that's the way the market is supposed to work.

And don't we, after all, see this all the time on a smaller scale (one admittedly not lending itself to breathless leads in the press)?  Don't we see people migrating laterally from smaller boutiques, regional and specialty firms, to larger national and international platforms, and don't we  also see exactly the reverse?  This was simply a bunch of people doing both those things simultaneously.

The Annual Hildebrandt/Citi "Client Advisory:" Glass Not Half Full

Annually, Hildebrandt and the Citi Private Bank issue a "Client Advisory" and this year's is just out. 

What will doubtless grab headlines (and already has at places like the WSJ's Law Blog) is the downbeat forecast for 2008—the first since 1998, according to the Advisory—affecting both transactional and litigation work, inspiring the inevitable "perfect storm" cliche.  I devoutly hope  you don't come  to "Adam  Smith,  Esq." for headline news (or cliches, for that matter) so herewith my own take on what are the highlights of a remarkably comprehensive and data-rich report.

They open by calling 2007 two very different years rolled into one:  There was the pre-subprime first half and the post-subprime second half.    More specifically, year-on-year revenue growth and "demand" growth (billable hours) were 13% and 7% respectively at mid-year, but declined "dramatically [and] significantly" in the second  half of the year driven by the "precipitous drop  off in structured finance," across-the-board declines in M&A and transactional work, and even a "softening"  in that all-American  indoor sport, litigation.  If  the first half of the year  shot the lights out (from 2001—2006, revenue and demand growth averaged 10.5% and 3.5%, respectively), the punch bowl was definitely yanked away in the second half. 

I have wondered—and I imagine you have wondered—whether the fabled "resiliency"  of our industry in economic downturns won't ride again to our rescue, as the classic  countercyclical practices of litigation, restructuring, and bankruptcy kick in.  While it's too soon to tell for sure, the Advisory reports that the answer so far is "not yet."  If this holds true it will indeed be bad news.  But never bet against the  creativity of those in the business of pleading a cause of action and repulsing a motion to dismiss.

A far more interesting perspective on why this downturn may be different from prior  downturns relates to the changing composition of partnerships compared  to, say, the 2001 downturn. In a nutshell:

• We have more non-equity, or income, partners; and
• Those are the least productive cohort of  any firms.

Put differently, leverage is more expensive than it was last time  around, simply because  non-equity partners are more expensive than associates and  they're less productive, if "productive" = "billable hour output."  This is indeed new, and here are the figures to back it up:

As faithful  readers know, I have long believed that creating, and growing, a material non-equity partner tier is a double-edged  sword, and this chart seems to seal the case that, in too many firms, it can be a way of avoiding awkward conversations and hard decisions with the intended result (increased leverage and PPP) being defeated for want of rigor and discipline in implementation.

The Advisory doesn't discuss this, but one of my hypotheses about introducing, or increasing, a  non-equity tier is  that it changes the composition of those lawyers considering your  firm, in unintended but deleterious ways.  Permit me to explain. 

If you're a single-tier firm, associates (home-grown and lateral) who join you will, at some fairly conscious  level, believe that they could win the partnership tournament and grab the brass ring:  "I've never lost  a competition in my life before, and I'm not about to start," might paraphrase the mindset.  But  if you're a two-tier firm, a significant cohort (and a growing one over time, as reputation spreads and becomes entrenched in people's minds) of lawyers  coming to you will have a different perspective on why:  "$300-400,000/year, adjusted for inflation, so long as  I don't screw up, and I don't have to beat my brains out?  Not a bad deal—I'll take it!"

As you  can see, single-tier  firms attract  a very different candidate set, and that has genuine consequences in the ambitions,  the competitiveness, and the business-getting energy level of the firm as a whole in the long run.  Ignore this you may, but know what bargain you have made.

Another difference today as opposed to the 2001 dip is the level of client push-back on rates.  We all know that "convergence," RFP's, beauty contests, and demands for discounts have never been more prevalent.  Less anecdotally, the Advisory reports that realization has  declined over the past year, from 91.2% in 2001 to 90.8% in 2006.  Although this seems small on the surface, it "represents a substantial amount of money"—and, I  might add, an amount of money that would  otherwise drop straight to the bottom line.  If the "plan" of most AmLaw 200 firms to safeguard  their revenues in 2008 is  simply to raise rates, that plan may have to be taken directly back to the drawing board.

Finally,  when this  report was released this morning, it so happened  that I was about to deliver a keynote speech to a conference room full of legal industry professionals and so I took the opportunity to deliver a pop quiz.  Herewith the same, for you.

Q.: What percentage  of newly created equity partners last year were  "home grown" (promoted from associate) vs. laterally recruited?

A.:  [tick tock tick tock....]

Answers from my audience ranged  from 10-30% lateral, with one outlier  guessing  50/50.

The outlier won:  The actual figures  reported in the Advisory were 52% home-grown/48% lateral.   This is a marked, almost shocking, departure from the situation 10 or even 5 years ago.   You may laud or decry this ("talent  rises to its level" or "loyalty and collegiality are  dead") but there is no gainsaying it's different  than our previous experience.  And its relevance to the hypothesized downturn we're discussing?  Simply  this:  Laterals are typically the  first out the door in bad times.  Or, as I have put it only half in jest, "The best predictor of getting divorced is having already been divorced."  Those expensive laterals you acquired at the (retrospective) peak?  En garde.

The Advisory, which I  commend to you in full,  is a welcome departure from so much commentary on our beloved industry, in that it is anything but  fact-challenged.  Indeed, it's fact-dense; some will  be  explored in future installments here on "Adam Smith, Esq.," but  let me leave you with one last fact and one last opinion.

Fact:  Breaking the "higher profit" firms into three segments, superior (+12.6% annual increase in PPP since 2000), average (+6.2%), and  under-performers (+3.5%), the  correlation between  having an international footprint is striking:

• "Superior:"  17% of lawyers are outside the US
• "Average:"  14%
• "Under-performers:"  7%

Causation?  Please, you know better than to reach that seductive conclusion on such limited evidence, but correlation indeed and compelling as an anecdote beyond belief.

Opinion:  However the economic news of this coming year  unfolds, both for America and world writ  large (don't believe in the rumors of "decoupling" between America and the world—not yet, anyway), and however it unfolds here in law-firm land, the key challenge for  managing partners and executive committees will have almost nothing to do with absolute performance and almost everything to do with relative performance.

In other words:  Manage expectations.

We now have a significant cohort of partners who have rarely experienced much less  than double-digit annual increases in every germane (to them) statistic in sight:  Revenues, profits, and PPP.   God forbid those numbers  fall into the low single-digits or go negative.  But God may not forbid. 

You aren't God, but you are if nothing else the voice  from on high.  Start, if you haven't already, preparing the landscape.  And, as I've written, fear not.  Do  not  reflexively batten down all the hatches.   Now more than ever, talent management and cultivating truly  close relationships with clients matter.  Invest in those two things—the supply and the demand,  if you will, for your firm—and steal a  march on your  more conservative brethren.  Exit the downturn with the wind at your back.  Manage expectations, to be sure:  But no fear.

A Contrarian Bounce?

I previously asserted that corporate America teaches that firms that treat recessions as opportunities rather than threats could steal a march on their more conservative brethren and emerge into the post-recession recovery as more powerful competitors.

Today I'd like to back up that claim.

It's germane because even in the few days since I published my prior piece the cascade of bad economic news has intensified.   (For example, I said then that the stock market had opened the year with its worst performance in 30 years; it's now become its worst year-opening start since  1928.)   So what's a managing partner to do?

No fear.

Here's what McKinsey had to say, based on a study of about 1,000 mainly industrial US companies over the time span 1982—1999, which of course straddles the 1990—1991 recession.  In a nutshell, firms who exploited the opportunities inherent in recessions:

• pursued more M&A deals during recessions than during normal times (compared to their lagging and more conservative peers);
• spent more on "SG&A" (selling, general, and administrative expenses, for which you can roughly substitute "overhead" and be not far wrong) during downturns than their peers and more as a percentage of revenue than they themselves spent during flush times; and
• also followed the SG&A spending pattern with respect to R&D and advertising.

All of these behaviors are contrarian, even scary.  But I told you to have no fear, so let's explore this a bit more.

As for M&A, during normal times the contrarian firms did 63% fewer deals (measured by value of assets acquired vs. the median in their industry over the same time frame), but during recessions they closed the gap with their peers, not only pursuing more deals—their peers essentially exited the M&A business entirely during the recession—but pursuing larger deals, and devoting the management time needed to study, execute, and follow through on opportunities for acquisitions.  Does "buy low" come to mind?

But "the most dramatic" divergence between the aggressive leaders and the laggards was, as noted, in how they changed their operating spending mix.  Counterintuitively, they invested more in SG&A, in R&D, and in advertising.  And not just more than their batten-down-the-hatches peers, more than they themselves spent as a percentage of revenue during flush times—when they were among the most efficient and productive among their peer group in these "overhead" costs.

This represents how the more successful, aggressive firms changed their  spending across the three areas vis-a-vis the industry average, on a size-adjusted basis.   The story is simple:  The winning firms ramped up spending more than their peers during recessions and less than their peers during expansions.

What's  going on here?

Rather than tightening their belts, the aggressive firms apparently sensed opportunity and chose to invest in these areas in hopes  of a longer-run payoff, whereas during flush times they focused on operational efficiencies.  In other words—although they always invested more than their peers in R&D—their strategy was to sacrifice short-term profits in bad times for the sake of longer-term advantage:   And to more than make up  the sacrifice when good times returned.

And the market seemed to recognize this.  For industrial firms (which these primarily  were), a rough and ready proxy for how the market views firms' prospects is the "market to book" value ratio.  If you think about it, this makes some sense:  The book value is presumably about the least the firm would fetch if broken up for parts.  And to the higher the value the market places on the firm above that floor, the more the market evidently thinks the firm is excelling  vs. its competition.  Note in this chart how the winners accelerated away from the pack in the post-recession period:

Both during recession and expansion, you could say, in a sense, that they "spent smart."  But that's somewhat tautological.  The whole premise of the McKinsey study, after all, was to identify winners and losers. 

I think the key point is subtly different, and it is, as I said:  No fear.  Contrarian views can sometimes win.  Is it "risky" to increase operating expenses during a downturn?  So  it  would seem.  But the real risk may be in following the herd.

The Upcoming Banana?

Regular readers, or simply those with good memories for the jovial Cornell University economist Alfred Kahn, who briefly served as Jimmy Carter's czar over wage-price controls, as well as the last head of the unlamented Civil Aeronautics Board (where he deregulated the domestic airline industry), will recall that he was strictly instructed by the White House not to utter the "R-word" (recession) in Congressional testimony he was about to give. So, when inevitably asked by the good Representatives whether the economy was in a recession, he replied faithfully that he could not say that, but that it was in his view in "a banana." (Subsequently, following complaints by banana industry lobbyists, he changed the term to "kumquat," presumably a fruit with less vocal representation in Washington.)

So: Are we facing a "banana"? And if so, what should you do about it?

Let's start with some data points:

• Morgan Stanley, Goldman Sachs and Merrill Lynch have issued "recession warnings."
• The Economist's somewhat impish "R-word index," which counts how many times in a quarter the word appears in The New York Times and The Washington Post, and which accurately forecast the 1980, 1991, and 2001 recessions, is nearing a new peak.
• "It is hard to be an optimist," Sullivan & Cromwell Chairman H. Rodgin Cohen said [of the outlook for M&A activity in 2008]. "With the markets where they are, it is going to be a tough year. The markets hate uncertainty, and we are in an uncertain time."
• Gold and oil are both at or near all-time (inflation-adjusted) highs.
• The front page of just one day's Wall Street Journal lists the following facts:
  • American Express drops 10% in one day after announcing increased writeoffs and delinquencies; Capital One, MasterCard, and Discover also drop;
  • Retailers ranging from McDonald's to Tiffany report disappointing same-store sales;
  • The stock market has started 2008 with its worst year-opening slide in over 30 years; and
  • A Barron's roundtable questions whether the 25-year bull market is running out of gas.
• The American Lawyer's most recent survey of law firm leaders (last month) was appropriately headined "Fog Advisory"—the outlook is unclear.
• And, of course, Cadwalader laid off 35 finance attorneys.

Of the prospects for a recession, the schools of thought are various, ranging from:

• It's already started, we just don't know it yet (Goldman Sachs);
• It's imminent unless we take drastic stimulative steps (all the Presidential candiates, Jim Cramer);
• It's too early to tell; the data are unclear (evidently, Ben Bernanke);
• It's probably a long shot (most Fortune 500 CEO's, most AmLaw 200 MP's);
• Who, me? What recession?! (no one that I'd consider worth taking seriously).

A salient characteristic of recessions is that, in all too many cases, they can be self-fulfilling prophecies. Once the drumbeat of alarm grows deafening (the Economist's "R-word" index), people start to believe what they're reading and seeing, meaning that consumers dial back spendingto save up for harder anticipated times ahead; business slows or eliminates hiring to batten down the hatches, other businesses cut back on inventories, real estate developers dial back or put off projects, venture capital and private equity pull back hard on the reins, new projects and initiatives across the board are dialed back (IT investments, new offices, geographic expansion, starting new lines of business, launching new products) and before you know it we have an honest-to-God, certified Recession on our hands. Sometimes perception is reality. (Or, as Bernard Berenson famously remarked about the difference between art objects and the historical events they may have sprung from, in the case of actual events, you can never go back and relive them or understand them as those taking part understood them, but with art objects, "the object is the event.")

Saying it can be a self-fulfilling prophecy doesn't make it any easier to avoid, of course.

This brings us to law-firm land.

Famously, law firms are said to be recession-proof. That's not true. "Recession-resistant" might be closer, but that's not quite true either. I prefer to characterize firms as "a-cyclical," meaning not necessarily tied directly to the macroeconomic tides, but still having ups and downs.

What's going on for 2008, then?

Clearly, some practice areas are suddenly quite out of fashion, including securitization of debt obligations and perhaps structured finance overall. Hedge fund activity appears to be going quieter, as does private equity and, perhaps with them, M&A. (The hope for M&A is that "strategic" M&A will supplant financially-engineered M&A, but I doubt it will be enough to take up the slack since the limit on financially-engineered M&A is the limit on liquidity, until quite recently sky-high, whereas the limit on strategic M&A is always what makes sense in the marketplace, a far lower ceiling.)

Will restructuring and bankruptcy take over where these practices have left off? To a degree, to be sure, but probably not in whole. That leaves us roughly here, as I read it:

• I don't see a Katie-bar-the-door downturn, but more of an interruption in the post-2001 expansion. Inflation is relatively quiet (although $100/barrel oil makes things look bad, and other commodites are rumbling), which gives the Fed some latitude on rates.
• Inventories are well under control, thanks in part to the supply-chain revolution of the last 10 years.
• Unemployment is at almost historic lows.
• Excesses in the lending sector need to be worked out, to be sure, but we're already seeing aggressive and accelerating moves in that direction.

What should firms do to prepare and adapt?

First of all, panic not. Temper your partners' expectations for ever-more-glorious PPP numbers (but you were already doing that, right?--yes, thanks, I thought so). You and your firm are not responsible for the credit crunch, although you'll be hit glancingly by the consequences.

Second, let the magic of attrition work its powerful wonders. You'd be surprised how quickly payrolls lighten up if you just take your foot off the accelerator for a bit. Of course, they'll lighten up unevenly and not necessarily where you most wished they would—people are not stupid, and those most at risk are most likely to hang on tight—but you can reallocate and adjust, which is more humane than slashing (and preserves your firm's reputation for the next up-cycle,when it will matter).

Third, consider a long shot. Rent (occupancy, all-in) is your second greatest expense after people. I'm not counseling or predicting that landlords may suddenly become souls of Christian sweetness and enlightenment, but we also know that unoccupied office space (vacated, perhaps, by a mortgage lender?—just kidding) is anathema because it is, essentially, an irretrievable missed opportunity to collect revenue, not unlike a vacant seat on an airliner about to pull away from the gate. Each month space is empty is a month's rent that will never be recovered. So, opportunistically and with obvious attention to the peculiarities of your local marketplaces, see if there might not be bargains to be had.

Fourth, and apropos attrition, think about repositioning people. Don't tell me people get zero cross-training as it is. First, this is an excruciatingly poor use of expensive talent. Who knows at age 26 or 28 whether they're a litigator or a corporate type at heart? (I surely did not, and making the wrong impulsive choice of litigation was a mistake it took me nearly a decade to recover from and find my home in securities law.) Do not treat $160,000/year talent that shabbily. A second reason to cross-train is if you find yourself in the situation you may find yourself in in 2008. A third reason is the simplest of all: Lawyers with generalist exposure are the best lawyers of all. And isn't that what it's all about?

Finally, avoid the defensive crouch.

Be courageous; be brave.

If there is a downturn, seize the opportunity to pick up talent and grow your firm's capability; some top-quality people may find themselves on the street, or casting about for opportunities, through no fault of their own. Keep your antennae up; let them know you're answering phone calls and emails.

Regularly, in corporate America, firms that grasp the opportunity to build, inexpensively but strategically, in downturns, emerge into the recovery turbo-charged. You can do the same. Seize the downturn, if downturn it be. It needn't be a falling knife.

Why Do Firms Merge?

Why do law firms merge?

The fact is, I wonder sometimes myself.

More seriously, there is typically an array of stated and unstated reasons, among them:

• Growth for the sake of growth:  Inadvisable.  Size alone doesn't guarantee anything particularly desirable, and may guarantee some things undesirable, such as increased managerial complexity, more difficulty achieving the holy grail of the "one-firm firm," more partners who  are relative strangers to one another, and increased odds on serious conflicts.
• Merging to achieve a stronger geographical footprint:  This can make great sense, so long as you understand that not all cities or regions are created equal, and that some are far more strategic than others.  If your firm views itself as a financial services powerhouse, for example, you need to be in New York, London, and Hong Kong.  If you're into high tech, San Francisco and/or Silicon Valley are probably non-negotiable.  Even without specialties—say you're a general practice firm with a full range of transactional and dispute resolution capabilities—you still want to be where the clients are likely to be.  So if you're US-based, you need to cover New York, California, Washington, DC (for the regulatory dimension), and perhaps  another couple of centers of gravity of economic activity such as Illinois or Texas.
• Merging to add practice capacity:  Also a  potentially astute strategy, depending on how the hole you're trying to fill fits in among your core practice areas.  The increasing proportion of value in 21st Century goods and services represented by intellectual property largely explains, to my mind, why we've seen so many IP boutiques acquired or dismembered over the past decade or so—and why it may be increasingly difficult for the few left to survive as stand-alone entities.  It's difficult to bill yourself as a full-service firm in either the transactional or the dispute resolution space without an integral IP capability. 
• Merging from a defensive crouch, or to paper over a recent black eye, or to project a superficial image of dynamism:   All lousy ideas, needless to say.  Nevertheless, such mergers happen on a regular basis, with the firm that constitutes damaged goods asserting its high levels of energy and forward momentum rather too insistently.   A recent high-profile merger here in New York comes to mind.

Then there are the mergers where you have to admire the clarity of the vision.

Here I'm referring to the K&L/Gates—Hughes & Luce merger, which by final vote of the two partnerships will go effective January 1st.  (Back in July, merger discussions were revealed.)  Here's coverage in the Dallas Morning News, the Texas Lawyer, The Lawyer, Legal Week, and The  National Law Journal.  For the record, the combination of the 149-lawyer Hughes & Luce with the roughly 1,400 lawyer K&L/Gates will have nearly 1,550 lawyers in 23 offices:  18 across the US plus Beijing, Berlin, Hong Kong, London and Taipei. 

And what is the rationale?

For K&L/Gates, it's to establish a serious presence in Texas (over 200 lawyers in Dallas, Fort Worth, and Austin, as contrasted to just 35 lawyers in Dallas today).  Texas may logically be viewed as the third important center of economic activity in the United States, after New York and California, with a growing number of Fortune 1000 companies headquartered there—and no longer limited to the petroleum or energy industries. 

For Hughes & Luce, it's to gain access to the three-continent platform K&L/Gates brings to the party:  The US, Europe, and China.   Peter Kalis, chairman and global managing partner of K&L, pointedly noted that "Texas is a strategic market that is underserved by firms with credible, [international] platforms," which Edward Coultas, managing partner of  Hughes & Luce, echoed from the other side of the table by observing that "It removes any question of a platform issue, and we really like this firm, the people, the quality of lawyers. It's the expertise we will have at our fingertips."  The "platform issue," indeed!  Isn't that fingering rather precisely the ceiling on Hughes & Luce's growth as a Texas-native firm?

In short, a bilateral win—on paper.

The ever-gnarly issue of cultural  compatibility remains, of course, on which the only sensible observation to be made at this point is that time will tell.

But for what it's worth, speaking as someone rather familiar with the K&L culture, I think the auguries are promising.  Hughes & Luce dates only to  1973 when four lawyers with an average each of just five years of experience broke away from an established Dallas firm to fill what they perceived as a gap in the marketplace:  Focused, responsive, high-quality legal work for the Texas business community, then in a period of particularly rapid growth.    The firm's website speaks unabashedly about their "history  [being] one of innovation," and adds:

"While the coming decade will present significant challenges to the legal profession and to Hughes & Luce, we are poised to accept the challenge.  The firm's history has made dealing with change the norm, not the exception.  The firm remains confident that the combination of talent, energy, seasoned judgment and institutional know-how will continue to produce 'first-ever' results."

If I have read K&L remotely right, this sounds like a terrific natural fit.

And if it turns out not to be?

At least they're doing it for the right reasons.

Post- (And Pre-) Merger Integration: The Reed Smith/Richards Butler Story

As we've known since October 19, Reed Smith reached agreement to merge with Richards Butler Hong Kong, nearly a year after completing its merger with Richards Butler (UK) in London.  The agreement will add about $60-million in revenue and a little over 110 lawyers in Hong Kong and a small office in Beijing (with a license application pending to open in Shanghai), and, most importantly for Reed Smith, puts it on the third of the three continents where global firms needs to be in today's Flat World. 

I wanted to get a fuller perspective on the deal than just the facts and figures, however, so a couple of weeks ago I spoke with Tom Todd in Hong Kong, a senior Reed Smith partner who has been driving the integration and who relocated from London, where he had been working on the Warner Cranston and then the Richards Butler integrations.  Tom originally is from Pittsburgh, but evidently hasn't been spending too much time there lately.  Tom joined Reed Smith straight out of Harvard Law in 1967, and thus has been with the firm 40 years.  His undergrad degree is in history from Williams, Phi Beta Kappa.

A bit of background for those perhaps unfamiliar with the players:  Tom was part of the senior management team at Reed Smith for many years through 2000, and, as of the mid-1990's, the firm's strategic plan had been to gain stature and scope in the Mid-Atlantic and Northeast states—all in one time zone.  While this may sound unambitious, it was not to last for long, and the firm at least was one of the first to link all its offices through a single computer network, demonstrating a commitment to multi-office operations and management. 

A consensus began to emerge that the firm needed to be in London, the ultimate result of which was the 2001 merger with Warner Cranston, a UK firm with 60 lawyers in London and 10 in Coventry.  

As Reed Smith's strategic plan has evolved, one pillar has remained unchanged:  To ensure that it revolves around its clients and their needs, particularly to ensure that Reed Smith has a significant presence in markets important to those clients.  Historically, key industries for the firm have included financial services (Tom is a partner on the relationship with Mellon Financial, and continues in that role following its merger with the Bank of New York in July 2007) and life sciences.  The Richards Butler/London merger added a focus on shipping, trade finance, and media.

