Law Firm Succession/Exit Strategies
By John W. Olmstead, MBA, Ph.D, CMC
Ideas for Getting Started
Law firm succession and exit planning is one of the hottest management challenges facing attorneys whether they are partners in a law firm, a sole owner of a firm comprised of other employed attorneys and staff members or a solo attorney in practice with no other attorneys in the firm. We receive at least ten calls a week on succession related issues.
Failure to proactively manage succession and plan for the exit of senior attorneys often results in:
- Loss of senior legal talent and leadership
- Loss of key clients
- Unfunded retirement for partners/owner
- Failure to protect family wealth in the event of unexpected life changing events
- Failure to protect partners, employees and clients from unexpected life changing events
- Inability of firm owners, especially founders, to effective capitalize on goodwill & sweat equity built up over the years
- Defections and firm breakups caused by younger lawyers unwilling to finance departing partner buyouts from future earnings
- Turning out the lights and closing the door with little or no compensation for the goodwill of the practice
The Demographics - Unprecedented Number of Successions
The pending retirement of the baby boomer generation and the unrelenting challenge of finding and keeping talented staff can have grave consequences for law firms that fail to develop a succession strategy.
According to a 1995 American Bar Foundation Lawyer Statistical Report the number of bar admissions has been consistently around 30,000 each year since 1977. Further, the number of lawyers by age reached 30,000 for lawyers under 50. Those lawyers in 1995 who were in their late 40s will be reaching retirement age between 2010 and 2015. Law firms have a larger population of lawyers in their 50s and 60s that will be approaching retirement and must develop strategies for transitioning their legal and leadership skills as well as their client relationships and market presence. Since many clients advise us that they “hire the lawyer” individual relationships is the key component of client relationships and firms or solos must find ways to cross pollinate and successfully transition these relationships. This takes effort, time, and commitment.
Within the next 20 years, more than 90 million people (baby boomers) in the United States and Canada will be retiring. Economist and demographic expert Robert Avery, at Cornell University, predicts that baby boomers will transfer $10 trillion to later generations- the largest generational transfer of wealth in the history of humankind. The vast majority of this wealth is held as stock in more than 12 million privately owned businesses, and during the next 10-15 years, more than 70% of these companies are expected to change hands.
Many small and midsize law firms are setting up formal succession plans for the simple reason that their founding partners are nearing retirement age. The founders want to ensure that their firms:
- Have the leadership and manage ment in place to continue on to the next generation.
- Are able to retain existing client and referral relationships and sources of business and revenue for the firm.
- Are willing and able to finance their buyouts.
Part of the move to formal succession plans is a result of the aging of the baby boomer generation.
Sixty-five percent of law firms’ equity partners are in their late 50s or early 60s. Over the next 10 years there are going to be a lot of successions.
Succession is not limited to a single course of action. It involves evaluating different aspects of the firm and identifying systems, processes and policies that need improvement in order to position your firm or practice succession regardless of your exit strategy. Options for succession typically include:
- Selling or merging the firm or practice
- Internal transition
- Practice continuation with other firms
- Turning out the lights and closing the practice
The ABA and other industry sources estimate that less than one -third of multiowner law firms have succession plans. While more and more firm are aware of the need to plan many are yet to accomplish the goal.
Typically law firms that have succession/exit plans have in place executed partnership agreements, buy-sell agreements, and other documents that govern how the retirement or withdrawal of a partner is handled.
Since the firm must not only replace a partner’s legal skills but also must transition leadership and management skills as well as client relationships - discussions related to retirement should occur sooner rather than later. Effective transitions take time and commencement and implementation should be on a five year timeline. Questions that should be addressed are:
- Life events that will trigger part ner withdrawal and methods for handing each
- Should there be a mandatory retirement age
- At what age can a partner voluntary commence a wind-down program
- Funded retirement plan
- Mechanics of a wind-down program
- Management and leadership transition plan
- Client transition plan
- Of-Counsel arrangement after wind-down or retirement
- Payment for ownership interest – buy-ins and buy-outs
- Funded or unfunded buy-outs
- Workload transition of departing partners
Sole Owner & Solo Practices
Sole owner firms and solo practitioners have even a more dismal record concerning succession/exit planning. While many of the issues are similar to those faced by multiowner firms sole owners and solo practitioners must also face the following additional challenges:
- Identifying another attorney in the firm to move into a partner ship position
- Locating colleagues to sell the practice (Check ethics guidelines in your state)
- Locating merger candidates (Check ethics guidelines in your state)
- Effecting the sale or merger of the practice (Check ethics guidelines in your state)
- Proper wind-down of the practice if the practitioner decides to simply “close the doors” (employees, client files, etc.) (Check ethics guidelines in your state)
As with multiowner firms the key is to start early and not wait until the last minute. We suggest that you put in place your succession/exit plan as soon as possible – not just for retirement but for unexpected situations as well – so that your family, employees and clients are not left in the dark if something should happen to you.
