Question:
I am the owner of an eight attorney insurance defense firm in San Antonio, Texas. I have been practicing fifteen years. I am forty-five years old. Many of my peers in firms my size are in partnerships. Is my situation unusual? Should I consider having partners?
Response:
Years ago I would have said that a firm such as yours would be a partnership or other organizational form with multiple equity owners. This has changed. I am working with more firms your size and larger with sole owners and no other equity owners. One such firm has twenty-five lawyers and seventy-five support staff.
I am assuming that this has worked well for you. You have the benefit of financial leverage and not having to share the pie with other equity owners. You call the shots and don’t have to share decision making with others. You probably are earning a nice income.
At your present age there is nothing wrong with continuing this for awhile. However, eventually you will have to consider your succession strategy, how you will exit the practice, and to whom you will pass the baton. The other issue is a career advancement strategy for your existing associates. Some may expect to eventually have an ownership stake in the firm. Your associates need to progress in their careers – not just as technicians – but also as business men and women and managers.
Don’t wait to long to begin this process. However, resist the temptation to make everyone an equity owner. In a insurance defense firm with eight attorneys I would try to maintain a ratio of four associates to each equity owner – thus no more than two – maybe three equity owners.
Click here for our blog on succession
Click here for out articles on various management topics
John W. Olmstead, MBA, Ph.D, CMC
Question:
I am the sole owner of a twenty-five attorney litigation boutique firm in Los Angeles. I am the only equity partner with nine non-equity partners and fifteen associates. I am concerned that if I don't provide a path to equity partnership some of my senior talent many gradually defect to other firms or split off to create their own law firms. I also believe that providing a path to equity partner for deserving non-equity partners is the right thing to do. Therefore, I am planning on admitting two non- equity members this year. Should I require capital contributions?
Response:
I believe that all new partners should be expected to contribute capital and have some "skin in the game." Whenever a firm admits a new partner, the firm should require the new partner to contribute capital. Increasingly, a partner's capital requirement should bear a relationship to the partner's share of profits. You may want to allow new partners a reasonable period of time to fund their capital accounts – say one or two years via a capital note or help them arrange favorable terms at your bank to finance their capital accounts. Usually capital accounts are tied to working capital needed to operate the firm and the percentage of ownership/income that each partner will have.
While capital contributions are all over the board ranging from zero to $100,000 in firm's your size I often see capital contributions ranging from $25,000 to $50,000.
There are only three ways to increase a firm's working capital to cover cash flow requirements and fund growth:
1. Have partners put more money in
2. Have partners take less money out
3. Borrow
Click here for our blog on partnership
Click here for our blog on financial management
Click here for articles on other topics
John W. Olmstead, MBA, Ph.D, CMC
Question:
Our firm is a 14 lawyer firm in the Boston suburbs with 4 founding partners and 10 associates. Two of the partners are in their 50s and two are in their 60s. Several years ago we adopted a retirement buyout plan for the founding partners where each partner upon retirement is paid the balance of his cash-based capital account and a multiple of one times an average of his last three years earnings paid out over a five year period. I am concerned that when partners begin to retire the retirement payouts will place undue stress on operating funds and the firm's ability to continue to be successful. I would appreciate your thoughts.
Response:
If nothing else you should consider a cap that places a limit on how much can be paid out in a single year where aggregate payments to all retired partners in any one year are capped at 10 percent or less of distributable net income. Any obligations that cannot be paid in one year as a result of the cap would be rolled forward to the next year also subject to the same cap.
Unfunded plans can present problems down the road if they become unaffordable for the next generation of attorneys as they have to be funded out of future earnings. You should look into ways to fund your partner's retirements as much as possible through 401k and other retirements plans, life insurance policies (on each of the partners that can fund the buyout in the event of death or where paid up cash values can be used upon retirement to apply toward buyouts, and sinking funds (Rabbi Trusts, etc.) where funds have been set aside out of current earnings.
We all have been witnessing what is happening with governmental unfunded pension programs. The same thing is happening with law firms that have unfunded retirement programs as baby boomers are retiring in record numbers.
Click here for our blog on succession
Click here for out articles on various management topics
John W. Olmstead, MBA, Ph.D, CMC
Question:
Our firm is an 18 attorney firm in Chicago that was formed by the existing four equity partners ten years ago. We have four equity partners (founders), eight income (non-equity partners), and six associates. The income partners are not required to contribute capital. We are considering admitting a couple of the income partners as equity partners and also approaching possible laterals. What should we require in the form of buy-in or capital contribution?
Response:
While capital contributions are all over the board ranging from zero to $100,000 in firm's your size I often see capital contributions ranging from $25,000 to $50,000. All depends upon the number of ownership shares being offered. I am seeing firm's requiring more as many firms are resisting the temptation to take on bank debt to finance their short-term working capital requirements. Citibank's Private Law Firm Group reports that between 2004 and 2007 capital contributions averaged 20 to 25 percent of a partner's income. Citibank's recent survey reports that partners are now contributing an average of 30 to 35 percent of their earnings. Thus, a newly admitted partner that will be earning $150,000 upon admission would be expected to contribute $45,000. Contributed capital is returned when a partner leaves the firm in full upon withdrawal or more commonly according to an incremental installment payment schedule.
Click here for our blog on partnership
Click here for articles on other topics
John W. Olmstead, MBA, Ph.D, CMC
Question:
I am a member of our firm's executive committee. We are an 18 attorney firm in Baltimore with four equity partners, five non equity partners, and nine associates. Recently we asked one of our non-equity partners to join the equity ranks and he said no. We were shocked and taken by surprise. Is this a common occurrence? We would like to hear your thoughts.