Getting down to the Hong Kong Richards Butler deal, Tom's first observation was to cut through the swirl of media clutter (well, at least for those of you who follow these things) that has surrounded the extended period of uncertainty following Reed Smith's merger with Richards Butler/UK (London) and its conspicuous non-merger with Richards Butler Hong Kong.  [There are tax reasons why the two pieces of Richards Butler had been set up formally as separate legal entities, which are both too obscure and too irrelevant to go into, but that was why a merger with one was not automatically a merger with the other.]  

Suffice to say that immediately upon announcement of the London deal, the question on every observer's lips was, "So, when is Hong Kong?  Or is Hong Kong?"  Tom's rebuttal to this is that all deals take time—which he believes is a good  thing—and even the UK deal had taken about a year to bring to fruition.  The Hong Kong deal was not much different, at bottom, "except that we were doing it in a fishbowl—which, let's just say, never makes things easier."

So what has  Tom been actually doing to advance the prospects for the merger and now the integration of the two firms?  First, simply getting to know all Richards Butler/Hong Kong lawyers, their practices, and their clients.  Second, facilitating introductions back and forth between Richards Butler/Hong Kong and Reed Smith in the US and UK.  Third, meeting with clients to reassure, inform, communicate, and seek their thoughts.  And finally, sitting in on, but, he notes pointedly, not leading or running the activities aimed at combining the two firms.  (A formal integration committee will be established now that the merger is approved.)

And what exactly is so special about this?  Isn't that the way any well-run firm would do it?  Perhaps, but Tom reports, and I have no basis for disagreeing, that he's not aware of any other large firm that puts a senior lawyer on the premises of the merging firm for the explicit and dedicated purpose of facilitating integration.  He notes that his role is manifestly "not to run anything, and not to change them, but to provide the glue between the two firms and help them get to know each other."  I ask if he was involved in the negotiations leading to the merger and he reports firmly that he was not.  I gather he thinks it an advantage to have stood back from the process of negotiation per se and only to step in when the firm's leadership believes he could be helpful as a partner on the ground going forward.

"And how do you know that integration has been a success?" I ask.

"Well, our philosophy has always been to try to pick people we want to combine with because of their talents and their capabilities and their knowledge of their own local marketplace (and we don't believe we have all the answers).  Our intention, our hope, and at least in part our experience, has been that if you've made the right decision you will find out there are both people and processes that will improve Reed Smith. 
"And on that score I think our track record speaks for itself:   Just look at the key people now in positions of senior management at Reed Smith that came initially from other firms:

• Dave Duckhouse, our CFO, came from Warner Cranston
• Mark Dembovsky, our Chief Strategy Officer, also came  from Warner Cranston
• Roger Parker, our Managing Partner for Europe and the Middle East was the Managing Partner of Richards Butler
• Colleen Davies, head of our Litigation Department (nearly 800 lawyers) came to Reed Smith from Crosby Heafey in that 2003 merger.

"And I could go on."

---

I'm sure you have heard the same objection I have to putative mergers, or even to the very thought of a merger:  "Our firm's culture is such that we could never stand for being taken over."

I submit that mergers done right are the antithesis of takeovers.  Can your firm do them right?

"It Was 20 Years Ago Today..."

Twenty years and a few months ago (apologies for missing the actual anniversary), the merger of Clifford Turner and Coward Chance was announced, which changed the landscape of our industry forever.   Not just in the City of London, but across the globe.

It's worth a moment's reflection on how that happened and what its repercussions have been.

This is how the Times (UK) reports it in retrospect:

"This revolution did not go unnoticed. The Times reported under the headline 'Solicitors' merger creates City giant' that 'two of the City's biggest firms of solicitors are to merge to create the country's first ‘mega' law firm which will have a turnover of several million pounds'.

"The use of 'mega' was key. With one bound the two constituent firms had overleapt to double the size of what had previously been the biggest firm, Linklaters & Paines. The natural order of things had been changed dramatically."

The change in the way the profession would come to operate can scarcely be overestimated.  Again: 

"Above all, it helped to usher in a new kind of lawyer - multicultural, multilingual and multinational in outlook of a type you will now also find also at Linklaters, Allen & Overy, Freshfields and Herbert Smith. In other words, as different as possible, says Chris Perrin (now the firm’s general counsel), from the stereotype of the stuffy, conservative, cautious, uninspired solicitor that had prevailed hitherto."

And of course there were skeptics at the time.  A common jibe was that combining two second-rate firms wouldn't make them first-rate.  And while that may have carried a sting because it carried a grain of truth, the fact was that the  marketplace—the international financial and business community—was beginning to demand a firm with international presence and scale, and the Clifford Chance merger, ideally conceived, was a response to that demand.

"'I recall an American saying to me that whichever law firm could produce the first cross-border legal product to an international standard would instantly create a following,' says [Jeremy] Sandelson [today Clifford Chance's London Managing Partner].  'We did it and that’s exactly what happened.'"

Following the merger came of course the challenge of managing the enterprise.  Geoffrey Howe, managing partner starting in the early 1990's, saw the need for, and acted fairly decisively to bring about, a more business-like approach, bringing in professionals other than lawyers to oversee certain critical functions, introducing systems and processes and carefully monitoring and evaluating the effectiveness of individuals. 

"The trick we had to pull off," he says, "was to introduce a decision-making structure that produced results without killing off the ethos of partnership." 

Today the expectation that major firms will by definition be global is scarcely challenged, which is one reason the Clifford Chance merger deserves a moment's reflection.  The certitudes we take for granted today were not always so. 

This should be humbling for starters—if we think we're so smart today, how could we have been so blind then?

But I'd like to suggest it should also be inspiring, and encourage us to question received wisdom.  What elements of what we take for granted today will look archaic twenty years hence?

Not to leave you hanging, I'll venture a few nominations for assumptions that will change dramatically before our careers are over:

• That a top-drawer US/UK merger will never happen.
• That there are inherent limits—managerial, structural, in terms of conflicts, etc.—to the size of global law firms.
• That lawyers have nothing to learn about handling their practice and their relations with clients from non-lawyers.
• That law firms have no need or use for capital beyond what can be readily raised directly from partner contributions.

Care to nominate some of your own?  If not, you can just read Tony Williams' "Ten trends that will shape the legal market," which include:

• Erosion of profitability at mid-tier firms
• Technology enabling projects to become "unbundled."
• Clients' driving fundamental change in how law firms  operate.
• An increasing segmentation between basic information and advice, available online or for fixed (and low) fees, and those  who can truly deliver exceptional value.

Why listen to Tony?   He was formerly managing partner of Clifford Chance.

IT Governance & Mergers

Yesterday I was privileged to run a session at Hildebrandt's Sixth Annual Forum for Law Firm Management—"Getting a Seat at the Table"—Aligning Technology to Law Firm Business Strategy here in New York. 

My session was on "Sorting out IT Governance in Mergers," and I want to share the learning with you.  But preparatory to that, you need to know that we had the benefit of the experiences (and the senses of humor) of several high-profile veterans of Big Firm Mergers, including Don Jaycox, now CIO of DLA Piper US LLP, and formerly CIO of Gray Cary, who now has nearly three years of perspective on that celebrated three-way firm merger (DLA + Piper Rudnick + Gray Cary).  Also, with barely three weeks of perspective on events, in attendance was the CIO of Dewey & LeBoeuf.

By the way, wondering when IT is brought into the loop on the merger? Answers ranged from after the deal was all but sealed to months and months in advance of any actual negotiations.

With the enthusiastic and even impassioned help of those in the break-out session, here is what we distilled out as lessons for a CIO or IT leader going through a merger.  [Editor's note:  The discussion focused almost exclusively on mergers of equals or near-equals.  A merger of Very Big with Relatively Small was viewed as an acquisition requiring only a solid dose of project management skills to get through the period of deep-sixing Small Firm's systems and importing Big Firm's.]

Ruthlessly Prioritize

Under no circumstances will you have enough time to do everything you want or even think you need to achieve, so make sure that your rigorous focus is on the things that matter most.

Short, Intense Pain Beats Mild, Extended Pain

Need to integrate two document management systems each containing millions of records?  How about doing it across all your offices over a single weekend?  (Yes, this is a true story.)  Need to integrate half a dozen disparate phone systems, running everything from Cisco VOIP to Avaya, Northern Telecom, and even Rohm?   Make sure it's done by midnight of the effective date of the merger.

Conversely, if you want your marketing or IT department (again, true stories) to be dysfunctional for 18 to 24 months, just make sure the pre-existing incumbents from both firms remain in limbo for that period of time while management dithers.  One CIO present reported that his reaction to an indication that "co-CIO's" would be in place for an extended period was to go to his Managing Partner and say, "Fire me if you'd like; but do not under any circumstances have co-CIO's."  (He ended up top dog.)

Rise Above Politics

In almost any system you can name, from document management to time and billing to KM, you will find yourself saddled with two points of view each arguing the clear superiority of the system that just happens to be theirs.  Get past it.  Not only do you need to pick "best of breed" (keeping open the possibility that the winner will be "none of the above"), but you need to cement your credibility with senior management.  Yes, even though your credibility might have been unquestioned at your predecessor firm, you will be an unknown quantity to a significant number of decision-makers at the new firm.  And never forget that, as one veteran in our session put it, "one 'oops' trumps ten 'attaboy's'." 

It's 90% People, 10% Technology

The first important piece of fallout from a merger—or even talk of a merger—is that people become uncertain, anxious, and desperate for information, to the point of glomming on to every rumor that comes down the corridor, plausible or otherwise.  The second piece of fallout from this is that productivity drops through the floor.  And the third piece of fallout is that your best people—with the best prospects—begin taking calls from headhunters and, unless you act fast, departing.  You will then be left with the mediocre and sub-par performers.

So stop it from happening. This means getting on the road (in the air) to reassure people—truthfully, of course—that their own jobs are secure and that in fact the future under the combination will be brighter, more prosperous, and more challenging than before.  There's no substitute here for one-on-one face time.

Achieve High-Impact, Psychologically Powerful Changes on Day One

Have one unified website, one email address protocol, one phone-dialing protocol.  Yes, yes, you're allowed to put the whole thing together under the hood with baling wire and duct tape, but the appearance to end users  must be of a one-firm firm.

And another thing:  Strive for a succession of small, visible, wins.  Nothing will reinforce your credibility more convincingly than showing you and your team can achieve designated milestones on time and on budget.  (Conversely,  nothing will undermine you faster than promises unkept, so make sure you're realistic about what you can achieve.)

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This discussion reminded me of an analytical model comparing alternative models of IT decision-making.  Here it is:

• Business Monarchy:  Highly efficient, but can lead to suboptimal IT architecture.
• IT Monarchy:  Leads to superb IT architecture and procedures, but may not align with business practices.
• Federal System:  IT, practice groups, office heads, etc., all have input:  Far and away the least efficient and also the most likely to generate the worst overall decisions.  But attractive to some participants since everyone has a seat at the table.
• Duopoly:  Business leaders suggest  what they need or want; IT responds with what they can provide, and a genuine dialogue ensues.  Typically a smart choice.
• Feudal:  Partners get what they want.
• Anarchy.

In general, the federal model is the least  effective, because it's the most time-consuming, bureaucratic, and prone to suboptimal politically-motivated decisions.  On the other hand, it's the most open in terms of  input (a/k/a "democratic") and therefore sometimes difficult to avoid in a law firm culture.

But if you can?  Strive for duopoly.  And:

• prioritize
• favor intense short-term pain
• eschew politics
• focus on people, and
• go for high-impact wins.

Your Most Pressing Strategic Issues--According to You

The annual "Adam Smith, Esq." Reader Survey is actively in progress, and I sincerely urge those of you who haven't taken the two to three minutes it takes to complete it to do so right now. 

The point of the survey?  Two-fold:  I want to learn more about you, so as to better tailor the content of the site to your interests, and you get to tell me both what recommendations you'd offer me and, perhaps more importantly from your perspective, what the most pressing/important strategic, business, or financial issue facing you or your firm is.  Let your voice be heard; take the survey now.

Meanwhile, an interim report on what we've heard on precisely that last question, which reads verbatim thus:  "The most pressing/frustrating strategic, financial, or business issue facing me/my firm is."  Herewith follows a distillation of what you've been telling me.

Associate retention is a tremendous challenge for many of you.  Comments include (all exact quotes):

• associate compensation:  lockstep or merit?
• the position of associates in BigLaw, of course
• insane associate salaries
• and many many others who just said "associate retention" and left it at that.

This has been an issue I've devoted extensive—but perhaps still insufficient—attention to on "Adam Smith, Esq.," and I'll vow to do even more about it.  Fair warning:  I have no snappy answers on this one.  To a large extent we are facing a collision between an irresistible force and an immovable object whose constituent components are attitudinal, generational, and financial, and which is perhaps not susceptible of an enduring resolution absent a re-examination of underlying business models.   In short, this has been long in gestation and may be long in solution.

The War for Talent  is an ongoing challenge, perhaps more pressing now than ever.  Comments included "Finding and attracting top-level talent to a small boutique firm," and "attracting talent at the salary levels our firm pays."

Knowledge Management was mentioned by a large number of you, as something that firms have to do well but that very few in fact are managing to accomplish.  Technology and upgrades of same were a close second in this area.

Business development and marketing are perennial points of pain, and "some things never change."   The only fault with the bromide that "some things never change" is that in this case it's false:  This is getting worse.   Here are some more direct quotes:

• Business Development. Almost all law firm management issues are ultimately directed toward growing the top line (associate retention, training, marketing, strategy, etc.) It would be good to hear about this at both the individual level (aside from the standard cliches of "write articles, give speeches, network, and ask for business from all your friends," what other business development strategies do partners use) and at the firm level (what steps have been taken by national firms such as Latham and Kirkland to become more prominent and self-sustaining; how do firms organize and manage their practices and partners to maximize business opportunity).
• Continual pressure on fees and use of procurement.
• The pressure from clients for ever more efficient, lower price, better quality services compounded by the impact of procurement officers who don't understand and show little inclination to want to learn.

Just last week I learned of a Fortune 100 company whose panel for evaluating outside counsel consists of three people:  An associate general counsel and—two purchasing managers.  This is indeed only getting worse, and I'll try to bring back tales from the field that may be helpful to more of you.

The Hollow Middle haunts some of you. Faithful readers of "Adam Smith, Esq." will know what the hollow middle refers to, but for those who don't a quick refresher.  An increasingly prevalent industry structure sees firms migrating both to the high end, high-value, premium quality level, and to the no-frills, low-end, commodity level, with little comfortable territory remaining inbetween.   For example:

• Cars:  Toyota, Honda, Nissan, Chevy vs. Lexus, Audi, Mercedes, BMW, Ferrari, Porsche
• All wine/beer/spirits:  Budweiser vs. micro-brews, generic vodka vs. single-malt Scotch, magnum generic "chardonnay" vs. subscriber-only "Screaming Eagle"
• Financial services:  No-fee free checking for life  from Wachovia vs. private wealth management from US Trust.

And you get the idea.  My hypothesis is that our market is going in the same direction.  Here are some verbatim comments reflecting that same point of view:

• What happens to mid-sized firms in Europe - will they disappear over the next ten to fifteen years as a result of the inflow of US and UK firms? What should our US strategy be, with many former sources of referrals now setting up shop next door? And if mid-tier firms are to stay, what will their role be?
• The polarization of the market (the shrinking middle with more and more work being classified commodity/low fee or bet-the-company/high fee
• "Mid-Market Mush" or "why bother with a platform that's mediocre?"  Our practice group is very strong and we're not sure whether we should be a boutique or stay in the firm.

Since this is already a theme I have been sounding for some time, expect to see more coverage of it here as its impact spreads.

Finally, we have what emerged as the most important concern of yours by far—head and shoulders above anything else I've mentioned until now.  And that is:

Management.   Law firms are intrinsically complex to manage, and you are painfully aware of that.  (Indeed, the truth of that observation might be said to be one of the foundational reasons why "Adam Smith, Esq." exists.)   The theme that emerges is that lawyers just plain are not predisposed to cooperating in the management imperative.  

Aside from seeming to have been inoculated with some vaccine that provides lifelong resistance to management in general, the presumed structure of rewards for partners today—divvying up all the profits at the end of the year and leaving the firm's balance sheet essentially back at zero —works strongly against investment, a long-term outlook, or a strategic perspective. 

Here are some of your comments and worries:

• Ineffective management. Rainmakers are not always the best communicators or managers
• 1. Lack of firm leadership; 2. Partner apathy in "running a business" beyond simply collecting a bonus; 3. Lack of strategic planning
• Persuading lawyers to understand that hiring a consultant is not (always) an admission of failure, but can be a way of creating / seizing an opportunity
• Transition from older partners to younger partners and division of income amongst the same.
• Continuing to find ways to motivate all of our partners and to have them recognize we're all in a state of continuous change.
• Firms competing in a global economy. Firms realizing they have to act more like corporate America
• The lack of real understanding as to how law firm organisations need to change to get the best out of people; the impact of globalisation on law firms.
  [And finally, perhaps my favorite:]
• Balancing the desire to grow as a firm versus the desire not to change. Our firm is looking to grow, and most everyone supports the notion, so long as nothing changes for the individual.

Much food for thought.  One implication is clear: I shall never lack for topics to discuss here on "Adam Smith, Esq." 

Your comments have been remarkably candid, serious-minded, insightful, and just plain human. 

As I've written before in various contexts, I believe our profession is currently undergoing a sea change in the structure and composition of the industry that will transform it in ways that will endure for essentially the remaining working careers of most of us. 

You have, if anything, confirmed the strains, pressures, and uncertainties of being in the center of this rapid transition.   The settled certainties of our parents' world are indeed long gone.

Having some inexplicable instincts alerting me to this coming vortex many years ago, I continue to find it fascinating beyond measure.   Please continue to share your thoughts with me, either through the Survey or, more directly, by email.

London Calling: But Who's Ready to Dance?

Over at LegalWeek, the big buzz this past week was all about the results of the annual survey they conduct of US firms operating in London which showed that 47% of respondents would consider a UK merger, up from 39% a year ago and just 29% in 2005.

The story was also picked up by their sister site law.com as well as footnoted in The New York Times' "DealBook." 

So, is it a story or isn't it?

Looking at the actual results, you see a lot of firms responding to the point-blank question "Would you consider a merger with a UK firm?" not with the presumed yes or no but coyly or demurely with "Undisclosed," "Unlikely," "Possibly," and so forth.  No word from LegalWeek how these Delphic responses were tabulated.

Be that as it may, there are some indisputable realities about the world in 2007:

"CMS Cameron McKenna managing partner Dick Tyler commented: “We have had more courtesy calls from US firms in the last six to nine months than the last 18 put together. There is a critical strength you have to reach and realistically if you want to have a strong corporate practice, you need employment, pensions, etc as support.”

And:

"Abrahams Russell recruitment consultant Greg Abrahams said: “This is driven by London becoming arguably the leading financial centre in the world and the closing gap between UK and US profitability. With the dollar/sterling exchange rate as it stands, there is more demand on the US side for a merger than on the UK side.”"

This also tells a true tale of the cultural obstacles to be overcome before a hypothetical deal could happen:

"Legal snobbery remains one of the biggest hurdles facing any transatlantic merger. It was snobbery and mutual suspicion on both sides that derailed the negotiations between Ashurst and Fried Frank Harris Shriver & Jacobson a few years ago. The same cultural problems dogged the Clifford Chance(CC) tie-up with Rogers & Wells.

On this side of the Atlantic, CC was accused of aiming too low. But more than a few big billers at Rogers & Wells had precisely the same attitude towards CC – understandably, some might argue, given the magic circle firm’s virtually non-existent profile in the US at the time."

Rather than put undue stock in ex cathedra statements of open-ness towards entertaining a merger, I'd prefer to focus on what US firms are actually doing in London, and one thing they're doing in increasing numbers if taking on trainees (those would be first-year associates, to you):  57% do so this year vs. 51% last year, and some firms with larger London presences (notably White & Case, the single largest firm there by lawyer headcount in the City) has been taking on nearly 40 per year for the past decade. 

Why does this matter?

Simple:  It's a sign of a genuine and enduring commitment not just to the City—where high-value transactional work is the celebrity model everyone wants to be seen in the company of—but to building a lasting and mature practice with the full range of capabilities required to be taken seriously as a local player and not just a wealthy visitor. 

There's another dimension:   Taking on trainees implies adoption of a different time-frame than the more conventional US approach of picking off lateral talent to ramp up quickly—always a two-edged sword in any event.  It's a far longer-term perspective, as it means investing in a talent-development pipeline that may not see serious results for 5,  10, or 15 years.

And that's why it tells you something:  US firms are, at long last, evidently deadly serious about being players in London in the long haul.

If you're like me, you have to wonder why it took so long for US firms to hear this wake-up call. Those who got there early (just for example, Cleary in 1971, White & Case soon after) have established leads it will be difficult to match. I have no blinding insight into why US firms ignored the patently obvious London marketplace for so many decades, but now that they are beginning to realize that even the world's richest domestic legal marketplace is only a one-legged stool on which to build a serious 21st-Century practice, they may be ruing their shortsightedness. At least they came by it honestly.

But this brings us back to whether the "US Ready to Merge!" soundbite is accurate, and I think not.  I certainly think there's far far less to it than the credulous might believe.  Why?

I still  perceive a marketplace not quite ready to "clear," or, perhaps more precisely stated, a marketplace where potential players have still-too-widely divergent perceptions of value, fit, and cultural congruence.   Does this make sense?  At a rational, objective, and economic level, none whatsoever.  If a merger would generate all but undeniable benefits for both parties, perception should matter not.  Yet we all know it does, sometimes to the point of obstinance, and a refusal to countenance even deals that, on  paper,  make tremendous sense.

Analogous is what we have seen in the past, and may see again, in the US residential housing market:  When prices fall drastically in a  particular region or metropolitan area, people who bought at the top demonstrate almost insurmountable aversion to selling their homes for less than they paid for them.   Economists (and I) will tell you this makes no sense.  The house is worth whatever it's worth, and what you happened to have paid for it is utterly immaterial. 

But as we can read in today's NYT, what economists believe and how people behave are two different things.  Consider this study from about 15 years ago:

"From 1989 to 1992, prices in Boston fell sharply, with condominium prices dropping as much as 40 percent. For a great many of those who bought condominiums during that period, selling could be done only at a significant loss. And, basically, many people refused to sell.

[A] study, “Loss Aversion and Seller Behavior: Evidence From the Housing Market,” [which] appeared in The Quarterly Journal of Economics in November 2001, gathered data on almost 6,000 Boston condominium listings from 1991 to 1997 and showed that for essentially identical condominiums, people who had bought at the peak and were facing a loss generally listed their properties for significantly more than those who had bought at a time when prices were lower.

"Properties listed above the market price just sat there. In the Boston market over all, sellers listed their properties for an average of 35 percent above the expected sale price, and less than 30 percent of the properties sold in fewer than 180 days. In other words, much of the market went into a deep freeze as many people held out for market prices that no one would reasonably pay."

Back to the US/UK law firm merger market:  What is the lesson? 

The lesson is that economic realities ought to trump sentimental notions such as not wanting to sell your house for less than you paid.  But they don't always.  People kid themselves, and do things like putting their house on the market at a price so high that it will sit there for a year or more, ignored or rejected.  If you really want to sell your house, price it at the market.   You won't have long to wait.

My suspicion is that the US/UK merger market is closer to Boston condominium-owners in 1992 than to an active, vibrant, and clear-eyed market.   Lots of people may say they want to dance with the pretty girls, but they're sitting on their hands.

