In the wake of all the steps taken over the past few years to cut expenses, expectations might be that partner compensation might be stable or even going up again anytime soon.
So let’s be very clear about what may have gotten lost in the webinar discussion last month on partner compensation: after marching up conservatively but reliably for decades and then shooting up wildly from 2001 through 2007, partner compensation is likely to stay essentially flat, if not decrease, over the next decade.
That’s right. Partners are not going to be paid as well–whether in terms of absolute dollars, average dollars, percentages of the pie or even relative to other growing professions–as they have been in the past. The "reset" that is used to describe the transition happening in the law firm industry will also result in a reset of compensation for a lot of partners. And their expectations should follow along.
Here is the reality:
- Flat or Lower Revenues–After increasing at double digit rates for years, total revenues for 2010, 2011 and beyond are projected to remain fairly flat due to flat demand, i.e. no built-in pay raises.
- Lower Leverage–As we have projected and Hildebrandt’s recent guesstimate supports, many fewer associates–perhaps in the short-term only two-thirds to three-quarters of the old levels–will be required to accomplish what law firms need to deliver, so the profits from that old higher leverage will disappear. And firms replacing that cadre of associates with contract-type lawyers won’t be able to realize comparable profits from the new bunch.
- Lower Profit Margins–Even those firms who do continue to hire won’t be able to bill at the old rates (particularly the old cost-plus-37%), thus lowering profit margins overall.
- More Mouths to Feed–The rising tide of non-lawyer professionals in law firms–specialists like the traditional CEOs, COOs, CMOs, and CIOs supplemented with the newer Chief People Officers, Chief Value Officers, non-lawyer Practice Group Managers and the legions of estimators, project managers, discovery managers and litigation managers–will all take a toll on the bottom line. True, their expertise will make it possible to obtain, keep and grow business and deliver products more efficiently, but no one ever promised that efficiency would in the end be more profitable than the old bill-everybody’s-time-and-then-raise-rates approach. It just means you may keep the business you have.
- Increased Low-Cost Competition–Achieving a more business-like approach to the delivery of legal services will hopefully keep firms in business in an environment in which client budgeting pressures would otherwise move their work to a “good enough” option that has a lower cost structure, and is perhaps not even a law firm.
- More Top-Heavy Firms–Baby boomers with their boots on trying to rebuild their portfolios, the ABA recommendation to eliminate mandatory retirement, and the Kelly Drye & Warren and Sidley Austin discrimination decisions chilling reduced compensation and other prods to retirement based on age are going to increase the number of seniors in your firm.
- Increased Spread–Of course, among those people at the top are ones that your firm wants to keep. And if you don’t give them a high enough compensation, they are quite able and increasingly willing to move to another firm (perhaps with a chunk of their group), particularly if they are in high-demand/high-profitability practices. Before the recession, the average spread in high-to-low compensation in a firm was typically 5-to-1. Often it’s now 10-to-1, or even 12-to-1. Which means that the other partners’ compensation goes south and (law) class warfare intensifies, with a significant hangover effect on senior associates wanting to move up. See Barbarians at the Partnership Gate.
- Weakened Infrastructure–Infrastructure is unfortunately the casualty of all that cost-cutting that was supposed to keep partner compensation up. In the long run, firms are weakened and then are at a tremendous disadvantage when they try to be responsive to new revenue opportunities, usually as they simultaneously try to rebuild internally from a barebones platform.
Of course, there will assuredly be those partners in the years to come whose star will rise and who will recognize significant increases in their compensation. It’s the average junior and mid-level partner who will be most impacted by these trends.
Don’t look to PPP (Profits Per Partner) to see evidence of this phenomenon. As we have noted, the calculation of and reporting of PPP is a separate issue, one that is amenable to manipulation and will also likely decline in use or transform over the next few years.
So even if your firm is able to maintain respectable revenue stability or realize some growth, it is still likely that most partners will see their compensation lower, stagnate or certainly rise at a much lower rate than during the last decade due to lower leverage, lower profit margins, more hands in the till, more low-cost competitors, more and higher-comp senior partners staying in the firm and the costs of working from a weakened infrastructure.
What to do? First, rebuilding, even at the expense of short-term profitability, the firm’s critical resources is essential. Then take a long hard look at each partner’s goals and delivery. Firms tend to make the calculation of who should be partner and then, once those partners are made, leave them be. Making partner feedback–from above, across and below–coupled with targeted partner education and coaching an annual staple of your professional development program will insure that each partner is contributing and will help those partners who can make a bigger contribution to firm progress.