Ideas for Getting Started
IDEA #1: Stop giving succession lip service – if you are serious – put in place organizational systems that will facilitate the process.
IDEA #2: Put in place a firm strategic plan that incorporates a succession plan.
IDEA #3: Host a partner brainstorming retreat to address key questions surrounding your firm’s plan and identify a course of action that will be supported by all.
IDEA #4: Make long term plans for the firm.
IDEA #5: Insure partner accountability.
IDEA #6: Implement funded retirement plan for partners and other employees in the firm.
IDEA #7: Consider Key-Personal life insurance to fund buy-out of ownership interests of partners that die or are disabled.
IDEA #8: Execute partnership and buy-sell agreements.
IDEA #9: Consider buy-out plans that are not funded with future earnings and are fully paid by the end of the wind-down or transition period.
IDEA #10: Urge partners to think about and plan for retirement. They should start early and start on a wind-down program at least five years before they are ready to retire or exit. Each partner should decide when they want to exit the practice and begin a disciplined phase-down (wind-down) in which legal skills, leadership and management, and client relationships are transitioned to the next generation of attorneys in the firm.
Sole Owner & Solo Practices
IDEA #1: Decide when you want to retire and leave your firm.
IDEA #2: Determine how much cash or annual cash flow you need when you exit the firm.
IDEA #3: Fund a retirement plan in the early years of your practice and project how much income it will generate at various exit points.
IDEA #4: Determine who you would like to transfer the practice. (Family members in law school, other attorneys in the firm, another firm, etc.)
IDEA #5: Based on future cash flow, ascertain how much the firm is worth today. Value the practice.
IDEA #6: Begin implementing management strategies that will maximize the future value of the firm – before you exit and afterward.
IDEA #7: Institutionalize the firm so that it is not uniquely you.
IDEA #8: Determine if the firm is even marketable.
IDEA #9: Draft and implement a succession/exit plan and implement same. Insure that it incorporates safeguards for your clients, employees, and family if the unexpected happens to you.
IDEA #10: Take steps to protect your family’s wealth.
IDEA #11: To exit successfully you need:
- A plan – a roadmap that outlines the process and helps you decide on where you want to go and how you will get there.
- Timeline – a disciplined implementation timetable keyed to your Exit Plan.
- Start Early – Getting ready for exit takes time. Start early – 5- 8 years before you are ready to retire or exit.
Decide – When do you want to leave the practice?
Decide – How much cash you will need when you exit.
Decide – To whom you want to transfer the practice.
Good luck on your journey!
Dr. John W. Olmstead, MBA, Ph.D., CMC, is a Certified Management Consultant and the president of Olmstead & Associates, Legal Management Consultants, based in St. Louis, Missouri. The firm helps law and other professional service firms improve the operations and management of their practices and the lives of their practitioners. The firm, founded in 1984 serves clients across the Globe assisting them with implementing change and improving operational and financial performance, management, leadership, client development and marketing.
Dr. Olmstead’s assignments have covered the spectrum of management issues. However, in recent years most of his time is focused on engagements helping firms with: Partner Compensation, Governance, Succession/Exit Planning, Strategy & Competitive Business Models, Profit Improvement programs, and Client Service Programs.
Dr. Olmstead is the Editor-in-Chief of “The Lawyers Competitive Edge: The Journal of Law Office Economics and Management,” published by Thomson West. He is currently serving as Past Chair, Illinois State Bar Association Standing Committee on Law Office Management and Economics and as a member of the Legal Marketing Association (LMA) Research Committee. Dr. Olmstead may be contacted via e-mail at firstname.lastname@example.org.
Additional articles and information is available at the firm’s web site: www.olmsteadassoc.com.
© Olmstead & Associates, 2010. All rights reserved.