A Talk With Steve Agnoli, CIO of K&L Gates

CIO Magazine recently announced its 20th Annual CIO100 Awards, recognizing 100 CIOs deemed most  effective at transforming their firms through IT innovation .    The winners included CIOs from Bryan Cave, Foley & Lardner, Goodwin Procter, King & Spalding, and K&L Gates.

Notably, K&L Gates also captured one of the five "Plus One" awards, for Business Innovation.  (The four other firms taking home Plus One Awards were: Hilton Hotels for customer satisfaction, Johnson & Johnson Pharmaceutical Research and Development for competitive advantage, Marriott International for security excellence and Merrill Lynch for improved productivity.)  Notably, K&L Gates had an earlier 3-years-in-a-row run of CIO 100 Awards, from 2002 through 2004.  All in all, I thought something noteworthy might be going on in the IT arena at K&L Gates..

Accordingly, a few days ago I had a chance to catch up with Steve Agnoli, CIO of K&L/Gates, to learn about the background to the awards and explore how K&L Gates approaches IT in general.

Here's what I learned.

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Steve arrived a little over nine years ago, at the then Kirkpatrick & Lockhart, and was the first CIO the firm had.  Why hire a CIO then?

"The firm had decided to move forward with a more aggressive growth strategy, and they realized that entailed building out their IT systems and the marketing infrastructure." 

Steve had never worked at a law firm before, but when friends asked him why he'd want to go to a law firm, his response was:  "Why wouldn't I?  It's a business like any other.  It has to get IT done right; it realizes IT is a key component of the business, with internal and external impacts."  And today does he still feel that way?  "Absolutely:  The whole firm feels that way, not just the IT department."

Not surprisingly, once Steve arrived his first order of business was getting the infrastructure right and making it scalable and reliable.  "That's always the key thing."  But once that's under control, you have the freedom to take a more outward-facing approach.  If Steve could describe the overall trajectory of his time at K&L Gates, it's been from "plumbing" and nuts and bolts initially, towards a more client-oriented focus in recent years.

And the "Business Innovation" CIO Plus One award?  "It was for our Legal Information System and our extranets.  LIS is a reusable infrastructure component, or application, which we can roll out across different industries and practice areas.  The goal of LIS is to provide a forum for K&L Gates lawyers' commentary and insights into cases, statutes, regulatory developments, and so forth, which we present alongside the primary sources.  The idea is to provide a 'one stop shop' for clients with legal issues in that area.  It's not just the raw material, it's our opinion, interpretation, and commentary."

I note that K&L Gates has been, shall we say, active in mergers, and ask Steve about their strategy for integrating systems across formerly separate firms post-merger.

The key, he says, is that they started preparing a long time ago for integrating combinations of firms.   Essential to the processs is to standardize:  Standard technology, standard procedures, standard processes, and a standard platform.  The pieces of that platform are:

• A Microsoft-based infrastructure
• Windows XP clients
• Lenovo brand PC's everywhere
• A consistent image on all PC's
• Servers that are all the same:  Same brand, same OS's, same patch levels
• Microsoft Exchange email
• A single provider of WAN hardware
• Similar equipment across all offices to provide WAN and LAN connectivity
• BlackBerry's as a default smartphone device (although they will support Windows Mobile units on request).

In other words, as Steve puts it, a "very boring" philosophy of equipment and infrastructure.  "Why learn two things when you can learn one?" 

Understandably, there are times immediately post-merger when hardware will not be standardized, but integration is accelerated by insisting on a standard user interface "on top" regardless of hardware differences "underneath."   For example, Steve notes, take phones:  With the Preston Gates & Ellis combination, PG&E used Cisco VOIP hardware and K & L used Siemens.  Nevertheless, on the day the merger became effective, dialing the prefix "101" got you the Seattle office no matter what equipment you were on.

Similarly, the website, attorney and professional staff bios, email addresses, stationery, billing templates, etc., are all standardized and consistent on day one post-merger.

So that's Phase One of merger integration.

Phase Two is integrating the key infrastructure itself:  WAN and network connectivity, key business processes and applications, HR, finance, time & billing, document management, litigation support, backup/disaster recovery, etc.  Phase Two, interestingly enough, commences before the merger is formally consummated and continues well after. 

Since Phase Two is largely inward-looking, there's more flexibility in timing.  For  Phase One, by contrast, the firm's self-imposed and self-enforced deadline is that the standardized user interface be in place the morning after the merger takes effect.

Phase Three is integrating the application inventory.  Ultimately, the goal is complete standardization across the entire firm regardless of office and regardless of user.

What other initiatives are on his plate?

Consolidated data centers is #1, he replies.  The firm is consolidating key computing infrastructure in primary and secondary facilities in a few regions around the world including the US, Europe, and later, the Far East.  Consolidation is "not just good IT hygiene," Steve opines, "but it serves the goal of freeing staff to serve our lawyers and their clients and spend a lot less time on just 'keeping the trains running on time.'"

I ask Steve who he reports to, and he gives me the right answer:  He reports to Pete Kalis, Chairman of the firm.  Why, Steve asks, is that the right answer?  In my experience, I relate, CIO's, be they in law firms or corporations, who report to the CEO or Chairman, have the proverbial "seat at the table," whereas those who report to the CFO, COO, or Executive Director, are viewed as well-paid plumbers, responsible for a utility like electricity or a dial tone, but not strategic partners in the firm's success.

While we're on this topic, Steve elaborates that the management committee has been "very supportive" of IT initiatives.  The firm "recognizes and offers sponsorship of IT.  Two things have to come together to enable IT to have a lasting competitive impact.  First, the actual ability to implement important initiatives, but equally important, the willingness of the firm to let it be done." 

What's the hardest part of your job, and what's the most rewarding?

Hardest is recruiting talent—"especially to a law firm.  People know that there are extremely high customer-service level expectations, at all times and at all levels, even in the back room."  Recruiting talent is an ongoing struggle, one that seems to be more of a challenge all the time.  Steve belongs to a Pittsburgh area council of CIO's from companies ranging from about $100-million to $5-billion in revenue, and at the most recent meeting everyone reported recruitment and retention of talent was their single biggest challenge.

The second challenge is staying relevant from a business perspective:  "Being more than a utility or a service provider—being a true client partner."  And third is obvious:  Scale.  As the firm grows, there's "a simple issue of magnitude."

The most rewarding?

Taking IT out of the back room and into the front office, all while supporting growth.  It may be challenging to retain people, but it's immensely rewarding to be viewed as a key part of the business.

So?  Take one energetic and disciplined CIO, add deep and enduring management support, sprinkle with clients willing to appreciate technology initiatives by their law firm, and, with luck and perseverance over a course of several years, you win a CIO100 award.  "Plus One."

Dewey/LeBoeuf? Welcome to the 21st Century

Although it's policy here at "Adam Smith, Esq." not to cover breaking news, rules are made to be broken, and this is an exception.

I learned mid-afternoon today that LeBoeuf and Dewey Ballantine are apparently in advanced merger talks, as reported subsequently in The Wall Street Journal.  The rumor is that a formal announcement could come as early as Monday.  My take?

Initially, the financial metrics are almost astonishingly well-matched.  From the 2006 AmLaw 100 rankings (the most recent):

• Dewey's PPP is $1.450-million and LeBoeuf's $1.425-million
• As tellingly to my mind, Dewey's revenue/lawyer is $820,000 and LeBoeuf's $800,000.
• LeBoeuf is #45 on the AmLaw 100 with revenue of $513.5-million
• Dewey is #62 with revenue of $408.5-million
• The pro forma combination would have revenue of $922.0-million, tying it exactly for #12 with Morgan Lewis, behind DLA at $1.016-billion and ahead of Sullivan & Cromwell at $900-million

Both are obviously highly New York-centric, but also both come with very strong offices in London.    The pro forma combined firm would have one of the largest New York and London offices of any US firm:

• New York:  Dewey (300) + LeBoeuf (250) = 550
• London:  Dewey (40) + LeBoeuf (130) = 170

What neither firm has in any remotely meaningful fashion is an Asian presence;  each has nothing beyond a tiny outpost in Beijing.

Now, my "real" take:  This is a merger that could make tremendous sense for both firms. 

Not to put too fine a point on it, but both firms are in similar boxes.  That box, with apologies to my home town, is overwhelming New York-centricity.  As a global capital market center, New York's pre-eminence is threatened as it never has been in the lifetime of those practicing today.  This is a combination of globalization in general (when there are international alternatives, there are international alternatives); the impact of Sarbanes-Oxley, real and perceived; the omnipresent plaintiffs' securities bar in the US; and the overhang of the "Spitzer Effect."  If a city set out on a conscious program to position itself as friendly to global capital formation, it's safe none of these phenomena would be on its agenda.

Is this an immediate threat?  Far from it.  Senior partners at both firms have nothing in the least to worry about.

Is it a longer-term threat?  Unless structural changes occur—meaning selective regulatory rollbacks here, or spasms of regulatory overkill abroad—I fear that it is.  Were I a young partner at either firm, the question top of mind, if not on my lips, would be, "So, what's the plan?"

Interestingly, both firms have been conspicuously adding high-profile laterals over the course of the first half of this year.  I wasn't sure why LeBoeuf was doing so, but we may now have the answer. 

As for Dewey, why they were doing so is simple:  To recover from the badly bloodied nose—and unprecedented partner attrition—they sustained in their first real encounter with globalization, to wit their unconsummated merger talks with Orrick late last year.  An unusual "show of strength" may have been perceived as needed, at Dewey, to recover stature.

Would Orrick have been, in hindsight, the better deal for Dewey?   Reality not being susceptible to double-blind experiments, the short answer is of course that we shall never know.  But it would have been a culturally fascinating, economically robust, and geographically potent, combination. 

Orrick/Dewey would have been a true experiment in creating a 21st Century law firm. 

LeBoeuf/Dewey is very much birds of a feather, and a bet on the belief that there's strength in numbers.  

Your view of its prospects of success may depend, I suspect, on your view of the importance of a firm's ability to change over time as economic and sociopolitical centers of gravity migrate.  Whether the merger talks come to fruition or otherwise, this is a resounding sign of the increasing pressures of globalization.

As we've learned from once-great American corporations ranging from Sears to US Steel to AT&T to GM, there is no entitlement to incumbency.

A Conversation with Andrew Grech, Managing Partner of the World's First Publicly Traded Law Firm

I've written previously about "The World's First Publicly Traded Law Firm"—Slater & Gordon of Australia—and also about "Seven Perspectives on Law Firms' Going Public". For those in the audience who are securities lawyers, as am I, you might find the prospectus fascinating; I know I did. For the rest of you, please take our word for it.

This evening I had a chance to talk with Andrew Grech, Managing Director of the firm, who's based in Melbourne. (Well, it was this evening for me in New York, but for Andrew it was tomorrow morning.) Here's what I learned.

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The IPO Itself, and the Immediate Aftermath

I started by asking what the IPO had done to the firm, and he replied that he'd anticipated much more disruption, "but there's been less." Most of what it adds to the firm has been a greater degree of focus, which is good for the business. And all in all, it has "not been too onerous."

More focus? Well, yes, for example, Slater & Gordon has had an active mergers and acquisitions program; during the past six or seven years, they've done 10 deals. As a private company, you try to be rigorous, but there is nothing comparable to the due diligence you undertake with public investors—"it has truly gone up a notch." This is surely beneficial because you're paying attention to a new class of stakeholders with more business-like expectations. But that said, "it's been evolution, not revolution; the cultural changes are subtle."

Still, he's found himself reassured that there's no fundamental conflict between the values of the organization and the responsibilities of being a public company. (This was one of the key issues I intended to ask him about, and he volunteered it unprompted before I could get to it: This I took as a good sign.)

Obligations to Clients vs. Obligations to Investors

I note that one of the obstacles people here in the US express towards public ownership of law firms is that it would somehow compromise client confidentiality and attorney-client privilege. I ask if that was envisioned as a potential problem, and how they protect client confidentiality while at the same time needing to provide financial and operational transparency to investors.

He responds immediately that it was potentially a problem, and one that Slater & Gordon addressed starting about two years before the IPO with the Australian Stock Exchange and with the Australian equivalent of our SEC (the regulatory body for public companies). They raised it explicitly in their first rounds of meetings with regulators: How to balance duties to the court and to clients with obligations to investors.

Ultimately, they negotiated an arrangement with the regulatory authorities which permitted them to state unequivocally in the prospectus that client interests would come first. According to Andrew, two years before the IPO, they started thinking deeply about these issues. Interestingly, he says the regulators of legal practices viewed their role not as approving or disapproving the concept of a law firm going public, but rather as educating the firm on its obligations and understanding what the implications would be for investors. 

As Andrew puts it, "There was no seal of approval, but the consultative process gave us a good understanding of the areas of concern and what would need to be addressed."

From the firm's perspective, "there was no uncertainty for us as lawyers which came first [clients or investors], but we needed to convince institutional investors that their best long-run interest would be served if we continued to put clients first." 

And who are those investors? "About 80% of our shares are owned by fund managers. We’ve been gratified by the support we’ve received from the best of Australia’s institutional investors."

I note that the prospectus discloses that the partners in the firm can sell out their entire ownership on a 20%/year formula until, after 5 years, they are free to own no interest in the firm. There appear to be no limits on non-partner ownership after that. Am I reading this right?

“We expect that employee shareholders will retain a majority and if not a controlling interest for the foreseeable future however we have had to accept that being a public company raised the potential for external shareholders to have a controlling interest”.

The Purposes of the Listing

"That said, the important thing I have to emphasize is that the listing was not an end in itself. The point of the listing was to give the firm a platform for growth, so that we could provide professional staff a ramp for the development of their careers and their total remuneration."

Explain? Our professional staff, says Andrew, is looking for a long-term commitment, reciprocally, from and to the firm. With a public listing, he says, we were able to obtain access to the capital we need for long-term growth, which provides a credible and rewarding future for professional staff, especially the younger ones. Without access to a long-term equity asset, there was tremendous tension between senior partners with ownership interests and associates with no immediate ownership prospects.

It was not, he insists, growth for growth's sake. "We're not megalomaniacs," he jokes.

He goes on to explain with a bit more detail the difference between the market for "private client" law in Australia (individuals, particularly individuals with tort claims) vs. the market for corporate law. He believes the private law market is in for a long-run secular trend of consolidation among law firms. (Parenthetically, he notes that Australia has 11,000 law firms for a population of 23-million; this alone tells you that many are solo or duo shops.)

How was the capital structure determined before the IPO? I ask whether the model was essentially that partners owned equity proportionate to their capital contributions. Andrew doesn't say whether that's exactly the approach that was taken (and here, a firm like Slater & Gordon may be the exception). But he makes it clear that in a firm with a business model such as theirs, where conditional fees are (or are not) collected after the investment of potentially large amounts in uncertain matters; senior partners had quite substantial amounts of personal capital contributed.

He adds that, in effect, the firm had re-invested profits year after year into working capital; to accomplish this, partners had to agree to withdraw less than they possibly could at year-end. This obviously contrasts markedly to the standard model where partners "strip-mine" the firm of cash at the end of every fiscal year.

But, Andrew avers, Slater & Gordon's personal representation business model does not make its need for capital unique: "All large practices have substantial capital requirements, for investments in IT, in growth, in lateral recruitment, etc." For his partners at Slater & Gordon, their view of the world is very much that "I'm committed to the best interests of all, not just what I can extract at year-end. We're trying to create a legacy."

The IPO Process:  Harder than Expected or Easier?

I ask what about the IPO process was easier, and what was harder, than he expected.

Easier: As it unfolded, it went smoothly. An IPO essentially takes a six-month window, during which everything went smoothly. He expected more bumps in the road: "More problems, more cost over-runs," but there were very few. He credits this to the firm's "excellent" underwriters, Austock Corporate Finance, a firm that specializes in small to mid-size companies.

Harder: He underestimated the amount of time that would be required to deal with staff internally. Although he and his partners thought they had prepared the staff well, all the media publicity spotlighting the wealth creation opportunities for the selling partners threatened to create a misperception about what had gone into creating that opportunity. It turned out to be important to put the amounts the selling partners would realize into context, and to explain how it reflected the results of their years of contributing funds they could have otherwise drawn from the firm into its retained earnings, its reinvested capital, and its expansion.

What are the benefits?

"Well, start with a much higher level of financial literacy among the professionals and staff —this was an unanticipated but highly beneficial consequence of the IPO."

How was the IPO priced?

"Well, there were no comparables; not really. We and our underwriters did look at other professional service firms, and there was much scuttlebutt in the media beforehand about how it might be overpriced or underpriced, but in the event, of course, we floated at a fair discount to what the market perceived as fair value."

Are you sorry you "left money on the table?"

"Oh, no, not at all; I'm very glad we left money on the table; that's important for investors and staff and professionals to have faith in the value of the offering."

The Post-IPO Firm Culture

Has there been any change in the culture of the firm post-IPO?

"It's too early to say. But I think there are some perceivable benefits."

For example?

"Well, our commercial practices in Melbourne, Brisbane, and Sydney are at different stages of evolution and maturity; some are stronger than others. So, before the IPO, there was an incentive for the stronger areas to concentrate their efforts on their own practices; but after the IPO, we were able to create collective performance rights across the commercial practice so that now it's all for one and one for all."

Similarly, Andrew explains, the firm can create "key performance indicators" in non-dollars-and-cents areas such as HR, marketing, knowledge management, and professional development, and anticipate that those KPI's will be tied to long-term equity price appreciation: Efforts that, overall, contribute to the intellectual and professional capability of the firm can be rewarded in a way that 's not possible what everything is distributed at the end of each fiscal year.

Any last thoughts?

The Benefits of Non-Lawyer Regulators

"In terms of conflicts, lawyers have proven they're very good at dealing with conflicts—there is nothing about being public that changes that at all. What’s important is that we recognize the potential for conflicts and make sure we have policy and processes in place to manage risk in this area”.

"One reason the standing of the legal profession has diminished in the public's eyes is that conflicts have not been dealt with openly. Where lawyers regulate themselves, it's an environment that invites suspicion.

"What has changed is that we now have independent outside regulators (sure, some are lawyers by training, but they're not operating as the bar council), and where outside regulators demand and operate with transparency, I believe we will benefit as a profession”.

"This has been a substantial contributor to the improvement in client satisfaction levels in the past 20 years.

"Now, understand, my views are probably not the views of the majority of the profession. In particular, smaller firms may lack the resources we have to deal with regulatory authorities. But all in all, independent regulation of the profession has been a success in Australia – what's needed now is to complete the process of harmonizing laws in each of our jurisdictions."

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Andrew will be at the Georgetown University Law School conference next April discussing "The Future of the Global Law Firm" that you should have read about before here in the pages of "Adam Smith, Esq.," and I look forward to meeting him then.

You can download a nicely formatted and very printer-friendly copy of this interview here. 

World's First Publicly Traded Law Firm

As noted in the WSJ Law Blog, on law.com's legal blog watch , and by my good friend Larry Ribstein, the Australian law firm Slater & Gordon, a personal injury specialist firm with 21 branches in the country and over 20,000 clients, became the first publicly-traded law firm in the world yesterday when it listed on the Australian Stock Exchange.

And it had a pretty rich first-day "pop," opening at AUD$1.32 vs. the issue price of $1.00/share and closing up 40% at $1.40.   The Times of London also reports on the move, reciting the received wisdom that:

"Observers in the UK suggest that the top City firms, including the "magic circle", are unlikely to need to seek outside capital, at least in the short term. However, they expect the prospect of an IPO or private equity investment to prove attractive to those in the second tier, particularly firms specialising in highly commoditised, consumer-facing practice areas."

As for me, I believe this view may well be true in the short run, but is highly questionable in the long run.  Moreover, I believe that once one or more "second tier" firms demonstrates aggressively what can be done on the competitive landscape with access to meaningful capital, other firms may lose their complacency.  This is the simultaneously destructive and creative engine of capitalism.

Back to Slater & Gordon:  The firm is up-front about where it sees its priorities' being, and maximizing shareholder value is not first. Indeed, it's not even second. According to the discussion of "risk factors" in the prospectus:

"Lawyers have a primary duty to the courts and a secondary duty to their clients. These duties are paramount given the nature of the Company’s business as an Incorporated Legal Practice. There could be circumstances in which the lawyers of Slater & Gordon are required to act in accordance with these duties and contrary to other corporate responsibilities and against the interests of Shareholders or the short-term profitability of the Company." [...]

"To the extent that there is a conflict or potential conflict between those duties, that conflict shall be resolved as follows:
• the duty to the Court will prevail over all other duties; and
• the duty to the client will prevail over the Company’s other corporate responsibilities and duty to shareholders."

Likewise, managing director Andrew Grech—who himself owns more than 14-million shares, making him worth nearly AUD$20-million, or about US$16-million—confirms those priorities. "I don't think being able to operate your business sensibly means you have to sacrifice the quality of the professional work you do for your clients and the way you deliver those service to clients."

Don't these declarations and disclosures essentially answer the fear of the traditionalists that there can be no marriage between a professional, client-centric ethos, and outside investment?   What S&G is saying, if I read them rightly in plain English, is that they know compromising ethical obligations to the court or to the client is the way of madness, and that they shall not go there.   I'm unclear what more one could ask.

Well, you protest, one could ask that they not open themselves to the profit-maximizing expectations of the outside-investor cohort to begin with.    How then are the plainly-disavowed interests of those passive third parties more powerful or motivating than the profit-maximizing desires of full equity partners in a private firm, who collectively distribute 100% of the spoils at year-end?   If the problem, in other words, is the collision between "professionalism" and "profitability," I suggest Slater & Gordon has just ameliorated, not exacerbated, it.

The Australian Financial Review (the down-under equivalent of the Wall Street Journal) has the best coverage, not just reporting the facts of the offering, but extrapolating to other what other major Oz firms might be worth on comparable bases. (They appear to be using a P/E ratio of about 13, a figure also attributed to "a Sydney investment banker" as plausible. Slater & Gordon closed its first day of trading at P/E of about 12.5.)

Their analysis claims that each of the top five Australian firms would be worth at A$2-billion or more in market capitalization. For example, they value Freehills at A$2.65-billion, which equates to nearly A$13-million for each of its 209 equity partners. And, drolly, they have this to say: "While the major law firms have indicated they do not intend to float, the potential for a large windfall from listing on the ASX is likely to focus partners' minds on the prospect." Indeed.

There's more: Blake managing partner John Atkin is quoted as saying, inarguably, that "The partnership model is very unsophisticated... You have to pay the profits every year for tax reasons, which doesn't encourage long-term investment or thinking—but that could be possible with a different structure" (emphasis mine). Thank you, Mr. Atkin, for stating the blindingly obvious—and something which we as a profession nevertheless seem to remain perfectly comfortable ignoring utterly. To compete the thought:

"Where else do you find organisations which run a businss as large as ours which are unincorproated, other than where there is a regulatory reason for doing so? The answer is none."

Freehills reportedly plans to incorporate next year, while Mallesons would like to follow suit if it can resolve certain tax issues.

But back to Slater & Gordon.

What will they do with the money?  I ask only because one of the most common objections I hear when I propose that US law firms ought to have full access to the capital markets is:  "Why do law firms need money?  They're not capital-intensive."

Indeed they're not, at least compared with most industries.  Law firms' assets are not fixed, they're "elevator assets."  Yet that's not to say creative initiatives couldn't be undertaken if firms did have access to meaningful capital.  (You may not know the answer to the question until you have the resources to actually pursue answers.) 