Response:
This is becoming a more common occurrence and this is causing havoc with growth, succession and transition plans. Many law firms are seeing a growing sense of disillusionment from young lawyers that may not want to be an equity partner. While they want to be lawyers they do not want to take the financial and other business risks nor make the other work commitments such as working nights, weekends, and the 24-hour commitment that has historically been the requirements for equity partners in law firms. Work-life balance has become a priority for more younger lawyers.
I believe that you should through performance reviews, survey questionnaires, and other tools gather information sooner than later to get a feel for where your non-equity partners and associates stand as far as attitudes toward business and financial risk, desirability of being an equity owner, and willingness to invest capital and time in the firm. This will give you a feel for your mix. If it looks like you have too many worker bees – revamp your recruiting strategy – new attorneys or laterals – accordingly and look for attorneys that have an interest and the mindset that it takes to be an equity owner.
Click here for our blog on partnership
Click here for articles on other topics
John W. Olmstead, MBA, Ph.D, CMC
Last week a firm advised that their law firm was splitting up via a dissolution and forming two new law firms. I outlined some of the steps that would need to be taken to dissolve the firm.
This week I will discuss some of the typical steps that will need to be taken to start the new law firms. Some of these steps include:
ESTABLISH NEW LEGAL ENTITY
IT & SYSTEMS
NOTIFICATIONS
HUMAN RESOURCES
FACILITIES
CLIENT RELATIONS AND DEVELOPMENT
PUBLIC RELATIONS AND MARKETING
The tasks involved in launching a new firm are numerous, specific to each individual firm, and this is just a starting list. You can use this list as a starting point to develop your own project plan. Suggest that you create a central project plan to get everyone handling various tasks on the same page. The plan should include tasks, specific responsibilities and start and target completion dates.
Good luck with your new firm!
Click here for our blog on succession
Click here for out articles on various management topics
John W. Olmstead, MBA, Ph.D, CMC
Question:
I am the managing partner in a 14 attorney firm in Seattle. Our partnership has voted to dissolve the firm effective the September 1,2015. Two new firms will be formed. Eight attorneys will be going to one firm and six to another firm. What steps do we need to think about in managing this project?
Response:
You actually have two projects to manage. The dissolution project and the new firm start-up project for the firm that you will be joining. The other firm will also have a new firm start-up project as well. I will address in this blog some of the dissolution steps and I will address some of the new firm start-up steps in next week's post.
Dissolution Steps
These are just a few of the many steps that are involved. Next week I will post Part I – Steps to be Taken to start-up your new firm.
Click here for our blog on succession
Click here for out articles on various management topics
John W. Olmstead, MBA, Ph.D, CMC
Question:
I am a senior associate in a eight attorney elder law firm in Miami. There is one owner (founder) and seven associates including myself. The owner has approached me with a proposal to over time buy out his interests. I am the only senior associate in the firm and the only associate that he has approached concerning selling his interests. Specifically his proposal is as follows:
I don't know how to respond to this proposal and would appreciate your thoughts? Is it fair? Does it make sense?
Response:
It makes sense for him. Seriously, you are going to need much more information that this proposal. To get started you need to ask for and review the following:
From these documents you can get a feel for the cash-based net equity, the accrual-based net equity after considering work in process and accounts receivable and unrecorded liabilities.
Two numbers that may be even more important is the average fee revenue generated over the past five years and the average compensation (net profit plus compensation – W2 and K1 earnings) that the owner has been earning over the past five years.
Here are a few thoughts:
Good luck!
Click here for our blog on succession
Click here for out articles on various management topics
John W. Olmstead, MBA, Ph.D, CMC
Question:
I am the sole owner of a four attorney general practice firm in Rockford, Illinois. I am 58 and realize that in the next few years I will need to begin implementing a succession and exit strategy by probably bringing in a partner. Two of the associates have no interest in partnership. However, the newest associate hired, who had his own practice for several years, does have such an interest even though he was recently hired. He is off to a good start as far as his production. However, I believe that he must be able to originate and bring in client business as well. So far his energy and focus has been totally on performing legal work. I want to get him started on the right track in order that I can make him a partner in a few years. Please provide any thoughts that you may have.
I agree that in a practice such as yours that client origination is important. I suggest that you start by laying out and discussing with him your expectations. In other words what will it take for him to become a partner – production, quality of legal work, billings, client satisfaction, and origination of new client business? Be specific and set specific goals for him and your expectations for him but also your timeline for partnership consideration. I would suggest five years. Personally, I believe his client origination goal at the five year point should be between $300,000 and $500,000 or higher. Establish baby step goals for origination – say $50,000 after year one, $100,000 after year two, $200,000 after year three, $300,000 after year four, $400,000 after year five. This will require that you track origination fee dollars in your billing/accounting system. Specific guidelines and rules regarding the attribution of origination credit should be developed. In other words an attorney should not receive origination because a client calls as a result of the firm's brand, advertising, etc. and he is passed the call because he is the only attorney in the office to take the call.
Click here for our partnership blog
Click here for articles on other topics
John W. Olmstead, MBA, Ph.D, CMC
Question:
Another attorney and I are planning on starting a law practice together. He has a larger book of business and he has ten years more experience that I have. Initially he will have a 60% ownership interest and I will have 40%. Compensation will be determined based upon these ownership percentages. How do you suggested that we structure our decision-making and governance?
Response:
I would not recommend using ownership percentages for decision-making and governance. I suggest that you be equal partners in this regard – one head – one vote. Of course this would mean that if you actually took a formal vote you could be deadlocked. Hopefully, the two of you have similar goals and a common desired sense of direction for the firm. If so, you should be able to come together most of the time using a consensus approach. When you can't – some give and take will be required. If you can't the firm may not last.
Click here for our blog on governance
Click here for my article on leadership
John W. Olmstead, MBA, Ph.D, CMC