Question:
I am the founder and owner of a business law firm in San Diego, California. There are 9 associates, four paralegals, and three administrative staff members working in the firm. I founded the practice 20 years ago and I have never had a partner in this firm. I was involved in a partnership in another firm prior to forming this firm. There were partnership issues which is the reason why I left and started my own firm. I have enjoyed the freedom of sole ownership but I now believe that in order to get to the next level, retain quality attorneys, and have a succession plan for myself when I get closer to retirement I need to consider bringing in partners. However, based on my prior firm experience I am fearful. I would appreciate your thoughts and advice.
Response:
Do You Really Want Partners
You may want to ask yourself whether you want employees or partners. What is the criteria for becoming an equity partner? Is client development part of that criteria? Should they contribute capital? If they are not adding value to the firm – growth – you may be diluting the earnings pool and reducing the size of the pie for yourself. Personally, I think in small firms criteria for becoming an equity partner should, among other things, include client development and a capital contribution. They should have some skin in the game, contribute capital, and signup for their share of the liabilities. I also believe they should then be included in the inner circle.
Then, depending upon whether you are considering equity and non-equity partner tiers, you should develop non-equity and associate career progression plans – associate to non-equity partner and non-equity partner to equity partner – outlining timeline for consideration, the consideration process, the criteria, and the responsibilities and expectations for each. (What partnership means)
You may believe that you have identified the right person or persons whom you believe is the right person or persons for partnership. However, just because the associate has been a good associate does not mean that the associate will be a good partner – the relationship will be different. But at least the associate is somewhat of a known quantity since you know the associate and have worked with the associate for several years.
Here are a few ideas you might consider:
- Outline you goals and expectations for the relationship.
- Meet with your associate and identify his/her goals and expectations for the relationship.
- Determine how much control over the practice and decision-making are you willing to give up? Share?
- Determine how much and for how long you are willing to make less?
- Determine if the associate will be expected to bring in business? When/Timeline?
- Think about the firm you want to build – firm-first or lone ranger (team based or individual practices)?
- Decide on firm name – will it change? Should it? Impact on image, clients, etc.
- Decision as to capital contribution or buy-in? Yes or No? How much? Timeline for payment?
- Ownership percentages
- Voting
- Compensation
- Withdrawal arrangements
Hiring Associates That Can Be Effectively Groomed for Partnership
Years ago it seemed that all the associates working in law firms wanted to eventually become a partner in the law firm. This has changed as a result of the new mix of women and men graduating from law schools and entering the legal profession, changing attitudes toward work life balance, other opportunities outside law firms, and other variables. While partnership/ownership is still important to many – don’t assume that all the associates that you hire will even want to be equity partners – especially if it means a hefty capital contribution and signing personal guarantees for a large amount of firm debt.
A question that I would ask – have you really discussed with your associates their interests in equity ownership? As a group? Recently an associate, whom the firm had written off, advised me that while he was not interested now due to his present situation in life, he would be in maybe five years – especially if others also were brought in as well – in other words he did not want to have the responsibility alone and be an equity owner by himself.
I suggest that you talk with your people and see where they really stand. Help them to begin developing client development skills. Depending on your retirement timeline – and if you have “no takers” you may have to consider other options such as laterals or merging with another firm.
A key suggestion is to look for entrepreneurial associates when you hire. The desire for ownership of a business if often in a person’s blood. Don’t start the interview with a discussion from law school until the present. Dig deeper into hobbies, general interests, etc. that will provide clues as to whether you may be hiring someone that just wants a law job or someone that eventually wants to own or be a partner in a law firm.
Typically a buy-in or capital contribution is not required for non-equity partners nor do I recommend such. Typically non-equity partners are salaried and may participate in some form of an incentive bonus system tied to individual, team, or firm financial performance. They are also not required to assume any responsibility for any of the firm’s financial liabilities or debts.
If you intend on bringing in the associates as equity partners that is another matter. 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 five years or help them arrange favorable terms at your bank to finance their capital accounts.
Some firms have a buy-in tied to either the cash-based book value of the firm or the accrual-based book value (includes accounts receivable and work in process). This is not the typical practice although I do run into it. Usually capital accounts are tied to working capital needed to operate the firm and the percentage of ownership/income that each partner will have.
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
Many firms use bank credit lines instead of capital contributions to pay routine firm expenses and partner draws during periods when cash flow is tight. It has been my experience that firms that follow this practice have ongoing financial challenges and problems.
The reality is that many firms are under-capitalized – don’t become one of them!
Make the criteria tough and resist the temptation to make everyone a partner.
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John W. Olmstead, MBA, Ph.D, CMC
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