As for Slater & Gordon, they intend to do several things with the money—$15.4-million specifically targeted for the following:

• Pursue acquisitions—perhaps the local Australian equivalent of a "roll-up" strategy for consolidating the personal injury/contingency bar nationwide.
• Invest in marketing.
• Strive to double or triple their client base (largely grown at retail, so capital helps).

I've read through the rest of the prospectus and it reads, at least to this securities lawyer, precisely as one would expect.  They make the business case for the firm:

• Pointing out that the personal injury law firm market is highly fragmented, making it ripe for acquisitions;
• Disclosing that they received an impressive 30,000 potential new client inquiries last year;
• Reporting on a survey that shows they had over 80% brand-name recognition in their key market.

They also articulate the risk factors, including:

• The aforementioned loyalty to courts and clients ahead of shareholders;
• Reputational risk if fails to meet client expectations;
• Inability to complete its aggressive acquisition plans, or greater than expected competitive pressures;
• Over-reliance on key personnel;
• The competitiveness of the market for high quality lawyers;
• Potential changes in the regulatory environment;
• And so on.

Why do I list these?

Because they read like:  Any Other Prospectus.

And that's precisely the point, isn't it?  How truly extraordinary is the public listing of S&G?  Not a bit.  The story is that a nicely performing, fairly small firm, with a promising future but in an iffy industry, offered its shares on an exchange and the investment community responded with a one-day pop of 40%.  They could be gone in a year or three or they could be a mid-pack, index performer or they could conceivably—though I would be the last to forecast this of a firm run by lawyers—be a shooting star.   The most important point is simply that it happened, as a routine transaction on the Australian Exchange. 

We have lost our virginity.  Fine, done.

Now let's try to learn what this is really all about.

Publicly Traded Law Firms in the US? Georgetown Law Symposium

Regular readers know that I've written periodically about the so-called "Clementi" reforms scheduled to take effect next year in the UK which would permit public ownership of, and investment in, law firms, as well as permitting diversified multidisciplinary firms combining, for example, lawyers with management consultants with accountants with financial planners with investment bankers.  I'm not being facetious to say that I wish the US had managed to beat the UK to the punch on this.

So it is with great pleasure that I can announce that the Georgetown Law Center for the Study of the Legal Profession will be hosting a symposium next April 17 and 18, 2008, titled "The Future of the Global Law Firm," which is actually about the prospects for precisely this type of reform in the US.

The impetus for this conference began with my proposing the concept of a derivative security, roughly reflecting a law firm's valuation, that might comply with existing ethical proscriptions against ownership of law firms by non-lawyers.  I shared this concept with Prof. Mitt Regan of Georgetown and Prof. Larry Ribstein of the University of Illinois College of Law, two of the most highly-qualified individuals I can think of to critique and extend my notion.

The conversation evolved into a paper just published today by Georgetown Law entitled Law Firms, Ethics, and Equity Capital:  A Conversation.

Here's how the Georgetown site describes the paper:

"The paper consists of correspondence among Professor Regan; Bruce MacEwen, an expert on law firm economics and editor of the online publication Adam Smith, Esq. ; and Professor Larry Ribstein of the University of Illinois Law School, an expert on partnership law. Current ethics rules in every state forbid any non-lawyers from having an ownership interest in a law firm. Beginning with an inquiry by Mr. MacEwen, the participants in the exchange first discuss whether these rules would permit firms to sell financial instruments such as derivatives whose value is based on the firms' profitability. The discussants then move on to the broader subject of the arguments for and against allowing firms to raise money in the stock market.

"Mr. MacEwen and Professor Ribstein generally support permitting firms to attract equity investors. Professor Regan is more ambivalent, but says that participating in the exchange made him appreciate that the question is far closer than most people realize.

"Going through this analysis forces us to consider basic assumptions about the roles that lawyers play in society, and how their ability to play those roles might be strengthened or threatened by equity ownership," says Regan. "There are some surprising possibilities if we consider the issue with an open mind." The aim of the paper is to encourage the profession to take this approach, and to lay the groundwork for a wide-ranging discussion about the future."

As I've said in personal communication with some of you, I strongly believe this is a timely and profoundly important conversation for our profession and our industry to have, and I am gratified to have played a very small part in occasioning it in at least one venue.  

The importance of these issues to our profession in the 21st Century demands that our approach not be determined by inertia, free-floating (and in my opinion, irrational) fear, or an undue reverence for tradition.

So let the conversation begin.

I will of course continue to cover this pivotal discussion between now and Georgetown in April 2008, and beyond. 

If you can't make the conference (attendance is, under current plans, by invitation only), you know where to read all about it.

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Update: I learned that those of you who subscribe to my monthly newsletter—to whom I sent a separate notice of this event—may have been confused by a mis-addressing error: The emails went to the correct subscriber list, but didn't use the right salutation and greeting, so they appeared to be addressed to someone else.

File this under "Don't you just love technology?" 

Unbeknownst to me until it was too late, the database had suffered a hiccup, offsetting the names matched to the email addresses by one row. So you now know the identity of the individual immediately beneath you in the database.  My own copy was addressed to my mother-in-law.

A Conversation with Greg Jordan of Reed Smith

In 1999, Reed Smith's 610 lawyers generated $168-million in revenue, from 14 offices in the Northeast and Mid-Atlantic states.

At the start of 2007, its 1,500 lawyers are on track to do $900-million in revenue, from 21 offices across the US from California to Chicago to New York, and in the UK, the European Continent, and the Mideast.

In early April I had a chance to spend a couple of hours with Greg Jordan, the Firmwide Managing Partner and Chairman, who was elected to that role in 2000, at the start of that period of astonishing growth. Here's what we discussed. 

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I started by asking if he had a vision for Reed Smith when he was elected that forecast where the firm is today, or if it has evolved.   He recalled that it was a contested election for managing partner, and that his views were summarized in the "Transition Document," which had six or seven key objectives. 

Primary among them was explaining to the firm why it needed to expand out of the Rust Belt, and how it could do that hand in hand with leveraging its relationships with its best clients. Looking at it again today, he says that the firm has pretty much achieved all of them.   To wit?:

• Establishing critical mass in California
• And in London
• Making serious strides in New York
• Expanding beyond the Pittsburgh center of gravity
• Adopting an international, not regional, outlook
• Improving teamwork and industry focus and getting more "share of wallet" from key clients

I remark that I'd been reading another AmLaw 30's "strategy statement" the day before, and that it sounded remarkably similar:  Go for more high-value, "premium" work, expand your geographic footprint, move from commoditizing to high-end practices, invade the key financial centers with meaningful personnel commitments.  So what made Reed Smith different?

"You're right; you're right!  Strategy is not the hard part.  The art is all in the execution.  The easy part is figuring out what to do; the hardest part is communication and outreach."

• "Do what you say you're going to do
• "Without forcing it
• "Lawyers like evidence
• "So provide it to them; follow closely how what you promised is working out."

Had I to have ended the conversation right there, I feel confident I could report to you this is Greg's philosophy.

What do you mean by "evidence?"

"Let me give you an example:  When we merged with Crosby-Heafey in California [January 2003, picking up a 230-lawyer firm known for its strength in litigation], I told people we would generate additional business that neither of our two firms alone would have gotten.  So we've tracked it.  And last year it was—care to guess?—$60-million. That's $60-million, which was first $10-million, then $20-million, etc., year by year.  10% of last year's revenue.

"Lawyers listen to evidence."

Greg mentions they've done the same on the diversity front, winning the Minority Corporate Counsel Association's Sager Award and becoming one of Sara Lee's top two law firms.

You achieve this by communicating all the time:  Tell people what we're going to do, tell them what we're doing, tell them what we did. 

But let's step back, I say; not every firm, presumably, could do what Reed Smith has done?

"It starts with who you are.  Look at the history of Reed Smith; in the late 19th Century, and continuing perhaps until World War II, we were, as my London partners kid me, the 'Magic Circle' firm in Pittsburgh—and it wasn't a bad place to be that, then.  Reed Smith represented Andrew Carnegie in the deal with J.P. Morgan that created US Steel.  Talk about high-end corporate work (at the time)....   So the first thing is to know who you are.

"Another thing we had going for us, even when I became managing partner in 2000, was our partnership ethos, our sense of teamwork and integrity. But at the same time we did not have any presence in many important markets:  We had no national reputation, let alone an international one, and we had a fundamental problem:

• We were too big to get small
• And too diverse in practice to be a boutique.

"So we had a choice:  We could become a strong, and hopefully durable, regional firm, or we could expand into the major national and international markets.  We decided on Plan B."

And what did that mean for you?  "It meant we had to get into London, California, and New York, and I believed the way to do that was to make the most of our star partners, our best client relationships, to aggressively recruit talent, and above all, to do it fast."

Let's change gears for a minute, I suggest: Let's focus on operations.  It's hard to say that any AmLaw 30 firm is "cheap," given that you face market rates on associate salaries, the non-negotiable requirement to be in Class A+ real estate in major urban centers, etc., but it strikes me that Reed Smith is reasonably economical.

"Here's our basic philosophy," says Greg, becoming animated (even for him):  "We try to figure out what the most powerful market forces are, and own them, not resist them."   Meaning?  "First, take globalization.  Our key clients, banks, pharmaceuticals, financial services, media, are all going global: So our response has to be to be where they are, not to stay in our comfort zone in Pittsburgh.  Second example:  Convergence [of clients' preferred firms into shorter and shorter lists]:  As our clients get bigger and want deeper relations with fewer law firms, we need to win.  And we are: We have fewer and fewer, say, $750,000/year clients, and more situations where that client goes either to $5-million/year or zero."

Can you quantify that?  "Sure:  One particularly large financial services institution recently cut its roster from 300 firms to 10.  We were in the 300 and I'm happy to report we're in the 10.  Here's another number for you:  Our revenue from our top 250 clients went up 400% in the past 5 years."

"Third, client pressures on fees.  GC's are on the warpath on costs.  Now, it would be nice and cozy to say, 'I just wish it would all go away.'  But it's not going away.  Instead, we embrace it and ask for more work from precisely those clients.  Sure, some work that goes to the New York 'bulge bracket' law firms ought to go to those firms, and I'm the first to tell clients that.  But there's also a bunch of work that we can do as well as or better than those firms.

"There's also a bunch of work that ought to go to small, regional or local firms, or boutiques.  I can't worry about that; the work goes where it ought to go.  Our response has to be to move up-market.

"Here's the key challenge:  To take this thing that we cannot change and figure out how to drive it to our advantage."

Is it more competitive now then when he took the job, or when he was a young partner?

"I gave a presentation that I called, 'The Good Old Days Weren't So Good.'  In the mid-1980's 24% of Reed Smith's business came from just two clients:  One was a bank that was under siege, and the other was an asbestos manufacturing company that was going to go bankrupt, like it or not.  Plus, we had 90% of our lawyers in one city—Pittsburgh—with a slow economy.  So maybe the good old days weren't really so great."

"But you still have to be true to your heritage.  One thing we have going for us is that we believe in long-term relationships and always have.  When something goes wrong on a case, or a transaction—and they will—if you can draw on a decades-long reservoir of trust and good will, you've got a lot of momentum to get you past the pothole.  That's why I tell everybody who'll listen that it's strong relationships with clients that drive value for them, and for us."

There's a school of thought that changes in law firm rankings occur glacially; if you look at movement in the AmLaw 100, it doesn't appear as dynamic as, say, in the S&P 500 or the Fortune 500.  Can Reed Smith really become a top 10 or 15 firm?

"Great question!  Look at banking.  Did the New York City money center banks look at NCNB in Charlotte 15 or 20 years ago and see a fierce competitor?  Today Bank of America is vying with Citi for most valuable bank in the country, by market cap. Look, we're a business like any other industry; there is no entitlement to incumbency."

Aren't law firms inherently fragile? At least compared to corporations?

"Sure they are; that's why you need a focus on relationships: Build relationships among partners, senior management, associates, staff, and clients. Then when the inevitable rough patch occurs, you have good will you can draw on to get over things. I try to spend a tremendous amount of time with clients and partners.

"For example, Sunday night I leave for London; I'll have two full days there, with our key people and some clients we're trying to build matters up with. Then I take the train to Paris for a day and half: Same drill. Then I fly to Dubai where I'll see, among others, some of our clients. Here's another example: I got up here [to New York] last night on the train from DC. Yesterday morning in DC I spent with key partners, meeting one-on-one. Then I had a client lunch, again just one-on-one. In the afternoon I spent an hour fielding roundtable Q&A's with all the DC associates—completely unscripted. I then gave our DC office pro bono award out, and had dinner with 15 Reed Smith lawyers, partners and associates both."

"My assistant for special projects, Patty Conner, who has an MBA by the way, tries to keep me in what I call—and what I tell our people I want them to do as well—'high impact' mode. What is the highest-impact activity I can be pursuing right now? It might be seeing a client. Or romancing a lateral, it might be talking to the media—you!—it might be making sure the integration of our latest merged-firm is going smoothly, it might be meeting some of my counterparts at other firms. But it has to deliver the most impact then and there."

On your watch, Reed Smith has done a substantial amount of merging with and acquiring other firms, and you've also hired a bunch of laterals. How are the dynamics of each different?

"M&A is what you need to do if you're entering new markets: You need to get credibility fast, and establish a base to work from. Laterals work better where you're building on established strength; it's very very difficult, and in fact we've never done it, to try to build an entirely new practice or open a brand-new office through lateral recruitment alone.

"But once you've picked your merger target and everything has worked out, after you announce the deal, that's when the hard work begins, the work of integration. This is how we do it:

• First, relocate some key Reed Smith partners into the new market, partly as cultural ambassadors, partly to seed the Reed Smith culture in the new location., and partly to show how important the integration is to all of us. That's why Michael Pollack [Director of Strategic Planning and a member of the executive committee] moved to London after the Richards Butler deal.
• Next, you need to hit the ground running operationally: Get the businesses running together as fast as humanly possible. YOu need to make sure that you can take advantage of opportunities that come from things that would not have been available before. Without operational integration, you can't track, or report on these opportunities.
• Third, once you start finding those hitherto-unavailable opportunities, you pound the message home that the combined firm is winning business that neither one alone would have been able to capitalize upon.
• Lastly, by executing on all these things, people begin to "think differently." They feel less and less a legacy of Firm A or Firm B, and more a part of the exciting new Reed Smith. And over time you get new people joining who never were part of either legacy firm, and who have signed on to the dynamism of the new place.

"If you can execute well on all this, the two firms will meld, to the point where it's difficult to find the seam."

Management Team

Very few firms have the pre-meditated depth of management around the managing partner that you do. How did that evolve and what are you trying to accomplish with it?

"One of the things I'm good at is knowing my limitations, so I focus on adding complementary skills. The dumbest thing I could do would be to build a team with another 5 or 6 Greg Jordan's. The idea is to broaden, not to heighten, the management team. From the outset of Greg's tenure, the key people have been himself—and he views his leadership style as instinctive, not from training (he's a trial lawyer, not a corporate lawyer). Also key is the highly energetic director of strategic planning, Michael Pollack, who was on the bus from the start. And then Eugene Tillman, Director of Legal Personnel. Eugene brings discipline, consistency, a detail orientation, and the ability to say no. I'm not really much good at any of those things, so he's been a life-saver. Gary Sokulski is the COO, and has done the job of melding together all of the operations, with an eye for detail and execution.

"Rounding out the team is Roger Parker, from Richards Butler, our European & Middle East managing partner; Dave DeNinno, head of the business and regulatory department; and Colleen Davies, head of litigation.

"But there are other people we can move around to do key things when we need them. For instance, Tom McGough is moving to Chicago to help with the post-merger integration there. He was the prior firmwide head of litigation, before Davies. [Tom's pedigree suggests he is up to the job: Princeton undergrad magna cum laude, U.Va. JD, clerk to Rehnquist.]

What do the members of the management team have in common?

"Well, first, they're a team of highly successful practitioners.  Today that's a prerequisite to doing the job; maybe it won't be in the future, but today it's required.

"Second, as I mentioned, they have complementary and not redundant skill-sets.

"Third, the longer we work together as a team, the better we get.  There's a level of consistency and of 'shorthand' that develops.  It just gets better and better.

"Finally, we're avoiding staleness;  we keep trying to add new viewpoints, including adding Parker (from Richards Butler in London) and Davies (from Crosby Heafey in California).   For example, Dave Egan, our Chief Marketing Officer, never worked in a law firm, much less was a lawyer.  So what I discover is that he's the most likely to ask why do we do things this way?  And he's often right that there's no good reason."  [For my profile of Dave, click here.]

"The bottom line on this wealth of talent in the management team is that if I get hit by a bus this afternoon, there's no risk to the firm; things will go on.  We could continue to be innovative and we could continue to pursue our vision."

How has the role of a managing partner changed?  Does your job today resemble what you thought it might be or what went before?

"The mind set before at many law firms was something like this:  Put somebody in the chair for three to six years and just hope he or she doesn't screw things up.  Now it's far more complex, and managing partners tend to have a longer tenure.  That raises the question of how long is too long?

"The answer is not term limits, and it's not when it's someone else's 'time.' The answer lies in how you react to these two questions:  (1)  Do you still have it?  and (2) Are others still willing to listen and follow?  As soon as you can't answer those the right way, time's up."

What do you do more of and what do you do less of than, say, five years ago?

Greg ponders.  "Fundamentally, I think what I do today and what I did when I started as managing partner are identical; but I now do it in a more purified form.  To me, it's all about communication: To partners, clients, laterals, the media.

"And I try to avoid getting bogged down in HR, in IT, in systems integration post-merger, in real estate negotiations.  I have the luxury of being able to truly delegate, and knowing that we have experts on the team who can drive each function."

"One thing that comes with size is the need to be serious about 'high impact.'  I travel 190 days a year, and that's part of it.  Everywhere I go, I try to set an example; it's definitely not what you say, it's what you do."

You seem to be  comfortable with change; hardly any lawyers are.

"I'm very comfortable with change!  The absence of it is very dangerous.  Look, Reed  Smith could have become complacent as King of the Pittsburgh Hill a long time ago, and where would it be today if we'd succumbed to that?  My predecessor, Dan Booker, set us on a path to embrace change and we have continued it. One of the best things that's happened has been change: It forces you to innovate, which is the true driver of capitalism.  [Greg had just read a book review of a new Joseph Schumpeter biography.] 

"Sometimes people will come up to me and ask, plaintively if 'we can't not change just for one quarter?'  And the answer is No, change has to be constant.  I keep working down the list of what has to get done, and by the time you get to the bottom, there are all these new things that have popped up, so you never get to the end of it.

"But the fundamental challenge is the same.  There are two things—aside from the hard work of executing on your strategy—that distinguish the successful firm:

• talent development; and
• honing client relationships

"Nothing else fundamentally matters. And the thing I love most about change?  There's an avalanche of opportunity out there for us:  An avalanche."

Are you happy?

"Oh!  Look:  Most people are happy when:

• they're doing what they like to do,
• when they're good at it, and
• when it's something that needs to be done.

"Put those three together and you've really got it."

Are you proud of what you've achieved?

"Yes, because we've done it as a team.  I'm proud of the team.  It goes throughout the firm, from the executive committee to the junior staff.  You want to know the best thing I get to do every year?  After the year-end results are in, I get to send out a firm-wide email to every single person on staff at Reed Smith, telling them that the firm had a good year and we're appreciative and want to demonstrate that by rewarding them for their role in it.  This year, on top of all the other profit-sharing and bonus programs, it was a $700 bonus for every single staff member—this can cost a lot of money—but it's the single best thing I get to do.  [This is on top of profit-sharing, which goes to all.]

"I've got to tell you, profits per partner figures are one thing, but this is more rewarding.

"And so it goes on.  We're going to keep scrapping our way to the top, scrapping our way to the top.  And we're going to do it as a team, scrapping.  Complacency is death."

The Care & Feeding of 800 Pound Gorillas

We've all encountered the jerks and a**holes in our firms, preferably as a co-equal partner who at least has a prayer of fighting back, but more often the real damage is done to associates or staff whose motivation is sapped, whose degree of loyalty to the firm is eroded, or even whose careers are derailed.

Yet we as a profession, by and large, continue to tolerate them.  Progress has been made, to be sure, but we're not there yet.

We have to get there. 

Jerks do real and lasting damage:

• Wreak havoc on retention, if not in recruitment—especially among your best and brightest, who actually have other options ;
• Damage your firm's reputation among potential laterals and even clients;
• Stifle innovation and creativity; and
• Nip collaboration and openness in the bud.

We all know these things in our hearts, but now McKinsey has a report on the new book by Stanford University professor Robert Sutton, The No Asshole Rule: Building a Civilized Workplace and Surviving One That Isn't   (New York: Warner Business Books, 2007) and confirmed our worst fears. 

Do any of these caustic syndromes ring a bell?  (And the list does go on.)

• Damage to those on the receiving end
  • distraction from real work; time and energy devoted to coping or avoiding
  • honesty becomes not the best policy; a climate of fear, psychological safety undermined
  • motivation and energy knee-capped
  • absenteeism, slacking, turnover
  • and worst of all, a prolonged exposure to bullying can turn one into a bully
• Damage to the jerks
  • retaliation, if possible
  • humiliation if confronted
  • job loss
  • even long-term career damage
• Black hole for management
  • time spent appeasing, calming, counseling jerks
  • time spent cooling, reinforcing, nurturing victims
  • time spent reorganizing to get people out of the jerk's line of fire
• Litigation and HR costs
  • speak for themselves
• Overall impact of condoning jerks
  • stifles creativity and innovation
  • channels internal competition into evil routes
  • zero "discretionary" effort
  • external "suppliers" (technology vendors, expert witnesses, trial consultants) charge "combat pay" premiums

Lest this all sound rather soft and mushy, descriptive rather than quantitative, I've got some quanta for you.  According to this report* cited by McKinsey, 41 employees of a manufacturing firm in the Midwest carried PDA's for a few weeks and, at four random intervals, each was "pinged" to report their most recent interaction with a supervisor or a coworker, whether it was positive or negative, and their mood at the time.  The bottom line: Negative interactions hurt the moods of these employees five times more strongly than positive interactions helped their moods.

OK, let's pretend you've got religion.  Swell. So how do you actually do something about it at your firm?   For starters, realize that "no jerks" means no jerks. You cannot speak of "effective bastards," or "obnoxious superstars."

Publicize the rule by word and especially by deed

As the head of Barclays Capital puts it, “Hotshots who alienate colleagues are told to change or leave.”  Only when people feel safe calling a jerk on his bad behavior do you know you've achieved your goal here.

Live by it in hiring and firing

Perkins Coie, a Fortune "100 Best Places to Work" in 2007, for the 4th year in a row, reject rainmakers for just this "no jerk" reason.  As senior partners Bob Giles and Mike Reynvaan report, "We looked at each other and said, 'What a jerk.' Only we didn't use that word.”

Teach people to fight back

No, this doesn't mean descending into the Lord of the Flies war of all against all; it means "constructive confrontation."  When bullies win, well, then, bullies win.  Here we could all learn lessons from the military, where the fundamental understanding of the command and control  hierarchy is not really all about command and control; it's about "disagree, then commit."  Or, as the theme of Karl Weick, The Social Psychology of Organizing (New York: McGraw-Hill, 1979), has it, "argue as if you are right and listen as if you are wrong."

This also goes for clients

Don't let your people be abused from the outside or from the inside.  Even consider this:  Fire clients who are abusive.  Joe Gold, founder of Gold's Gym (550 locations in 43 countries) did this from the very start, in his first gym on Muscle Beach in Venice, California, where Arnold Schwarzenegger was an early customer.

Is being a jerk contagious?

Yes.

Which is why a jerk-free workplace begins with you.  And this only makes sense.  If I'm attacked, my first, albeit basest, instinct is to counter-attack.  If I lack the organizational status to counter-attack directly, I'll counter-attack obliquely, by becoming disenchanted, losing faith in the firm, giving less than my best effort (or certainly not going the extra mile on nights and weekends). 

Is it easier to have a race to the bottom than a race to the top?  

That's a metaphysical question I'm insufficiently qualified, spiritually, to answer.  But I do know merely from watching the syndrome of negative political attack ads during election season (I could come up with other examples, but this is a uniquely public one), that negativity dumbs down the surrounding environment. 

People who act angrily make you angrier.  These two quotes sum it up, for me:  First, the Arab proverb that "A wise man associating with the vicious becomes an idiot," and second that "a swarm of jerks creates a civility vacuum."

Don't let this happen to you.

---

* Andrew G. Miner, Theresa M. Glomb, and Charles Hulin, “Experience sampling mood and its correlates at work: Diary studies in work psychology,” Journal of Occupational and Organizational Psychology , June 2005, Volume 78, Number 2, pp. 171–93.

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Update 12 April 2007:

A lawyer at an AmLaw 10 firm, but who requested anonymity (which I scrupulously honor), writes today:

I saw your post about the Care & Feeding of 800 Pound Gorillas, and ordered a copy of " The No Asshole Rule: Building a Civilized Workplace and Surviving One That Isn't."  I just randomly opened up to page 127, and saw this statistic:  "Researchers Charlotte Rayner and Loraleigh Keashy estimate that 25% of victims and 20% of witnesses of bullying leave their jobs, compared to a typical rate of about 5%.  But these numbers also show that most of the afflicted hunker down and take it.  Many people are stuck in vile workplaces for financial reasons -- they have no escape route to another job, at least to one that pays well."

That statistic and subsequent description sound eerily familiar to associate retention (or reasons why many associates I know still stay).  If this statistic is true and can be applied to biglaw life, then I shudder to think what this means for the profession -- in particular, the characteristics of those who tough it out to make partner (given that even an eighth year associate should have their pressing financial constraints eliminated by that point).

"What it means for the profession", if you ask me (Bruce), is that firms that tolerate, or worse reward, abusive 800 pound gorillas will end up selecting for them and against any "good citizens" who might have randomly begun their careers at the firm. Indeed, if the good citizens haven't decamped by their 8th year, they are either dense or insensitive, neither a desirable characteristic of a partner.

A Conversation With Ralph Baxter

"A freezing rain was falling one March afternoon in Tarrytown, New York, and I was thinking about frogs."

Does that sound like the proper introduction for an AmLaw 30 Firm Chair to use for an article with the theme, as he says farther on, that "I expect law firms to change more in the next five years than they have in the last 30 years?"   The author is Ralph Baxter of Orrick, the frogs he was thinking about are the metaphorical ones who will leap out of boiling water but succumb to the same hot water if gradual heat is applied, and the article is here.

Not to be oblique about it, but Ralph thinks law firms are the frogs experiencing the gradual heat, who have not leapt out of the pot because "the simple fact [is] that they have not had to."  In marked contrast, our corporate clients have had to be more nimble, finding ways to deliver more value to their increasingly globalized clients through (a) using technology to improve productivity and service quality; (b) developing new services and appurtenant pricing models; and (c) adapting to the changing work force through more flexible and creative hiring and professional development tactics.

I won't summarize Ralph's article for you—just go read it yourself—but I will supplement his thinking by reporting on a one-on-one conversation I had with him at Orrick's offices here in New York last week.

---

Many if not most of you are probably familiar with the growth trajectory of Orrick under Ralph's tenure—a roughly 1,000% growth in revenue, for starters—and we have all seen formerly regional or city-specific firms break out of their home territories and become national and even international powerhouses during the past 20 years.   If you doubt me, ask yourself whether you still assume these firms are provincially limited to these cities:  Foley & Lardner/Milwaukee; Jones Day/Cleveland; K&L Gates/Pittsburgh; Reed Smith/Pittsburgh.

But the question I had for Ralph was, understandable as it might be for those other firms to see the need to bust out of their frankly sclerotic local economies, what was so bad about San Francisco when he assumed the lead at Orrick?  Whence the sense of urgency to expand beyond the familiar base of a then-and-now healthy region?

"I told my partners, the night I was elected to lead the firm, that what they had voted for and what they were going to get was change."  Even if Orrick's position as the go-to municipal finance firm was solid as a rock, Ralph aspired to more. I asked him why, where his drive came from, and he paused, looked at the ceiling and shrugged: "I guess I've always been ambitious; I wanted to be student council president in high school."  So, for Orrick, Ralph wanted a larger stage to play on than that of the Bay Area.

"But," Ralph added, "something David Gergen said [giving the keynote at the Law Firm Leaders Forum in San Francisco the week before, which Orrick had sponsored in conjunction with Hildebrandt] struck me about the critical ingredients of leadership, and it was this:  His first prerequisite for leadership was 'ambition,' but it was ambition for the team, not ambition for oneself.

"The other thing about change?  It seems to make most people deeply uncomfortable:  You know, 'things seem to be going OK, and I'm not dead yet!  So far so good.' But I relish change, I really do.  I think most people, and especially most lawyers, don't."

I asked about how he had grown into the managing partner/firm chair role, and specifically what he did more of and what he did less of than, say, five years ago.

"Terrific question; never thought about it." (Pause.) "OK, I do less day to day management/administrative stuff, and much more communicating."

His pointing up the importance of communication reminded me of a piece of managerial wisdom that I've always valued, albeit having come from an improbable source. So I asked if he knew about the famous Washington political columnist Walter Lippman's advice to Presidents about press conferences, namely to hold one once a month, with no agenda and no time limit? 

No, he said, so I explained Lippman's thinking:  The idea was to instill policy discipline in the cabinet.  If anything and everything could come up in the unscripted press conference, the President had to be briefed on, and concur with, the policy positions of Treasury, State, Defense, etc.—and all those departments and more had to be sure they had defensible, supportable, credible positions across the board.  Even if the press conferences never occurred, the discipline they would instill was invaluable.

I observed that most managing partners have almost no staff to help them discharge their duties, and he responded that he'd actually become increasingly attuned to the need for a strong group to help him accomplish what he aspired to do.  "I've learned, and the group has gotten better and better as we've re-aligned people to fit what actually needs to be done." 

That is exceptionally unusual among law firms—no solitary "I can do it all" figure at the top—but if you're into process (as any good lawyer will be), you intuitively  understand the result of having talented senior staff.  They get things done that you can't do yourself.  They follow through on initiatives you launch.  They get back to people.  They don't let things fall through the cracks.  They return emails and phone calls, delegate whenever possible and escalate when unavoidable.   They work while you sleep.

I asked Ralph for his views on the mergers trend in our industry: Has it peaked, just gotten started, or something else altogether?

Attuned to the possible overtones his reply might have with respect to the recently and conspicuously cancelled Dewey/Orrick merger plans, he began undefensively by admitting that mergers between proud and autonomous law firms with decades of history were intrinsically complex. 

But on the larger question of the merger trend within the industry—accelerating, decelerating, or none of the above—his view is that M&A is here to stay; there's no a priori reason to think it will drastically pick up or fall off.  And he does emphatically predict that we will see mergers of "strength and strength:"  Two firms, neither of which has to merge, but which choose to in order to create a platform neither could achieve alone in such short order.

It seems indisputable that US firms have had better success launching offices in the UK than UK firms have had launching offices here. Why did he think that was?

First of all, he said, don't underestimate the amount US firms have had to "invest" (or if you prefer, the less euphemistic "lose") to get their London beach-heads up and running.  "We've lost money there to begin with, I think everyone's lost money there to begin with, but we've lost less and less every year, and many firms are finally making money now.   As for the UK firms not having had great success here, I think their compensation systems, which skew towards lockstep, aren't ideal for penetrating new markets; you need better incentives for sticking your neck out.  But I think they'll make it here sooner than some people expect.

"As for Orrick's commitment to London, you have to realize you're in it for the long haul.  You do need to make the investment, and be prepared to stick with it, or else you're not serious about it."

Is Orrick in a "war for talent?"  Absolutely.  And Orrick isn't competing just against other law firms, it's competing against investment banks, management consultancies, private equity and hedge funds, all of which can pay multiples of what even the most astutely-run law firms can pay. 

I noticed that Ralph had a copy of this post of mine in front of him, as he pointed to it and observed that the "hostilities" of the latest associate salary spike to $160,000 for first-years was very much a challenge to firms just shy of the top tier. They would have to swallow hard before matching—or not match.    It's yet one more pressure point on those firms.

Finally, what did he see, if he'd thought about it, life for him would hold after Orrick?  "Something interesting!  I'll never be done; I'll never quit.  I'm too curious; you seem to be as well."

I started this piece by saying that almost all of us are familiar with the trajectory of Orrick over the past 15 years, and we understand it at an intellectual, financial, quantitative, and rational level; one week ago at this time I certainly shared that understanding. 

But I now understand at a visceral level how the dynamic interaction of Ralph Baxter's personality and vision, and Orrick, have combined to create a new platform in 2007 which would be unrecognizable, and unimaginable, to an observer in San Francisco in 1989.

The question I couldn't ask, because there's no one yet to ask it of, is how to follow Ralph's act.

---

Update: 4 April 2007:

A reader who is General Counsel at a Fortune 500 company writes:

“As the old saying goes, "I may be crazy, but I'm not alone".  I agree with Ralph that firms have not changed because they have not been forced to. That’s not surprising because, as lawyers, they are inherently and highly resistant to change.  In addition, most firm structures simply get in the way of such necessary change because, at least in part, they are essentially built on rewards for inefficiency. 

"Firms, despite being billed as LLP's or professional corporations, retain the essential character of collections of individual contributors -- these might best be thought of as hotels where similarly inclined itinerants stay. 

"As individual contributors, partners stay as long as they like the mint on the pillow and they leave when some new property appears more attractive.  Perhaps most distressing, however, is the observation about newbie lawyers.  If law firms are in a war for talent, they aren't asking their clients if it's a war worth fighting.  While I'm certainly prone to hyperbole, I can't imagine a first year associate in the world that is worth $160K/yr to a corporate client. 

"So long as the firms insist on trying to pass those costs on to the client, then we have a very real interest in the unreasonableness of those costs.  These are unilateral costs incurred and accepted by the firms -- that unilateral decision to increase costs justifies neither rate increases nor other forms of cost pass through. 

"That being said, we in the in-house community do have an interest in the long term sustainability and therefore the ultimate profitability of our law firm service providers.  As such, we need to instead work with our firm to reduce their costs of providing services while sustaining profitability.  That means stopping the focus on top line revenue growth and instead focusing on profitability. 

"With that in mind, firms might think twice about increasing their cost structures through unilateral decision.  Perhaps the ultimate answer is in working together to change attorney licensing requirements.  Before we start paying associates outrageous sums perhaps we should send them to a "farm team" (the legal equivalent to residencies or apprenticeships) to see if they've got the right stuff to be useful counselors as opposed to body count to feed the billable hour machine.”

---

My thoughts?

I think our General Counsel friend is, in truth, exercised about junior-associate billing rates and not about their salaries: At least that's what I'd be exercised about were I he. After all, it's not his job to run Orrick, and if Orrick thinks going to $160K for first-years is in its rational self-interest, it's entitled to make that decision and live with the consequences.

This is how rational consumers behave: If I were in the market for a BMW (which I'm not), I wouldn't care how much BMW paid its factory workers, or its CEO, for that matter. I would care whether, on the whole, I perceived the BMW model I was eyeing delivered compelling value for its price.

But his other point, that clients and law firms should work together to figure out how to ensure they indeed deliver "compelling value for price" is one I heartily endorse. And, I intuit that he's thinking of fixed fees, not the billable hour. I particularly appreciate his point about having a long-run interest in firms’ financial health.  Whenever lawyers tell me that if they shifted to fixed fees clients would cut their margins to zero I tell them that no sane company wants its key suppliers to go bankrupt.  They act as if  such a thought had never crossed their minds.

12th Annual "Law Firm Leaders Forum:" The Word From the Mount

Earlier, I wrote about the 12th annual "Law Firm Leaders Forum" held in San Francisco last week, which I was able to attend as a guest of Orrick, Herrington & Sutcliffe, whose Chairman & CEO, Ralph Baxter, has been a sponsor of the event from the beginning.   (Thanks to all the folks at Orrick who made my attendance possible; you know who you are.)

Now I'd like to offer a brief recap of some of the highlights of the event:  You can find the agenda in my earlier piece.

On the first panel, looking at our industry five years hence, Brad Hildebrandt opined that while the world was enjoying a growing middle class, less poverty, more demand for goods and services—all of which drive demand for legal services—the industry is due for a "correction" and a slowdown in the growth in PPP we've been seeing lately.

Dan DiPietro of Citigroup's Private Bank described himself as "an optimist who worries a lot" and proceeded to declare that "firms' business model is tired, old, and not working for a lot of firms."  Why?  Clients have more clout than ever; mobility is at unprecedented levels; and the half-life of high-value work is decreasing.  Internally, we have four generations of lawyers in our firms, who don't see eye to eye on many significant issues.  Finally, there are increasing "corporatization" pressures, and this is a challenge which "no one has figured out."

Aric Press noted that, as the Baby Boom generation starts exiting into retirement, fewer and fewer people are willing to work 2,600 hours per year. He also observed that changes in rankings among law firms take place very very slowly:  "There is nothing harder to do than for a firm to change its relative status."

Ralph Baxter thought that segmentation is the key to understanding our industry today, but strongly averred that if your firm is not doing the highest value work, "you are not failing." The moral as Ralph sees it that you must choose high-value or mid-market, which bring with them radically different economic models, but both are viable.  Just make sure you pick one or the other; no firm can succeed at doing both.

Other observations from this panel and others follow. 

For a number of reasons, I choose to decline to divulge the identities of who advocated which view.  (And no, you won't be able to find out by emailing me, either, so don't even try.)

A primary reason is that the participants have not authorized me to do so.  A secondary reason is that this is intended as a wide-open, "think out loud," debate-provoking piece and I don't want to issue the slightest invitation to dismiss or discount or, conversely, to support or lend credibility to, any of the following thoughts based on what you think you might know about their proponent.  Third, I hope to prevent reprisals.  (Just kidding!)

So forthwith, some of the more noteworthy assertions

• It's hard to be a national firm without some global capability.
• UK firms are a real competitive threat.
• "CEO" as a title is inherently problematic.
• De-equitisation of partners is one of the most caustic steps a firm can take; we will see a blow-up of an entire firm resulting from this.
• In 10 years but probably not 5, we will see a managing partner who is a non-lawyer.
• More and more firms will engage the likes of McKinsey to do soup-to-nuts strategic reviews.
• The billable hour is not dead.
• The billable hour is dead:  Knowledge management will wipe it out, as corporate clients increasingly demand that their key firms expose their internal KM systems to the client.
• In less than 5 years, a name-brand UK firm will go public through an IPO.
• In less than 5 years, New York first-year associates will be at $250,000
• In retrospect, we will view the period immediately past as a high-water mark in mergers among law firms.
• There will be many more law firm failures.
• There will be some law firm mergers at the high end of the market between two strong firms neither of whom needs to merge.
• The key to the future is how much growth there will be in China:  "No one knows."
• "This panel on the future is incredibly pessimistic."
• "This panel on the future should see things growing to the sky; the demand for legal services far exceeds the supply."
• Our basic business model has been broken for years:  Top partners are underpaid and young associates are overpaid--but we can't seem to disaggregate them.
• The key to increased profitability will be the ability to cut costs but not cut hourly rates.
• You cannot apply what you thought you knew about running an old sty le law firm to a global $1-billion+ business.
• We never advertise, we never recruit, we never go on-campus; everyone who comes to us comes by word of mouth.
• We have 45 partners in a 60-lawyer firm; my ideal firm would be 50 partners and 0 associates.
• The leverage model is utterly inconsistent with quality.
• [Also banging on the leverage model:]  With lots of leverage, there's absolutely no incentive to mentor associates, which means that the people doing the work are unqualified.
• No billable hours, ever:  Not just in not charging clients by the hour, but people inside the firm don't even know what their hours are.
• Zero origination credits; every client is a client of the firm.
• We use technology to give lawyers their lives back; it's all about what work you do.  We put zero value on face time, zero.
• No meetings in our firm:  Ever.
• Law school is deplorably unhelpful in developing team skills.
• The defining characteristics of leadership are:
  • Ambition
  • Vision
  • Character (those being non-negotiable), and optionally
  • Adaptability
• 50% of the characteristics of great leaders are universal; 40% are industry-specific; 10% are firm-specific.
• The new generation of lawyers (Millenials, a/k/a Gen Y) are all about "work/life balance," or trying to have it all.
• Millenials want constant feedback, a highly structured environment (not "sink or swim") and are intolerant of drudgery
• They have far less focus on a long-term career commitment to the firm
• But are at least as smart, and far more worldly (study abroad, living abroad, etc.) than previous generations.
• One technique for dealing with this is simply to wait until 4th or 5th year and then among the survivors begin to instill a sense of learned professionalism, your obligation to colleagues, and your role in and commitment to the firm.
• "Strategy" means being the very best at what you do and not trying to do anything else
• Among other things, this means that if there is no one suitable for partner in any given year, no one will be made partner
• We see absolutely no need for an office outside [our home financial capital]; you can buy an awful lot of air tickets for the price of an office.
• Asia is staggeringly important, but China and India are two very different stories
• In 1987 there were no private practice lawyers in China; now there are 100,000
• The only area in our firm which has absolutely zero budgetary constraints is recruiting
• Our "Chief Talent Officer" is the second most highly-paid non-lawyer in our firm (after the COO/Executive Director) and the third most highly-paid reports to the CTO
• There will be a ground-breaking US/UK merger in the next 5 years; it's surprising there has not been one already
• Re outsourcing: Why hasn't there been more of it, is the interesting question, not whether firms will come around at all.
• Corporations, investment banks, ad agencies, etc., are all heavily committed to outsourcing, with no noticeable compromise in quality or responsiveness
• If you want to practice at the very high end of the profession, you must:
  • hire absolutely the best
  • train and mentor
  • be as cost-effective as possible, a nd
  • out-source everything that absolutely positively does not have to be done face-to-face with a lawyer in Class A+ downtown real estate

There you have it.

As always, I welcome your thoughts, feedback, enlightened commentary, and slings and arrows.  But for once, I'm only the messenger.

Lessons from Private Equity

Whether or not your firm has a private equity practice, you're surely familiar with its just this side of astonishing rise over the past half decade or so.  And if you're like me you've asked yourself, "Who are those guys?"  What makes them so successful at adding value to the companies they acquire?

Thanks to the usual suspects at McKinsey, we now have some preliminary indications.  Yes, it's true that they can generate outsize returns, and yes, it's also true that they do it by behaving in ways public companies don't.  But the devil fascination is in the details, and I'd like to discuss their practices.  As you read this, think "merger."  Specifically, think how you'd manage a firm or large practice group you might acquire.

Last time I checked, your firm wasn't publicly listed.  So might it not be time to take a page, as it were, from private equity?

First, let's define "outperformance."  Since McKinsey was interested in what differentiators lie behind superior performance, their sample set was"skewed toward the better deals by the better firms."   More broadly, they found that three-quarters of all private equity firms "perform no better than the stock market over time [but that] the top 25% outperform...by a considerable margin--and persistently."

So let's cut to the chase.

They examined 60 deals completed by 12 "top-half" private equity firms, and examined the returns on those deals compared to a comparable investment in publicly traded equities.  Here were the key differentiators:

• Before the deal, winning private equity firms conducted "deep research" into the target.
• After acquisition, they exert powerful ownership control over management, which just starts with high levels of performance-related compensation to align managers' interests with that of owners.
• Compared to poorer performing private equity firms, and in stark contrast to public companies with diffuse shareholder ownership, imperial CEOs, and nonexecutive directors who have no research staff, no budget for outside consultants, and access only to the information management cares to provide, activist private equity firms devoted at least half their time to the company, usually at its headquarters, for the first three months after the deal.  Less active investors spent only 15% of their time doing the same.
• Active investors had "teams of analysts;" less active ones worked alone.
• Active investors formulated their own hypotheses about what needed to happen to release, or discover, value in the target firm (educated guesses they had formed during the pre-acquisition due diligence process), while less active (shall we say "passive"?) investors tended to review and comment upon proposals made by incumbent management.
• Active investors got to know individuals in senior management early on, and made needed replacements quickly and expeditiously; passive investors ultimately made some replacements as well, but "usually much later."
• Finally, active managers looked at operational indicators to measure performance (which more closely track plans for actual changes in the way the business runs), while more passive managers stuck with traditional financial measures, which may not be tailored to the firm and may not have quick response times—may, in other words, be lagging not leading indicators.

If you're starting to see a theme here, McKinsey does as well (emphasis supplied): 

"In our view, this active assertion of ownership is the crucial difference between the best private equity firms' concept of good governance and the one put into practice by public companies and less successful private equity firms."

A few more observations are particularly noteworthy.

First, contrary to popular belief, private equity's most potent weapon is not financial re-engineering or mere price arbitrage, it's what McKinsey dubs "governance arbitrage," extracting value from firms whose owners and managers are misaligned.  Fascinatingly, McKinsey sees this as such an enormous opportunity "that private equity is likely to maintain, and perhaps to expand, its presence as a parallel system to established public markets. It would revert to marginal status only if the governance of public companies improved dramatically."

Elsewhere in the article, McKinsey discusses the how the interplay between private equity and public ownership may play out over the coming decade or longer, and while many of their observations are intrinsically interesting, their lessons for brilliance in executing law firm M&A are less obvious.

But I can't resist sharing a few:

• They sharply rebuke the conventional wisdom that public company governance has "greatly improved...notably since the cleanups that followed recent high-profile corporate scandals."  Rather, what they say has  happened is that nonexecutive directors of public companies are utterly absorbed and preoccupied by ensuring they don't run afoul of "the growing number of codes and regulations," to the exclusion of strategic reflection on how to create value.
• The incentive structure compels risk-aversion:  Nonexecutive directors stand to lose big if compliance short-circuits, but have little upside for outstanding performance.
• Boards are still kept in the dark.  Only 10% of directors McKinsey polled felt they had a "complete understanding" of the firm's strategy and long-term objectives, whereas more than half described their information about that as "limited" or "none."

Where does this leave us if we're not contemplating a merger or significant lateral group acquisition?  Essentially all of this applies with one-to-one congruence to managing the firm's everyday activities, not to mention its aspirations for the coming decade.  Here is one last piece of learning.

Create an intense, externally focused strategic review

The best private equity firms do this with their acquisition targets; why not do it for yourself?  Look to benchmark your firm against your competitive set as a start; but if you stop with benchmarking, you consign yourself to middle-of-the-pack mediocrity, by hypothesis.

After benchmarking, to see if you're a significant laggard, look to leaders within and outside our industry, to learn from how the best of the best do it.  ("It" can be anything from KM to client relations to word processing and PowerPoint presentation production.)

The last two McKinsey recommendations, having to do with creating "tough but realistic" targets, and linking them to compensation, and with critically evaluating senior managers and pursuing an ongoing search for talent, are behaviors that I presume you're already pursuing, or else have pursued to the point of effective cultural diminishing returns.

So what are we left with?

We can happily take a lesson from private equity:  We're closer to their model already than our public-company clients, and we have the internal brains; critical and analytic firepower; and power at communicating a vision, to follow the game-plan.

Best of all, we have the resources to pay people who share and pursue the vision for their efforts.  Why shouldn't your firm be a model for "the better deals pursued by the better firms?"

---

Update: Charlie Green of Trusted Advisor Associates writes:

Bruce, this is one of the better explanations--along with McKinsey’s original stuff--of what's happening vis a vis private equity and governance.  Interesting to apply it to law firms!
I look forward to hearing others' reactions.  Many thanks.

Grant Aldrich of Professional Services Marketing writes:
Hi Bruce, How do you think this aggressive restructuring and active assertion of ownership would differ in its implementation, from a law firm with a partner management structure as opposed to a firm with a formal executive management team? Grant

My thought, Grant, is that it should not fundamentally differ: But the reality is that the partner-management structure is likely to be less effective than a formal executive management (and full-time management) team. So long as one is a partner with an active practice, clients will always come first (as indeed they must under professional ethics).

Yet another reason, I would aver, to have real executives at the helm.

Orrick/Dewey: A Postmortem

The coverage has been wall-to-wall, if not deafening, and two things we do not do here at "Adam Smith, Esq." (there are others, trust me) are (1) cover breaking news; and (2) tell you things that we know you already know. 

So I haven't yet addressed the breakdown of the Orrick/Dewey merger talks.  In case you've not reached saturation on the story, here you can read about it courtesy of:

• The New York Times
• Crains New York Business
• CNN/Reuters
• Law.com
• and a plethora of sites from the blawgosphere.

But if you only want to read one article about it—and I've certainly had my fill surfeit at this point—go to Legal Times' excoriating coverage, some hot dots from which include:

• "At Dewey, the hemorrhaging continues. "
• "It represents at least the fourth time in four years that Orrick has failed to cinch a merger, prompting speculation about why the firm can't close these deals."
• “It's a moment of great instability for Dewey,” says Peter Zeughauser, a California-based legal consultant. “The fact that they couldn't pull it off without losing some of their best talent will raise questions about their future.”
• And finally:  "The partner defections seemed to fuel a vicious cycle in the negotiations. The departures prompted Orrick to ask for new terms, the Orrick source says. But these new terms in turn complicated Dewey's effort to stem further departures because they added to the uncertainty surrounding the deal, the Dewey source says. “You can't do a deal until you know the terms, and the terms kept changing with Orrick,” he adds. "

But, as always, we are here with malice towards none, and with charity for all, so let's take this as an object lesson in just how difficult law firm mergers can actually be. 

Truth be told, corporate America has a less than stunning track record in M&A, although McKinsey believes they may be getting a little better at it compared to the last M&A activity spike in 2000:    According to "Are Companies Getting Better at M&A?," which "reviewed nearly 1,000 global mergers and acquisitions from 1997 to 2006, comparing share prices two days before and two days after each deal was announced," in which they examine both "value created" (which can of course be a negative number) and "proportion overpaying" (which leads to those nasty negative numbers), and find that public-company America is doing better this time around than last.

Specifically:

• the "value added" in the last boom was +1.9% of the deal's total value; this time around it's 6.1%; and
• the "proportion overpaying" reached a peak of 73% in 2000 and is down to (a still ugly) 56% in 2006.

This is how they sum it up:

"The improvements reflected in our M&A indexes are encouraging: despite the recent intense volume of M&A, it appears that acquirers have been disciplined about creating value. Nonetheless, plenty of room remains for acquirers to improve their M&A performance by focusing on the scope to create value and to ensure that they don't overpay."

Granted, law firms don't "overpay" (or underpay) explicitly when they merge, since it's mostly treated as a pooling rather than an acquisition; the division of outstanding liabilities, and partners' contributions to capital, are the primary exceptions. But an explicit value is never placed on the acquired or the acquiring firm.

The point is not that there's a 1-to-1 analogy between corporate-land and law-firm-land; the point is that even companies who merge for a living have a remarkably unimpressive track record.

On the other hand, this McKinsey piece, Habits of the Busiest Acquirers, talks about how to tilt the odds in  your favor.  It describes the results of interviewing dozens of executives responsible for pre-merger target identification and strategic justification, as well as post-merger integration, to find out what separates winners from losers.  While the results are somewhat complex, I think this fairly states their findings:

• The successful companies "use M&A to complement a company's distinct capabilities. They understand the limitations of acquiring a company in order to acquire its superior management or operational know-how."  Translated to our world, this frankly is a counsel in one direction only:  We essentially never merge for "superior management or know-how," but it does mean that mergers designed with a view to creating more complementary practice groups should stand better odds of success than mergers blind to that perspective. 
• McKinsey and its interviewees strongly endorse the notion of strategic M&A as a tool for enhancing a firm's geographic footprint, if that would be quicker and more efficient than organic growth. 
• Consider this tale of two strategies, if you will:
  • One high-tech company, for instance, used a combination of acquisitions and organic growth to pursue its twin strategic goals: reducing costs and becoming the leading US company in its industry. Pursuing its goals only organically would have taken too long because it needed an immediate nationwide presence to capture market share ..."  In other words, a well-thought-out, carefully calculated plan, designed to capitalize upon the firm's position and compete more aggressively.  Then we have:
  • "Contrast this long-term success story with the experience of a financial-services firm that relied almost entirely on acquisitions to fuel its growth in the 1990s. The company's stock skyrocketed as it captured all the synergies, and it significantly outperformed its peers. However, hidden in the massive top-line growth and market appreciation was the fact that the company was devoid of organic growth."  How true does this ring?  Haven't we experienced the syndrome of growth-for-its-own-sake?
• Lastly, consider the post-merger integration issue, which can trump everything that went before:
  • "The integration phase of an acquisition is often the time when deals go wrong; some studies blame poor integration for up to 70 percent of all failed transactions. According to the vast majority of acquirers we spoke with, the responsibility for integration falls to the business units. Not that they are to blame for all of the widely publicized failures, but in the words of one business-development executive, "Our biggest challenge is to make sure that the corporate M&A team and business unit executives work in concert on an acquisition"—an important insight."

Read that last phrase again:  Having the M&A team and the business unit (practice group) leaders work in concert.  What that really means is having the entire firm behind the merger:  Not just the firm chair, not just the executive committee.

Here, if I read the tea leaves correctly, we have the dark core of the failure of the Orrick/Dewey merger. 

I never sensed the partnerships themselves—practice group leaders on down—were behind the deal.  I sensed it was driven from the top, and the top alone. 

Understand:  First of all, I have no inside information that this is true (and I wouldn't write about it here if I did!), but I do have this sense.  Second, there is nothing wrong with initiatives being driven from the top; they almost always are (those that aren't are called insurrections).  The point is that the "top" must enlist support, fully, completely, patiently, collaboratively, sincerely.  Somehow that doesn't seem to have gelled in this case; more's the pity.

And so we are left with one firm, Orrick, with its greatest aspiration to date unrequited, and another firm, Dewey, materially bloodied by its encounter with the irresistible wave of consolidation reshaping our industry.

This stuff is not for children.

The Merger of 2006 Undone in 2007

I got the news on my BlackBerry early this afternoon, but it's all over the place now (WSJ, American Lawyer, Bloomberg [where yours truly is quoted]):  The Dewey-Orrick merger is not to be.

I'm sorry. 

I felt from the beginning it held great promise, and could overturn the received wisdom that elite New York City firms never merge.   I still believe the ice may have been broken on that particular conceit, and if so it's excellent long-run news, if disquieting short-run news, to precisely those New York elites.   Another way of saying this is that as supremely lucrative as being at the top of the legal food chain on this miraculous island is, the world changes and the supremacy of the incumbents is always earned every year, not guaranteed as if by primogeniture.

Without any actual information about what went wrong, I have only a few general observations about the merger cancellation:

• It's a truism that the longer consummation of "the deal" takes, the more likely it is that people begin to get seriously cold feet.
• We are about as far removed from a command-and-control, hierarchical managerial model as could be imagined, and if leaders of a firm say, "March," the response will be "Why?" rather than "Yes, sir."  This ties back into the point above.
• The "material exodus" of partners from Dewey that I'm quoted on in the Bloomberg story was bad news for Orrick and bad news for Dewey:  For Orrick, obviously, because they would get less firepower than they hoped to; but equally so for Dewey whose partners might begin to conclude that the maybe/maybe-not status of the deal, with its concomitant talent erosion, might be too high a price to pay.

Will this, then, be taken as a cautionary tale that we as a profession and an industry should dial back on aspirations for ambitious combinations? 

I could be wrong, but my money at the moment is on, "Not on your life."

Quoted in The Mainstream Media

It's not every day one is quoted in The New York Times, and I will not feign false modesty.  (The context was my 2¢'s on what the Kirkpatrick & Lockhart Nicholson Graham/Preston Gates and Ellis merger may have to portend about regional powerhouse firms.)

Leader or Laggard? (There's No Such Thing as "Average")

In a piece in this month's American Lawyer titled "Turning Point," Dan DiPietro, the head of the Citigroup Private Bank's Law Firm group, provides quantitative financial support for a theory I've long held, that our industry is not just "consolidating" or "globalizing," but that a fundamental and soon-to-be unbridgeable chasm is opening between firms who are dominant winners and the rest who fail to establish critical mass in terms of either scale or prestige.

First, a recap of Dan's analysis:  It's drawn from Citigroup's ongoing survey of 250 firms, including 91 AmLaw 100 and 65 AmLaw second hundred firms.  Essentially, the survey finds that while "average" revenue, productivity, "inventory" (a/k/a "work in progress," or accounts receivable), and margins, are all showing healthy year over year growth, there's an underlying sense of unease among a significant cohort of managing partners—unease over whether these happy trends are sustainable for their firms. 

What's going on?  This sums it up nicely:

"A look at the trends behind these statistics indicates that such anxiety is not unfounded. It shows that the "average firm" is becoming more and more of a fiction. Since 2001, the range in performance among firms has become wider, with a sizable group of highly successful firms outpacing the rest of the industry, and a smaller, but still significant, group underperforming the average. In other words, although the average firm seems quite healthy, fewer firms today are average."

And when you look at the three primary cohorts of firms represented in the Citigroup survey, you find a direct correlation between size and financial health:

• AmLaw 100 firms
  enjoyed stronger across-the-board revenue growth, as well as productivity gains;
• AmLaw "second hundred" firms, by contrast, saw expenses increasing faster than revenues (decreasing margins) as well as higher growth rates in the ranks of equity-partner; and
• Finally, the non-AmLaw 200 firms relied almost exclusively on improved collection cycles for financial health; this is great so long as you can do it, and at a non-trivial level it's merely sound financial hygiene, but it also falls into a category of developments nicely described in the words of my New Jersey-accented high school physics teacher:   "You can't play dis game fuh-evah."

Other changes are afoot in the industry, primarily driven from the client side.  These include "convergence," a/k/a the DuPont Legal Model, a/k/a cutting the roster of law firms a company relies on, as well as the increasing commoditization and concomitant price sensitivity of certain practice areas.  As Dan drily puts it, clients are both becoming more demanding in terms of service quality and exerting higher price pressure:  "It is unusual for these two factors to happen concurrently." 

If any single number encapsulates the industry's increasing bifurcation, it's this:  Taking the 45 firms out of 153 tracked over the past five years that had profits per partner over $650,000 in 2001:

• The top performers have grown PPP at a compound annual growth rate of 16.2%
• Average performers have a PPP CAGR of 9.6%
• And underperformers scored just 3.3%.

And then there's this, speaking to our dear friend, globalization:

• Top performers had, on average, 18% of their lawyers based outside the US by 2005
• The average performers had 16% abroad
• And the underperformers just 8% abroad.

Here we must especially beware confusing correlation with causation.  If your firm is sub-optimally managed, driving a flag in the ground in London or Brussels or Hong Kong is not going to vaunt you into the top tier; but if you are extremely well-managed, you may be better-positioned to navigate the atypical, unforeseeable, unanticipated, and multi-dimensional challenges of operating internationally on a meaningful scale. 

And indeed, doesn't so much of what we're witnessing in this shockingly fascinating period for our industry boil down to the quality of management?  Or, should I say perhaps more wisely, to the quality of leadership? 

I believe the quality of leadership will, over the next decade or two, increasingly distinguish the high-performance firms from the laggards.   Who within your firm is up to it?

Your Post-Merger Checklist

Mergers, globalization, consolidation: I've heard all about it. Time to tell me something new. Is that your feeling?

Then let's talk about post-merger leadership, and what you could actually do to make a difference if the seemingly-inevitable comes to pass.

For starters, the state of the art in corporate-land is fairly highly refined at this point. As McKinsey puts it, integrating two firms following a merger has become a "sophisticated exercise in recent years. Businesses are more disciplined and systematic about identifying and capturing the available synergies. Project tools and techniques are now more subtle and refined." Moreover, senior management is less concerned about wildly overpaying or about ignoring the fundamentals of integration.

The problem is that even mergers that look smart and savvy in the short term—providing real complementary reinforcing strengths, and cost savings—can end up leading to professional defections and eroding client loyalty in the longer run. McKinsey decided to study the problem, and, McKinsey-esque, undertook research:

"Our research, involving a detailed survey of 167 deals and in-depth conversations with nearly 30 CEOs who are veterans of the merger scene, has convinced us that what's often missing is a well-defined, imaginative, energetic, and outward-looking role for the CEO and senior managers."

Permit me to reiterate that point: "a well-defined, imaginative, energetic, and outward-looking role for the CEO and senior managers."

In other words, you matter.

And how, precisely, can you "matter"? What separates the winners from the losers, after the initial cheering has died down and the integration teams have gone back to their day jobs, are rising to these challenges:

• Building—fast—a new senior management team (not to be confused with the short half-life integration teams)
• Crafting and delivering a believable and inspiring "story," since we human beings respond to stories viscerally, and to facts and figures only intellectually
• Insisting on and reinforcing a performance-oriented culture (to avoid the temptation to engage in a period of internal navel-gazing that is death in these circumstances)
• As a complement to the external performance focus, stressing the importance and benefits of the merger to clients, prospective clients, and recruits
• And lastly, and perhaps most subtly, striking the magic balance between speed of execution in integration and lasting time to develop the wisdom to reflect on the value of the newly created entity.

Exhausted yet? Well, guess what: You have no choice but to step up to this particular plate.

Isn't that obvious, however? Perhaps surprisingly, even though it should be blisteringly obvious, in McKinsey's experience with post-merger integration "senior managers so often fail to define a high-impact role for themselves" that they actually had struggle to understand why.

The "most fundamental" reason is that too many senior managers simply don't understand what they can contribute to add real value. The complexity of the task seems overwhelming, and faced with what feels like managing through cotton batting in a fog, these un-visionary managers preoccupy themselves with attending steering committee meetings and dealing with the ad-hoc'cracies as they arise. This begs the question: Why did we think this was such a spiffy idea to begin with?

A second cause of failing to articulate "the vision thing" can be arrogance—most corrosively, arrogance towards your very merger partner. (In which case, look for it to be promptly reciprocated.)

Finally, you can view the post-merger integration as "merely" a technical challenge, best delegated to people lower down the food chain in HR, IT, finance, facilities management, and so forth, who are familiar with all the messy details and protect you from having to get your hands dirty or finding yourself in a position where operational-level ignorance might be exposed.

I personally will never forget the near-scarring experience of asking the two CIO's (jointly, by the way) of two AmLaw 100 firms in the process of a merger what "strategic direction" they had received from the top in terms of what the combined IT infrastructure should look like, and being greeted with a near facsimile of the quizzical and bewildered look portrayed by your faithful dog when you've just said something incomprehensible, but which clearly calls for action on their part. And when the answer inevitably came, of course, it was "no guidance whatsoever."

Job 1, therefore, is to establish a crystal-clear definition of who will be calling the shots at the top, even before the task of implementing the integration begins. This can, let's face it, be the toughest part, but you can brook no indecision or lack of clarity: Ruffle feathers if you must, and get it over with, or else you'll find your firm(s) at sea several months down the road, and not only those who needed to be given bad news will be unhappy, the rest of your partners will be as well.

Real integration cannot be superficial, and differences cannot be glossed over. Again, address them unblinkingly now or face corrosion from the inside later. As one (un-named) manager who'd been through this put it later with chagrin: "For months we were really two teams and we knew it. But we just didn't want to deal with it, so no one raised the issue." And as hard as this can be at the top, the genuine integration needs to go all the way down. Experience seems to demonstrate that the best way to deal with this is to turn people's focus from the internal issues to the external: Clients.

Your indispensable ally in this campaign will be the compelling, unmistakable, logic of the merger itself. ("What?!," you say, "it might not be obvious"? Back to Square One.)

"As UBS president Peter Wuffli (whose global bank has grown on the back of a string of acquisitions) observes, "One of our criteria for a deal was that it had to be strategically obvious�not just explainable but obvious.""

Assuming—perhaps an heroic assumption—that the overriding logic of the combination speaks for itself, your next task is to build a new, and unified, "performance culture." This over-used phrase

is, however, something you cannot avoid. Since you already have a vision of why the new organization should exist (you do have that, don't you?), focus everyone's attention on that goal:

• Avoid us vs. them; it's not about who won and who lost, or who was the acquirer and who the acquiree.
• "Survival of the fittest," or defaulting to what you think is "best of breed," mixing and matching essentially unchanged Lego blocks from each firm, is rarely the answer either
• Your true focus, again, needs to be external, on clients and delivering unparalleled service.

And it starts with you and the senior team. As the CEO of Suncorp puts it:

"You can't just stand up there and tell people what the new culture is going to be. You have to define in your own mind what you want the new culture to stand for, do it for a little while, and then talk about what you have done."

Above all, it cannot be reiterated too often, focus on your clients. Navel-gazing just invites competitors to start poaching. Here's a wonderful phrase that encapsulates it:

As 3Com's Eric Benhamou cautioned, "'Acquiring customers' is a very arrogant phrase. The customer has to want to be acquired."

Which puts us back where we began. Focus on these things, and win merger integration war:

• Your top team
• The story
• A performance culture
• Clients, and
• Learning through the integration itself.

And bonne chance.

Canada's "Law Times" Interviews "Adam Smith, Esq."

Canada-based Law Times is out with an interview of yours truly in its current issue.

When the reporter and I met, some weeks ago here in Manhattan, I thought that through my persistent questions I had learned more about the Canadian legal marketplace than he had learned about me, but the piece is wonderfully written and, I am pleased to report, an extremely fair and professional overview and summary of my thoughts on topics such as:

• The reasons I created "Adam Smith, Esq." to begin with.
• The ongoing transformation of the structure of the legal industry.
• The ineluctable pressures for firms to move towards (but not to) a more corporate-like managerial model.

The reporter's contribution is to provide perspective on the Canadian marketplace today, including these fascinating "comparables:"

"Yet our firms [in Canada] are as large as many of those in the AmLaw 100. Even assuming Canadian law firms bill 20 per cent less than their American counterparts, it's likely a number of the biggest firms have revenues upwards of $400 million. Those figures would put them in the 300th position in terms of the largest companies trading on the TSX, just behind Tim Hortons and ahead of Torstar Corp., JDS Uniphase Corp., and most income trusts. Or it places them as the 184th largest private company, ahead of Citibank Canada, but behind Rockwell Automation.

"With operations like that, I agree with MacEwen that professional management is only a stone's throw away. We're already seeing it in the way law firms have built out their support structures like IT, marketing, and human resources. Better management practices are essential to manage such growing operations."

All in all, Canada is in many ways a microcosm of the US:  The same span of multiple time-zones, the same multi-metropolitan area centers of activity and influence (as contrasted with, say, the UK, where London is the beginning, middle, and end of the story).

How our north-of-the-border comrades evolve will be fascinating to watch.

The State of US Firms in London

In the current issue of Legal Week, you can find both a breathless and statistics-distorting lead editorial, which I commend immediately to your e-dustbin (71% is "almost three-quarters," while 61% is "well under two-thirds"—how about the simpler truth that they're 10 percentage points, or about one part in seven, apart?), but you can also find the illuminating and well-reported underlying piece that portrays the state of US firms in the UK (read: London) ca. 2006.

I bring it to your attention primarily for the time-honored truths the story embodies, albeit unarticulated as such. 

Over 60 US firms have set up a meaningful shop in London, and according to the Legal Week survey, two-thirds report that more than half their work there comes from UK clients, as opposed to servicing US clients on transatlantic issues.  The real question is whether this is true (Legal Week, not shockingly, contends it's not), and the strategic issue is nicely summarized in this anonymous quote:

"There is a real danger for firms that follow the argument that �if we build it, they will come�," warns the London managing partner of one leading US firm. "You have to think very carefully about how you can fulfil an area not already being filled by a UK firm and [identify] where there is a real need for people to come in.

"I am sure every firm has thought through its own strategy very thoroughly, but I am in no doubt that targeting your practice is the way to go. You move outside the areas for which there is real demand among clients at your peril."

Need I add that I agree?

Aside from the obligatory excursion into lateral movements, and who scored which marquee name—Lovells to Weil-Gotshal, Lovells to Dechert, Lovells to Latham & Watkins, Linklaters to Kirkland & Ellis, Allen & Overy to Kirkland & Ellis, Allen & Overy to Simpson-Thacher, Allen & Overy to Skadden, Allen & Overy to Sullivan & Cromwell, Shearman & Sterling to Hogan & Hartson, Shearman & Sterling to Skadden, etc. (think of Legal Week, in this regard, as a mongrel cross between Fortune and People)—we actually have an interesting picture drawn of one of the most competitive legal marketplaces, for both talent and clients, on the globe. 

I glean these highlights from the piece:

• Far more partners are moving laterally from London/City firms to US-based firms than vice versa.  Legal Week posits that this is partly the result of "continued managerial ruthlessness on display at some traditional City leaders," but I'm skeptical that that thesis explains very much.  Why?  The implication is that the weaker partners are being culled by the City firms, but why then would US firms want them?  As a default assumption—meaning until presented with evidence to the contrary—I would imagine it's the stronger, not the weaker, partners who are both in a position to move and who the US firms would welcome.
• Essentially all the US firms anticipate further substantial growth in London—and soon.  80% predict double-digit percentage growth this year, and an amazing one in eight predicts expanding by 50% or more.
• Despite those ambitions, the growth plans are targeted, focused on growing existing practice areas (which means, almost across the board, corporate, finance, and M&A—not litigation or other areas).  In other words, or so we may at least hope, the expansion plans are grounded in a strategic rationale, not a blunt-instrument "bigger is better" approach.
• In one of the surest signs of an enduring commitment to a serious London presence, half the US firms now hire trainees there.  As one unnamed US firm partner puts it, "cherry-picking a few stars to get you going" can only take you so far.  Indeed.

The acid test of success will come, I believe, when US firms start growing, and making, their own partners in London.  At that point we'll be able to say the firms have truly taken root there.

The first half of the report (Akin Gump through Morrison & Foerster) is here.  Bizarrely, the second half is nowhere to be found.

Orrick, Meet Dewey: Dewey, Meet Orrick. Shall We Dance?

It's not our wont to try to "cover" late-breaking news—that's not an arena where I care to compete, nor is it why I think you come to "Adam Smith, Esq."—but just as every rule has exceptions, so today's word of merger talks (confirmed by both firms' Managing Partners) between Orrick and Dewey Ballantine provokes a few observations.

The headline: The common wisdom that elite New York firms will never merge is now obsolete.

The finances: Bode remarkably well for the merger actually happening, and, more important, actually succeeding.  Profits per equity partner are for all practical purposes indistinguishable ($1.23-million at Dewey, $1.24-million at Orrick, per The American Lawyer) and the much-harder-to-fudge and, I believe, more telling figure on a number of scores, revenue per lawyer, is also identical ($780,000 at Dewey, $765,000 at Orrick).

The practices:  Are highly complementary.  At least since being counsel for the Golden Gate Bridge construction bonds, Orrick has been a go-to firm in municipal finance, and, more recently, mortgage-backed and asset-backed securities.  Dewey, as befits an NYC firm, deals from strength in representing investment banks, M&A, and counsel to investment advisors.  While this doesn't mean there will be no client conflicts to be ironed out, it's hard to imagine there being a deal-breaker among them.

The geographic footprint:  Again, all indications seem go.  Consider the four primary loci of economic activity in the world:

• New York:  The combination would have what can only be called a "powerhouse" office of 500 lawyers:  300 from Dewey and 200 from Orrick (NYC already being its largest single office).
• California:  Orrick, needless to say, has deep bench strength here (over 400 lawyers on the Coast) while Dewey has heretofore had no meaningful presence.  A critical-mass California presence being indispensable to a serious global firm, Dewey gains on this score while Orrick helps lead from its strength.
• London:  According to The Lawyer (UK), Dewey's office generated £20.3m in revenue in 2005, while Orrick's office was not in the top 30, at £13m.  But Orrick's pickup of most of Coudert/London is not reflected in those figures, and again, the combination of the two will be very strong.
• Asia:  Orrick, we all know, acquired much of the crown jewels of Coudert/Asia, and in the 21st Century an Asian presence is non-negotiable.

The non-equity partner issue:  Per The American Lawyer, as of late 2005 Orrick had 149 equity partners and 130 non-equity partners last year, or a 1.1:1 ratio.  Dewey had 110 equity partners and 25 non-equity partners, or a 4.4:1 ratio (and, I'd wager, the Dewey non-equity partners are there because they serve niche practice areas whereas most of the Orrick non-equity's are there because they're good people the firm wants to keep on general principles). But this is not in my opinion a deal-breaker:  Accomodations for the greater good can  and will be made.

Bottom line:  This deal makes eminent sense.  Whether or not it  happens—two very strong-willed individuals, Morton Pierce and Ralph Baxter, are, after all, on center stage, which means it ain't over 'til it's over—I stand by my headline:  The received wisdom that no elite New York firm will ever merge is dead. 

Was that nostrum, then, misguided from the beginning?  Yes and no, depending on one's time-frame.  In the less-than-10-year time frame, there's nothing remotely wrong with the elite NYC firms' models that needs to change.  And if  many senior partners' careers will conclude within or shortly after that time-frame, "don't fix what ain't broken."  But farther out, I question the primacy and supremacy of the NYC elite if they remain bound essentially to this island, privileged though their positions be. 

Dewey may be the first, or it may not happen after all, but either way I believe the received wisdom is dead. Long live the received wisdom.

"Superstar Economics" & The Market for Laterals

Using as a "hook" the dismissal of Tom Cruise from Paramount Pictures by Sumner Redstone, today's NYT has a piece in the Business Section (also here for those of you not members of the obnoxious "Times Select"), "A Big Star May Not a Profitable Movie Make," serving as a potted introduction to the sub-specialty of the study of income distributions often referred to as "Superstar Economics."

Most familiar in the worlds of sport and entertainment, it's a well-known phenomenon, and one that economists over the past 20 years or so have devoted some effort to quantifying.  For example, the Princeton economist Alan Krueger found that from 1983 to 2003, the share of concert revenue taken by the top 5% of stars increased from 62% to 84%.  Michael Jordan's impact on basketball viewership—which, since his retirement, could be characterized as "live by the sword, die by the sword," from the perspective of the  NBA—is well known.

But the question the economists and profit-maximizing businesspeople should want the answer to remains this:  Assuming we grant that (usually, most of the time, under general circumstances, etc., etc.) superstars bring in more revenue, does that make the venture more profitable?  Or, do expenses associated with the superstar, primarily his/her own remuneration, capture essentially all the added value they bring, leaving no extra profit for the business?

In law firm land, the issue is what we pay laterals:  In terms of guarantees, up-front bonuses, etc.  By and large, are marquee laterals a good investment for firms, or not?  Do laterals (both individuals and practice groups) add to the recruiting firm's overall profitability, or do they tend to capture the capitalized value of their future revenue streams for themselves?  Do we have enough data to make any convincing generalizations?

About a week ago, a partner in an AmLaw 10 actually posed this question to me in an email, and I had occasion to pursue it with two economics professors, one at Northwestern's Kellogg Business School, and one at Chicago's Business School.   Essentially, one responded that while it was "a VERY interesting question, I don't have the answer to it," and the other, "Good question.  I am afraid that my data don't let me investigate it."

But even if they didn't have sufficient data to nail the answer, we engaged in a highly informative colloquy, referencing among others the Scottish economist David Ricardo (1772—1823), who made a fortune as a stockbroker and loan broker (dying worth over $100-million in today's dollars) after his family disinherited him for marrying outside the Jewish faith.  Coming to economics only in his 30's, after having read The Wealth of Nations, he's best known for his theory of comparative advantage, the basis for every sane economist's core belief in free trade.  ("Comparative advantage," while a wondrous concept, is a bit far afield from our discussion today to go into; but we may some day.)

The other seminal notion Ricardo gets credit for is the somewhat obscurely, or misleadingly, named "theory of rents."  In economics lingo, "rents" are simply above-normal returns, having no necessary connection whatsoever to landlords and tenants, and Ricardo's theory helps explain who "captures" the above-normal return.  (Ricardo simply happened to develop the notion in the context of what farmland would rent for.)   The theory is simple:  Since a bushel of wheat sells for the same price whether it comes from productive fields or unproductive fields, tenant farmers will be willing to pay more to rent an acre of a productive field than they'll pay for an acre of an unproductive field.  (Think:  Law firms will pay more for a rainmaker than a grinder.)

But Ricardo's insight was that the benefit of the supra-normal productive land is not captured by the farmer, but by the landowner.  A rational landowner, free to rent his land to any one of a plethora of potential farmers, will choose the farmer willing to pay the most—and "the most" in this circumstance means about one cent less than the value of the increased productivity to the farmer.   Here's how one of my professor-correspondents put it:

"Ricardo's dictum that rents tend to flow to those with the scarce resources seems applicable. If I am a superstar lawyer, economist, or baseball player, there will be competition for my services and this competition will lead me to appropriate most of the proceeds associated with my production. Law firms might be able to assess these proceeds better than most other firms, but regardless they shouldn't expect to collect much value from bringing in a superstar lawyer who has other, equally good alternatives...."

Absent data, this is more by way of surmise than definitive answer, but I'd be interested in any readers' experiences in this area; I'll report (with or without attribution, as you prefer) anything I learn.  Yes, I know that "three anecdotes are not data," but it appears as if the definitive data-set in this area may not yet exist, so let's get by on what we've got.

Finally, the Chicago economist Sherwin Rosen wrote a paper over twenty years ago called simply "The Economics of Superstars," which has many pregnant observations, including these:

• Economists have known at least since the days of the famous Italian Vilfredo Pareto that the curve of income distribution has a very very long right-hand "tail:"  In other words, if you skiied down the curve of income distribution from its peak at the median,  you would have a short steep descent to the left (all income below the 50th percentile) and a very long gradual slope to its right (income above the 50th percentile).
• To the extent promotion by, or distribution through, mass media is germane to earnings in a given sector, the odds of superstars emerging is reinforced.  Consider:  While there were surely hundreds and hundreds of comedians making a living in the US during the vaudeville era, how many Jerry Seinfelds are there today? 
• Sports, as noted, are another arena providing fertile ground for superstars.  Rosen claims that " The top five money winners on the pro golf tour have annual stroke averages that are less than 5 percent lower than the fiftieth or sixtieth ranking players, yet they earn four or five times as much money."  And a pitcher who can win 20 games in a season is paid far more than what two 10-game winners will earn.
• Another critical factor tending to the emergence of superstars hits home:  They will emerge where "poor talent is an inadequate substitute for superior talent."  (To economists, "substitute" has technical meaning:  It conveys that X is a reasonable substitution for Y, depriving the consumer of no significant value, as coffee might be for tea, or a bagel for a muffin.)  Here, Rosen brings the point to us directly:  "A company engaged in a $30 million treble-damages lawsuit is rash to scrimp on the legal talent it engages. Stockholders and directors would look askance at hiring mediocre talents under those circumstances."

This all begs the question of equity, does it not?  Indeed, as Rosen so concluded over 20 years ago:

"Is all this fair? Probably not, Few people grow to be seven feet tall, never mind with the agility of a cat. Fair or not, it is the necessary and natural outcome of the unusual technology with which we now live. The distribution of rewards would look much different if modern technology did not admit such large economies of scale, but it is by no means obvious that society as a whole would be better off without it.

"The sums earned by first- and second-rank stars today are sources of envy and disgust in some quarters and give rise to mumblings about crass commercialism and the evils of cutthroat competition. In my view, a more balanced perspective is possible once one understands how technologies that sustain such sums have at the same time reduced the relevant real pr ice and cost of these services to consumers to remarkably small proportions compared with earlier days.

"Bringing back the good old days of restrictive reserve clauses and stock-company movie star contract systems surely would reduce the incomes of those stars. It just as surely would simply transfer the gains to club owners and producers because it would do nothing to eliminate the fundamental sources that support them. Because of the technology and the demand, the money is there; the only question is how is it to be divided up."

"How it is to be divided up" is precisely Ricardo's question.

M&A, Meet Strategy

Although the jury may still well and truly be out on whether the consolidation wave among AmLaw firms:

• (a) is just getting started;
• (b) has already crested;
• (c) is the smartest thing firms could possibly do in our increasingly globalized and client-centric world;
• (d) is a baneful surrender to imaginary "market forces" that those following the lemmings will come to rue, which will all come to tears; and/or
• (e) is a heck of a lot less than it's cracked up to be [choose one or more],

the practical reality remains that there are good and bad ways to execute mergers, and if you're in the game you want to play to win.

Summon McKinsey.  (The original piece, or try this.)

What do, in their words, the "Habits of the Busiest Acquirers" reveal?  The following "help, but do not guarantee, success:"

• assembling a worldclass M&A team,
• modifying the organizational design of the acquiring company, and
• adding systems to smooth integration

But these amount to the litany of the usual suspects.  If they're not the answer, what does matter, then?

First, a word (actually, quite a bit more than a word) about McKinsey's methodology.  It was typically rigorous.  This is what they did:

"Of the top 75 US companies by market capitalization and the top 75 by revenues as of June 2005, 33 had accumulated at least 30 percent of their market value through acquisitions. The executives most responsible for M&A activity at 20 of those companies agreed to sit down for a rigorous hour-long conversation covering more than 100 questions about the organizations, processes, tools, and metrics used in acquisitions and integration. We then compared the activities of acquirers that were rewarded by the markets�those whose total returns to shareholders exceeded the returns of their peer group from December 1994 to December 2004�with the activities of acquirers that were not rewarded during the same period."

So back to the show:  What exactly did they learn? 

This:  It all gets back to strategy.

Here are some bad reasons to merge:

• for sheer top-line growth without regard to how it can be capitalized on in future
• to acquire talented individuals
• to forestall a perceived competitor from grabbing the same opportunity
• for operational reasons, such as looking for economies of scale or synergies between offices in the same cities that could be integrated.

And good reasons to merge?:

• to pursue a well thought-out geographic expansion strategy
• to add one or more specific capabilities (practice areas, industry representation, e.g.) that would be more expensive, difficult, and/or time-consuming to grow at home, organically
• to pursue top-line growth through plugging  holes in capabilities that clients are hungry for.

And, did I forget to mention, "Strategy?"

Here's one way of looking at it:  "Rewarded" acquirers in blue, "unrewarded" acquirers in tan.  And in case the image is too small to read, the bars correspond to, in order:

• add capabilites
• expand geographically
• buy growth
• consolidate
• increase scale
• diversify portfolio [of business lin es]
• innovate
• defend business

What else do we learn? 

"The integration phase of an acquisition is often the time when deals go wrong; some studies blame poor integration for up to 70 percent of all failed transactions."

This strikes me as both true and of questionable value if one's looking for guidance.  "True" because we all know in our hearts and minds that post-merger integration can be the great graveyard in the sky of ambitious deals; but of dubious value for guidance because insurmountable "integration" problems can as easily be simply the telltale sign of a poorly conceived transaction to begin with—cultures that will never match, for example, or key financial metrics that are too far afield to ever be peacefully reconciled.

By contrast, here's something you can act on:

"According to one [successful] M&A director, "Our biggest challenge is to make sure that the corporate M&A team and business unit executives work in concert on an acquisition"�an important insight."

In other words, one of the most important things you can do post-merger is to roll up your sleeves and get the "business unit executives" (read: practice group leaders) involved in making it work.  They need ownership of the post-merger integration phase; you cannot direct it from On High.

Skeptical? Hear this:

"Furthermore, rewarded acquirers were more than twice as likely to involve their business units in acquisitions from start to finish, including origination, due diligence, negotiation, and integration.

"Indeed, while the M&A team's involvement is essential for ensuring that all transactions are pursued rigorously, an M&A team that identifies synergy opportunities without significant participation by the relevant business unit can engender resentment and bring about charges that the team is setting unattainable targets. Many rewarded acquirers therefore say that having business units lead the entire process for a bolt-on acquisition can dramatically improve estimates of synergies�and the likelihood of capturing them."

Finally, here's another curve-ball that reinforces the precise point that the "M&A team" and the "business units [practice leaders]" must be joined at the hip:  It turns out that it matters a lot how well your M&A team leader (your Chief Strategy Officer, anyone??) knows your own firm:

"M&A executives at rewarded acquirers had significantly more experience at their companies, albeit in different roles (Exhibit 2). The fact that an M&A executive at a rewarded acquirer has a deeper knowledge of the culture, people, and capabilities of the company undoubtedly helps the executive to navigate corporate politics and identify targets that truly address a company's needs. It also ensures support from key people in the business units."

So here's my takeaway.  Merge:

• to follow your strategic goals, not to follow operational goals
• to build on your existing strengths, not to shore up your weaknesses
• because the transaction truly fits into your long-term vision for your firm, not because it would kneecap a perceived competitor or grab some talented individuals.

And post-merger, integrate, integrate, integrate:  Not from the top down, but from practice groups up.

Good luck.

Are You "Making" Your Times, or Are They Making You?

As regular readers know, I subscribe to the "people make the times" theory of history rather than the "times make the people" theory.

Today's lesson features Greg Jordan of Reed Smith, who recently engineered the merger of his firm with Richards Butler of London, and who, according to The Lawyer, is the "one man who can pull it off."

Start with these numbers, showing percentage change over the last five years (and this year's PEP):

	Firm A	Firm B	Firm C
Lawyer Headcount	+64.6%	+53.2%	+119%
Gross Revenue	+90%	+83%	+289%
Profit/Equity Partner	-7.1% ($720,000)	+35.2% ($955,000)	+139% ($800,000)

All of these are top AmLaw firms, and I will also tell you that all three have made serious strides on the international front in the past five years.

Any guesses as to the identities?

• A = Jones Day
• B = Mayer Brown
• C = Reed Smith

As The Lawyer puts it (emphasis supplied), admittedly Reed Smith is growing off a smaller base:  "Its PEP has only just overtaken Jones Day and lags behind MBR&M. But Reed Smith is closing the gap - and it has momentum."

Part of Reed Smith's secret weapon is simply Greg Jordan, the managing partner.  Did you make the Wheeling, West Virginia connection before reading it here?  (I confess that while I knew it as a fact, I never connected the dots.)

"One of the things that Reed Smith has going for it is Jordan himself. If you ask senior Richards Butler partners why they think the combination is a good one, it always comes back to Jordan.

"Jordan grew up in the small town of Wheeling, West Virginia, as did Orrick Herrington & Sutcliffe's charismatic chairman Ralph Baxter, and both share that evangelical zeal for their firms that has been essential as they globalise. Indeed, Jordan acknowledges: "Ralph is a great leader and role model for me.

Compare Jones Day and MBR&M: Quick—name the US heads of either firm.   Sorry, they're not in my Rolodex either.   Now, anonymity isn't the worst thing:  But making serious strides across the world stage requires rallying the troops and making every one understand what the game is and why they should feel (and behave) as if they're on a winning team. As Jordan puts it:

"You can't underestimate this. The enthusiasm and excitement of this change does cause people to be fully re-energised and we expect to see that in both firms.

"Secondly, there is already, even before the vote, an influx of new business. The new business that the combined firm attracts as a result of the combination tends to be at a higher value level.""

His infectious enthusiasm comes through even off the printed page.

Michael Pollack, Reed Smith's chief strategy officer (who is relocating his family to London to oversee the integration), observes wisely—but how many others actually walk this talk?—that "neither firm is necessarily better than the other.   Sometimes we use the Reed Smith way of doing things and sometimes we use the other firm's way of doing things.  We never come at it with a dogmatic approach."

Few remarks augur better for the merger.

Finally, note they've already bitten some of the hardest financial bullets:

• all equity partners in either firm automatically join the merged firm as equity partners
• all non-equity partners in either firm automatically join the merged firm as income partners
• profit pools will be merged in full as soon as the merger is effective.

Lastly, the line that got my attention more than anything in the entire piece is buried nearly at the end, when Richards Butler Chairman Paul Johnston says:  "The executive [committee] is on the back seat.  It's a check and balance to the management team, which makes the decisions.  It just ratifies those decisions."

Imagine that model!  But with Jordan and Pollack the core from the Reed Smith side, the omens are good.  I'll give Michael the last word:

"Greg is clearly the cheerleader, but one of the great things about our management team is that ideas are flying around among us all the time."

Does this sound like your management team?  If not, why not?

As I say, people make the times.  Don't let the times make you.

The Financial Times on "Legal Innovators 2006"

The Financial Times has a special report on "Innovative Lawyers 2006," which I commend to you essentially in its entirety.  It's thoroughly researched, involving soliciting submissions about "innovation" from the largest 200 firms in the UK, establishing an expert panel of judges, and carrying out over 500 interviews between April and June 2006.  In the end, over 300 separate submissions were received from 66 law firms; the FT rounded out the research through canvassing general counsels at FTSE 250 companies for nominations of private practice lawyers they thought stood out on the innovation dimension.

Rigor was the order of the day:  For example, nothing submitted could be more than three years old; the law firm itself, rather than a client or consultant, had to have come up with the "innovation;" and merely excellent practices—which weren't innovative—were rejected.

The highlight/summary article is here.

The Top 10 (the judges' choice) ranged widely, but had in common that no other firm was or had been doing it; that they bent if they did not break the traditional notion of what "business" a law firm is in (for example, Allen & Overy won in the "corporate social responsibility" category for its program of targeted donations to legal aid centers), and they were often the children of single individuals inspired to create something new.  As the FT report drily puts it, "law firms have no tradition of R&D."

Some of the other key insights:

• Since, as noted, many of the innovations were the brain-children of individuals ("mavericks," anyone?), they tend to reflect idiosyncratic views of what's important:
  • Brain Capstick, founder of the London-based top-100 (UK) firm Capsticks (in 1979), started pursuing medical malpractice cases, but in an example of the "poacher becoming the gamewarden," realized he could do better by offering his expertise to help doctors and nurses avoid making mistakes in the first place. 
• Derek Southall of Wragge & Co., formerly a corporate finance lawyer, now leads the firm's strategic development team, and came up with the notion of offering "free" IT strategy reviews to the firm's clients, incorporating the best learning that has come out of the firm's own intranet and extranets.   The FT realized the primacy of technology in this fashion:

  "Technology was the second most subscribed category of innovation. It is ideally suited to the primary nature of the industry, which revolves around processing information to provide advice and build relationships with clients.
  
  "Submissions were ranked primarily on facilitating client needs. �Rather than looking at how they use the technology internally, law firms should focus on using it to enhance the client-service experience,� advises Richard Susskind, a consultant in legal technology."

• Also at Wragge & Co., in recognition of the fact that the employment law market is more cost-sensitive than some other areas with “large employers demanding more law per hour from their advisers," they have done all they can to commoditize case-handling in this area, allowing the use of more junior level lawyers.  According to Wragges, "it has increased success rates to about 99 per cent, and reduced costs by up to half."

Still, for my money, the major "innovations" the FT discusses are important, ground-breaking, and merit attention.

This cannot be, or cannot remain, the case:

"The head of legal at a FTSE 250 company went silent for a few minutes when we asked him to mention an innovative lawyer he had used. Then he said he did not think it was possible for lawyers to be innovative."

Indeed, Allen & Overy dedicated an entire day at its last partners' retreat to the issue of in novation, and David Jabbari, their global head of know-how, says that innovation "is critical because it is the only tangible way we can demonstrate our thought leadership to clients."

And the focus is on clients, not internal:

"Five out of the nine categories of the report are �client-facing�. Law firms which merited a �stand-out� ranking for client service, legal expertise, value for money, billing and IT claim they have shown that their innovations have had real and lasting impact on their clients."

For example?  Well, Brian Capstick has changed the way hospitals attend newborns, lowering birth defects, lowering miscarriages, improving infant health.

Norton Rose is working on "Takaful" insurance products, which are Sharia-law compliant and will potentially allow the 20% of the world's population which is Muslim to have access to insurance.

Mishcon, a mid-market London-based commercial firm, has pioneered the "Tulip" service, essentially a program to help trademark owners fight against counterfeiting; it aims to “turn losses into profits” by attempting to calculate the amount of the ill-gotten gains of counterfeiters so that the brand owners can (a) decide whether the infringement claim is worth pursuing; and (b) have a colorable basis for damages from the start.

 Why aren't more firms being innovative?   The well-known Richard Susskind, author of The Future of Law, puts it nicely:  “It’s hard to convince a room of millionaires that their business model is wrong.  They like the idea of innovation but want it on a plate.”

Finally, the most fascinating aspect discusses innovations in management of firms.

This is how the FT (kindly) introduces the topic:

"[L]awyers have never been at the forefront of management thinking, and that has made this category particularly difficult for deciding the rankings. Examples of innovative management projects were relatively thin on the ground, but some did stand out."

The difficulties, familiar all, are:

• The era of the gorilla rainmakers ascending to the helm, while rapidly waning, are not yet entirely gone.
• The intrinsic nature of a partnership involves a core component of democracy.  If not pure Athenian democracy, then at least "consensus" is a core value; but a $500-million or $1,500-million/year enterprise simply cannot be run along democratic lines.
• For now in the UK, and for the foreseeable future in the US, non-lawyers cannot be granted equity in a firm, so retention and recruitment of the highest-caliber "C[X]O" people becomes an issue.

The best news of all?  There is a series of firms that won Innovation Awards.  And, the more attention this gets in the world writ large, and the more clients attend to it, the more we'll be challenged to ask why, just because it was done that way yesterday, we should do it that way tomorrow.

Who knows?  Imagine the law firm that creates a Director of R&D.

"Human Spirit Desires to Embrace Change:" Need Lawyers Apply?

Guess the speaker (hint:  London-based Managing Partner of a firm you've heard of):

"Over a 10-year period the impact of rationalisation by industry sector has been dramatic.   In the banking sector, 28 major institutions reduced to eight, in pharmaceuticals 33 to 13 and among mid-tier law firms in London 16 to 11.  Consolidation of clients and legal services providers has happened, is happening and will continue to happen."

OK, it's Roger Parker of Richards Butler. 

And this is apropos what exactly?  His telling the background story behind their merger with Reed Smith.   What's impressive is the forthrightness and optimism with which Parker, and Richards Butler, approached this "rationalisation" (a/k/a consolidation).  Where many managing partners, or firms, might view this with trepidation, uncertainty, and hand-wringing, Parker saw it as an "exciting" opportunity and embarked on a concerted three-year campaign to position Richards Butler for a merger.

How does one do that?  The same way one manages any business to make it more attractive to suitors:

• monitor costs relentlessly
• clean up the balance sheet
• improve cash flow (by, e.g., accelerating billing and collections and improving the quality of receivables)
• insist upon, and enforce, a clearly articulated strategic positioning.

The last may be the hardest, as it requires consensus among the partnership to establish and genuine discipline to carry out.  But Parker is clear that "rapid revenue growth without focus on strategic positioning [can harm] the quality of earnings, potentially a long-term issue" (emphasis supplied).

We also learn how Parker and his colleagues approached the all-important issue of the cultural challenges that a potential (now, actual) merger could pose.  Make no mistake:  The financial "hygiene," specified in the bullet points above, is a necessary but by no means sufficient condition for a firm intent on merger to meet.   Those are things that, in any well-oiled firm, should be practiced as a matter of routine.

The make-or-break challenge is, rather, the cultural one.  What does Parker have to say?  Note his nuance:

"We embrace debate but it must not be the seed of discontent and distrust. Management has a duty to lay out its thinking and plans and to answer questions. Abuse or shorten this process and debate becomes a harbinger for division. Division turns into rift.

"But debate must be managed. A major international merger is, for any business, a seismic shift."

And the key to "managing" debate is to rigorously keep one's eye on the business issues, and not the subjective, emotional, gremlins that can affect rational decision-making.

As Parker puts it, "business concepts can become clouded by subjective thought:"  Suddenly a merger is no longer a major milepost in the execution of a long-term strategic plan, but instead it represents a "loss of control," a "loss of independence," a "takeover." 

Parker will have none of it.  Consolidation is the order of the day; all ahead flank:

"Be in no doubt: the game is worth the candle. We have chosen to partner with a dynamic and well-led organisation that shares a common vision of the impact of the globalisation of legal services, is culturally compatible, has a track record of making mergers work and gives us reach and investment resource to fuel our global ambition.

"Most important of all, we create opportunity for our people and our clients. Human spirit desires to grow and embrace change and the uncertainty and challenge that it creates. As one of our paralegals commented: "We can work with new ideas and new people.""

Are we listening to a lawyer here?

"Human spirit desires to grow and embrace change and uncertainty"??

Yes, we are listening to a 21st Century lawyer—in a larger, more capable firm on a carefully thought out, realistic 21st Century trajectory.

Nigel Knowles on DLA Piper Rudnick Gray Carey & Harvard Business School

"As global law firms begin to take on the size and reach of some of the world�s most notable multinationals, it is not unreasonable to assume that they should be run with a more commercial management structure."

—Nigel Knowles, Joint CEO of DLA Piper Rudnick Gray Cary, writing in Legal Week.  

This is prelude to Knowles describing the week-long executive education immersion program DLA Piper organized in conjunction with Harvard Business School last October.   It's a ground-breaking program, as is Reed Smith University, and I've written an article to be published soon in a variety of media about "Innovation in Law Firms," citing both DLA Piper's initiative and Reed Smith University.  [Regular readers:  Stay tuned—you'll see it here first.  And non-regular readers:  Here's a reason to become a regular, or subscribe to my monthly newsletter at the very least.]

But back to DLA Piper's post-merger integration issues, and why should we care, with or without Harvard Business School's involvement?

Essentially, Knowles and his colleagues at the top of DLA realized that, while law firms may excel at developing—or at least at throwing out those who don't develop—leadership and business generating skills, we've entered a new era.  It's no longer sufficient to promote the gorilla rainmakers or (conversely) the non-controversial glad-handers to the executive committee. 

Firms that want to play on the national or the multinational stage today need to develop leaders, on purpose.  It does not tend to happen by accident, at least statistically speaking.  And I assume you do not want your firm to be a statistic.   Knowles again:

"One of the major personnel challenges for law firms is identifying and nurturing its potential leaders. The identification is often easy, but turning these talented legal professionals into the corporate management of the future is less straightforward."

The DLA Piper/HBS collaborative retreat lasted a week and ran from 7:30 am to 8:00 pm or later, and included 56 senior people, including the joint chief executives and senior partners from 11 different offices in nine countries.   If nothing else, this demonstrated the firm was putting its money where its mouth was.

Topics?

• developing strategy and aligning the firm to achieve it;
• professional development (in alignment, to be sure, with the firm's strategy);
• leaders, culture, and managing change;
• and all of the above capped off by and illustrated, made concrete by, business case studies.

My view?

The DLA Piper Rudnick Gray Carey merger is perhaps the most audacious of the last five years, if not longer.  They have an "integration" challenge beyond the scope of what any firms have previously tackled.  Given lawyers' instinctive immune-system response rejecting the foreign antibodies of professional firm management (read:  HBS), one should, by rights, be skeptical.

But I'm actually a believer; I think they'll pull it off, and that they'll set a new bar by doing so.

What's your bet?

Strategy Formulation "In an Unknowable Universe"

Eric Beinhocker, a fellow at the McKinsey Global Institute (a "think tank," in the oddly quaint but apt phrase), is out with what may be one of the most provocative books on economics in several years—though admittedly I haven't even seen a copy yet.  "The Origin of Wealth:  Evolution, Complexity, and the Radical Remaking of Economics," essentially discards the physics-like analogies of classical economic theory, premised on a closed system eternally in search of equilibrium, where change is assumed to be an exogenously generated disruptive shock, for a biology-like analogy of internally-generated evolutionary change and complexity.  As one early reviewer put it:

"[H]e outlines an open, adaptive system with interlocking networks that change organically, reflecting the interaction of technological innovation, social development and business practice. Wealth is created to the degree that this interaction decreases entropy in favor of "fit order" that meets human needs, desires and preferences."

In an excerpt over at HBS' rich Working Knowledge site, Beinhocker explains what applying this template to the exercise of strategy formulation might mean.   To paraphrase, the challenge is how to create strategy "in an unknowable universe."

Strategy formulation is a favorite topic of mine, because I view it as both absolutely indispensable and typically botched—or, to be more diplomatic and probably more precise, misunderstood.  As I've noted, it's not an exercise ex cathedra intended to produce a document for the ages, but rather a continuous discipline of being truly attentive to the marketplace and the larger economic and legal environment, and ensuring that your firm is light enough on its feet to respond to perceived potential opportunities with agility.

What is "the marketplace?"  Actually, there are two that really matter to your firm:  The "supply" marketplace of law school graduates, lateral recruits, and conceivably merger partners; and the "demand" marketplace of clients and industry sectors.  An example from each:  Given that the number of lawyers in the AmLaw 100 has roughly doubled in the past ten years, while the number of graduates from, say, the top 30 law schools is essentially unchanged, what are you going to do differently about recruiting first-year associates?  Or, what does the ascent of the biotech industry mean for your practice group mix?

As far as responding to potential opportunities:  I'm of the view (so, evidently, is Beinhocker) that it's smarter and more effective and safer to place a large number of little bets rather than a few big bets.   As he puts it:

"Rather than thinking of strategy as a single plan built on predictions of the future, we should think of strategy as a portfolio of experiments, a population of competing Business Plans that evolves over time."

Another way of thinking of this "population of competitors" is as a portfolio of options—and I expect, and hope, that Beinhocker's book will be devoured by professional investment and money managers.  

But let's make this concrete, which is exactly what Beinhocker does with a fascinating retrospective analysis of what Microsoft did between 1987 and 1990 as MS-DOS came to the end of its natural technological life-cycle and the next generation of multi-tasking, graphically-oriented Operating Systems were vying for supremacy.

Start simply by recalling that while the Galactic Redmond Empire seems firmly entrenched today, in 1987 Microsoft was a relatively minute $346-million company looking down the barrel of at least three well-funded and hitherto successful competitors:  Apple, with its elegant and very well-received Macintosh; IBM, feverishly working on OS/2; and a consortium of AT&T, Xerox, Hewlett-Packard, and others, pursuing a new flavor of Unix for the desktop PC.

Beinhocker takes over from here (emphasis supplied):

"We can imagine the options that Microsoft faced at this point. Option one: Gates could make an enormous "bet the company" gamble by investing in building a new operating system called Windows and attempt to migrate his base of DOS users to the new standard, ideally before a competitor would reach critical mass with its own system. Option two: He could exit the operating-system part of the market, cede that to his larger, better-funded competitors, and instead focus on applications for which Microsoft's small size and nimbleness might be more of an advantage. Or, option three: He could sell the company or otherwise team up with one of his major competitors. While Microsoft would lose its independence with option three, such a move would probably tip the balance of power in favor of whichever company he chose to partner with.

"All these options would involve big commitments to hard-to-reverse courses of action and involve major risks. The conventional wisdom is that Gates chose option one, and the big bet paid off, enabling Microsoft to continue its dominance of desktop operating systems and spend the next decade fighting antitrust regulators. But that is not actually what happened. What Gates and his team did was much more interesting�they simultaneously pursued six strategic experiments."

In other words, rather than consulting the usual Delphic oracles (McKinsey, to be sure, among them) for the one unitary vision of the future, Microsoft launched a series of  competing business models and watched their adaptive success, reflecting twists and turns in the computing marketplace, until it became apparent that Windows 3.0 had evolved into the most "fit" and deserved prominence.

The temptation from nearly 20 years on is to ask, "How hard was that?", but at the time Microsoft took it on the chin from investment analysts, the business press, and even some of its own baffled employees.  "Can't Gates make up his mind?"  "How can I be competing with a group down the hall?"  "Microsoft has no strategy; it's adrift."

In my experience, the only way to make the strategic exercise real, to give it meaningful traction on the front lines, is precisely to prepare for an array of uncertainties.  Rather than declaring, "It would be great if we could acquire Firm X," learn everything you can about Firm X (and ideally Firm Y and Firm Z as well) so that if it looks as though Firm X would entertain an overture, you have already analyzed and envisioned what that would mean and are in a position to move faster than anyone else.

This Beinhocker story explains what I'm driving at:

"I once worked with a very gruff, pragmatic senior executive who claimed not to believe in strategic planning, saying that it was a bunch of "pointy-headed nonsense." He was also very successful. [...] One day, I saw the advance materials for a strategic planning off-site and noticed that the analyses prepared by this executive and his team were by far the best in the binder.

"The next day, I asked him, given that he had claimed not to believe in strategic planning, why he and his team had put so much effort into the analysis. His reply was, "I don't believe in planning. I do this so that we have prepared minds."

The only trouble with this is that it's hard work.

More than hard work, it requires you to get your senior people together for day-long mano a mano sessions discussing their alternative visions of the future.  Those discussions:

• need to proceed from facts and figures, not just opinions and predispositions;
• and that background material should be assembled and prepared by the senior people; while underlings and consultants can help, the selection and presentation of what's deemed relevant needs to be done by the decision-makers themselves; and lastly
• the ultimate purpose is to learn. It's not to decide on budgets or proposed headcounts; it's to explore, debate, analyze, and ultimately to generate a population of experimental mini-business plans you can unleash into the ecosystem and see which grow and which wither.

After all, it's biology, not physics.

What the "Efficient Market Theory" Has to Do With Where Your Firm Should Be in Five Years

Occasionally an article lies so irresistibly at the core intersection of economic theory and the professional interests of the "Adam Smith, Esq." community that,  despite the fact we are not here for a graduate seminar in economics, it simply demands to be featured.

Yesterday the WSJ had precisely such a column on its Op-Ed page under the byline of Henry G. Manne, dean emeritus of the George Mason University School of Law.

It's about behavioral finance and, at least as a "hook" for reeling in the WSJ readership, the argument for legalizing insider trading, expressed thusly at the conclusion of the piece (although that's really not what it's all about:

"We should rethink any current policies based on a view of pricing in which we exclude the best-informed traders and discard the wisdom of the many. For instance, we now have a new and more powerful argument than we had in the past for legalizing most insider or informed trading."

So I've told you what I think the piece is not about; what do I think it is about?

Primarily, the difference in economic analysis between Aggregate and Marginal behavior, and also, which is clearly more germane to readers of "Adam Smith, Esq.," the value of predictive markets.

Aggregate vs. Marginal behavior first. 

Mannes poses the fascinating question why, if "close approximation of the efficient market theory is still the most accurate and useful model of the stock market that we have," it's nonetheless the case that "the market-model claim of rationality often does not comport with actual human behavior."  How, in other words, to square the many many vindications of efficient market theory (the celebrated inability of mutual fund managers to beat the relevant averages over time, for example) with that theory's core assumption that investors behave rationally, when we know by simple cocktail party conversation that such an assumption is laughable?

Attempting to answer this (which, in your author's humble opinion, he doesn't finish doing—but there's a promised second part to the series), Mannes points to this as "containing the start of an answer":

"[I]n F.A. Hayek's classic "The Use of Knowledge in Society" (1945), Hayek (addressing the then-pressing problem of countering socialist doctrine) made the astute observation that centralized or socialist planning can never be economically efficient because it was impossible for a central planner to accumulate all the information needed for correct economic decisions ("correct" in the sense of displaying efficient market allocations of goods). The critical information, he noted, is too scattered in bits and pieces throughout the population ever to be assembled in one person's mind (or computer). Diffused markets, on the other hand, function well because the totality of relevant information, even subjective preferences, can be aggregated through the price mechanism into a correct market valuation.

"This insight of Hayek's has been a mainstay of market theory ever since it was advanced, but it remains merely an observation and a conclusion. It does not detail how new information gets so effectively impacted into the prices of goods and services. In other words, how does this "weighted averaging" get done? And why should we assume that the impact of rational participants would dominate that of irrational ones in markets?"

Mannes' answer is, essentially, to cite the thesis of James Surowiecki's "The Wisdom of Crowds," and its near-cousin, the value of prediction markets.

Why is this germane? 

Because (emphasis supplied):

"The literature on prediction markets makes clear that the more participants in a contest and the better informed they are, the more likely is the weighted average of their guesses to be the correct one. That is true, ironically, even though the additional participants have even less knowledge than the earlier ones. The only requirements for these markets to work well are that the various traders be diverse and that their judgments be independent of one another."

Back to "Adam Smith, Esq.:"  Why would your firm not create internal (or even external—what a concept!) prediction markets in areas such as which practice areas are expected to grow or to contract, where the firm should expand or dial back geographically, and which client industries/groups will be healthier or weaker in five years?

I would love it if you would hire me to make those predictions for you, and I certainly would enjoy walking through the thought process with your firm—but I am humbled by the new learning in economics, Mannes' article included, which instructs us that asking your partners, associates, staff, and even clients, what they "predict" is going to happen may be the most telling exercise of all.

Are you ready?

Thirty Years of Legal Recruiting

Early last week I interviewed Eric Sivin, a founder and principal of Sivin Tobin Associates, a legal search and recruiting firm based here in New York.  (And yes, that is their ad that has been running in the right-hand column of my site for a couple of months now—but this piece is not motivated by or part of any commercial considerations whatsoever; it's an effort to better understand the evolution of legal search from the perspective of someone who's been doing it for over 30 years.)

Eric is on the Board of Directors and Treasurer of The National Association of Legal Search Consultants (NALSC), which describes itself as "the only organization representing the legal search profession."   With 173 member firms in the US, Canada, and overseas, NALSC developed and adopted (nearly twenty years ago) a "Code of Ethics", which members must subscribe to.

Eric did not go straight into legal search, but, after Brandeis and NYU Law School, was a commercial litigator for 10 years, starting at Kronish Lieb.  An active intercollegiate debater and national semi-finalist in moot court competition, Eric hoped that being a litigator would allow him to use his skills of rational persuasion in real-life disputes but, as many of us also discovered for ourselves, the life of a litigator in a large New York firm rarely involves actually trying a lot of cases.

When Eric embarked on his career in legal recruiting, the industry was in its infancy.  At the time, there were only seven or eight legal search firms in New York, and very few if any elsewhere; the only work was placing second to fifth-year associates.  Lateral partner hiring was nonexistent.  Even firms that used recruiters for associate hiring did so "holding their noses."

Aside from social customs, also constraining lateral partner recruitment was the relative information vacuum (always an obstacle to markets' clearing efficiently).  The era was pre-The American Lawyer, pre- public information on law firms. 

Eric vividly recalls learning of an opening at a prestigious New York firm for a mid-level litigation associate and calling to ask if he could be of assistance.  When invited to help, he asked about expected salary levels, type of work, and representative clients:  Each and every one of those was "proprietary" and would not be disclosed outside the firm! 

Also, in those pre-Internet days, learning who actually worked at which firm could be like solving Rubik's cube, and the annual publication of Martindale-Hubbell was a red-letter day.  But even Martindale did not reveal all; in many cases, associates were not listed with their firm but only as individual attorneys admitted to practice in New York, in the back of the book.  One would then have to deduce from the office address (say, 919 Third Avenue) what firm they might be with (Skadden).

What a difference a few decades make.

Q.:  When, I asked, did lateral partner recruiting start to become a material part of the business?  A.:  It started to surface in the late '80's, was promptly kiboshed by the recession of the early '90's, and didn't really come into its own until the mid-90's. 

Q.:  Which practice specialties are hot now and which aren't?  A.:  Nothing is hotter than private equity, but securities litigation has been strong for a long time.  Various aspects of corporate law, especially financial services, mutual funds,  '40 Act and hedge fund experts are hot.  Real estate and tax work are just bubbling along, but specialists in tax aspects of real estate investment trusts will always find a home.  M&A is healthy, but not red-hot; and bankruptcy is actually cold, except for firms looking to staff up in the trough in anticipation of the next crest.  And IP, I asked?  IP is very hot; "it's nothing less than the present and future of economic growth," and it's an area where many major firms feel they do not have all the people they need; in other words, the "roll-up" of the IP boutiques by the AmLaw 100 has not completely played itself out.

Q.:  International?  A.:  Very strong; everyone is talking about the far east and China, "even if no one is making any money there."  And the demise of Coudert Brothers had everyone running around to seize opportunities.

Q.:  I assume some firms do lateral recruiting relatively well and others relatively poorly; what are the differences?  A.:  Absolutely!  The key distinctions are:

• Firms poor at lateral recruiting often really don't know exactly what they want or why they want it; they'll take people because their specialty is in fashion or because they come across someone unhappy, but with a nice book of business.  The problem is if there's no strategic fit, which "becomes self-evident during the process as the candidate receives mixed messages."
• Firms also vary in sheer managerial competence; some simply run the search process more effectively than others.  Searches extending out over five or six months or more "are not atypical; inordinate amounts of time go by and people lose interest."
• Some firms don't trust recruiters enough to give them all the information they need to accurately characterize a situation or to keep a candidate informed of where they stand.  A common situation is that of a firm marching almost up to the altar with Candidate 1 only to begin conversations with Candidate 2; and the most popular, if less-than-candid, method of dealing with this is simply to stop returning calls asking where Candidate 1 stands.  "These things happen all the time."
• Conversely, the best searches are when the recruiter and the firm actually work together, collaboratively, to define the position and the opportunity, and to map out what the profile of viable candidates would look like.

Q.:  Post-search, as well, I assume different firms handle the integration better or worse?  A.:  "There are certainly some firms that do this very well.  In the majority of cases, happily, it works out even if the integration is less than ideal—'good enough' does the trick."  Still, in most cases integration is "not done cohesively."  There are many reasons for this; lawyers are busy, they have the attitude that they're "professionals" and disdain "being business-like," there's not a corporate reporting structure or anyone to enforce follow-through on integration.  "Most firms could do a far far better job."

And, considering the amount invested in a search—from what can be an inordinate amount of otherwise-billable hours, to the recruiter's fee, to the reality of their being a three to six-month breaking-in period without any fees being collected—the lack of attention to effective integration is astonishing.

Q.:  Is there activity not on the lawyer side, but on the "C-suite" side, recruiting senior law firm management?  A.:  It's not something Sivin Tobin has chosen to do; we prefer to focus.  But yes, that's an increasingly active area, and firms are getting more sophisticated about the level of professionalism they need in their management ranks.

Q.:  Are dedicated legal search firms such as yours experiencing competition from the Korn-Ferry's and Heidrick & Struggles' of the world?  A.:  Sure, those firms are more interested than ever; let's face it, there's more money at stake.  But Eric doesn't believe they can compete effectively unless they change their fundamental, underlying business model.   They strongly prefer, if they do not simply insist, on doing exclusively retained and not contingency searches.  "You basically cannot do legal search for law firms strictly on a retained basis."  Why?  Because "without the constant contact and flow of information  on who's who, what they're thinking, how they'd respond to a hypothetical scenario, and generally just taking people's temperature," a recruiter isn't in a position to conduct an effective search.  Doing contingent searches ensures that the recruiter is in the marketplace talking to potential future candidates all the time.

Q.:  And the future of recruiting?  A.:  It's getting more and more professional all the time.  "When I started, I think I was the only recruiter who'd really practiced as an attorney," and now that background is extremely common.

---

So what is the economic function of legal recruiting?  Recall that I mentioned the difficulty of markets' "clearing" efficiently in an information vacuum.  The converse of that is that the more accurate, timely, comprehensive, and germane is the information at one's fingertips, the more one actually has a fighting chance of deciding wisely. 

Law firms are not in the business of keeping their finger on the pulse of everyone who might potentially join them some day, but when strategy and opportunity intersect, they need a hasty education on who might be receptive to an overture, how their practice has developed, and whether there might be cultural alignment between the firm and the potential lateral.   Good recruiters provide that essential information brokering function. 

I've remarked before that the dynamics of lateral partner mobility becoming a reality "changed everything," and recruiters are indispensable to that marketplace functioning well.  As such, the Eric Sivin's of the world have a vital place in the ecosystem we all inhabit.

"The Globalization of the Legal Profession" At Indiana U. Law

Globalization of the Legal Profession

Indiana University School of Law/Bloomington
Thursday, April 6, 2006: 8:30am—5:00 pm

As noted, I attended this conference this past week, and I wanted to summarize a few of the highlights of the presentations.

Chris McKenna of the Clifford Chance Center for the Management of Professional Service Firms, Said College of Business, Oxford University reviewed the globalization of the profession from 1950 to 2000, and noted that the "internationalization" of law firms means, at this point, New York and London. 

As an interesting historic footnote, Chris reminded us that from the 19th Century into the 20th, Paris and London vied for power as the financial capital of the world.   (Both Coudert and Cleary-Gottlieb, international pioneers, first set up overseas in Paris, not London.)  And as recently as the 1960's and 1970's, New York firms looking overseas first opened in Paris, only later in London.

Why did Paris lose out to London and New York? 

It now seems obvious to say it's because Paris fell behind in the race to be a pre-eminent financial center, but Chris posited the reason for that failure was the Civil Law—as opposed to the common law—tradition.   Common law permits lawyers (and businespeople) to be far more creative, designing innovative business structures and financial instruments never contemplated by cookie-cutter statutes and legislative mandates.

Chris also presented an interesting empirical finding: The financial performance of law firms that go overseas is an inverted U-curve: It takes a fair amount of investment to go overseas to begin with, so it's not very profitable to begin with (cf. experience of US firms in China so far); likewise, if you overextend (think Coudert), you can spread yourself too thin and run into difficulties with too-disparate profitability between international offices.

Giles Pugh, Professional Services Consulting, London, chimed in that the dominant form of "international" business law today is New York law, conducted in English, and asked whether the European or the US model for global law firms will succeed in the longer run, and described a world of three primary business models for international firms:

Three models:

April 5, 2006

March 17, 2006

March 6, 2006

March 3, 2006

March 2, 2006