Analysis on the Break-up of Law Firms

The definition of a successful law firm is more than just the number of lawyers or high revenues. A law firm is a thriving corporate ecosystem and consists of various interpersonal components which in turn could enhance or destroy the delicate ecosystem that is the firm itself. In situations where certain behaviour or change disrupts the balance, this could lead to the potential break-up of the firm. One does not expect a ‘top’ firm to break apart, but it happens.

More often than not the reason behind the fall of a firm is due to interpersonal reasons, such as fallouts in partnerships, small cracks in the management of the firm, and resistances to change outdated views and legacy practices within the firm. These fallouts can cause the firm to break-up, which in turn may cause speculation and misinformation to leak out into the public domain.

Professor of Law at Yale Law School, Professor John Morley, in ‘Why Law Firm’s Collapse,’ stated that “you cannot look to a firm’s revenue to predict its downfall, but rather various other factors which will play a key role in the potential failure of a firm.” These factors include:

1. Lawyers Leaving

One reason why a law firm may fail is that a partner who has several clients that contribute a large portion of the firm’s revenue leaves. Professor Morley found that if the client is a firm’s client, i.e. its business touches various practice areas within the firm, there is a lower likelihood that the firm will lose that client. However, if the client’s business is concentrated to one or two lawyers in the firm and those lawyers leave, the firm can rapidly suffer. As such, it is important to note that although client loyalties are an integral part of a firm, it is even more crucial to cultivate firm-level client loyalties. This can be seen more clearly in smaller firms where there are fewer partners and if one of them leaves the firm, it will rapidly shrink the firm’s list of clienteles.

2. Nurturing Lasting Relationships

High revenues are no doubt a goal that each firm strives for, but if those are the sole bonds upon which a firm exists on, the firm will eventually collapse.

This is due to the fact that there is no loyalty among people who only care about profit rather than building a law firm and taking care of its people and clients. Professor Morley found that “when the finances are strained, informal bonds and culture reign supreme”.

3. Failure to Inspire Others

If the partners in the firm fail to rally the troops in times of crisis, this can adversely affect the firm.

A case study to consider is Jenkins & Gilchrist LLP which was a Dallas-based law firm, one of the biggest US law firms until the early 2000s with almost 600 lawyers. The three main partners in Jenkins & Gilchrist were sued for selling fraudulent tax practices to the tune of $81 million, which hit most of the partner’s profits. Failure to build loyalty amongst the lawyers in the firm caused head-hunters to pick off partners – after all, the partners could simply leave as they had no bond or loyalty to the head partners of the firm, as they had failed to create any.

4. Disruptive Change in the Business

Although not a factor considered by Professor Morley, disruptive forces on a business’ operations can potentially have adverse effects on a firm. Hence, every firm needs to adapt to changing environments. For example, the innovation in ride services such as Grab and Uber where they used internet-based mobile technology application to match drivers and passengers created an unprecedented competition in the taxi industry. Grab’s competitive pricing and flexible labour supply gave it a massive advantage over the inefficient taxi operators. The same principle can be applied to law firms. There is a need to understand what technology can do and more importantly how technology can be adopted in conjunction with the working environment. In view of the recent Covid-19 pandemic, some firms and companies have adopted fully virtual meetings instead of physical meetings and adopted working from home practices, which can help reduce cost and increase efficiency.

This is why law firms should be able to adopt these effective strategies and tools for remote working, not just during a pandemic but in other emergency situations too. From the above examples, it is clear to see that things will not always pan out and firms will break up for numerous reasons. Lawyers should be prepared for the worst when it comes to the break-up of the firm and ensure that they have a proper partnership plan permitting wind-downs or partnership terminations and that the orderly and ethical transfer of client files will be done.

A range of ethical obligations arise when firms fall apart, such as the use of the firm’s reputation and intellectual property. In cases when all the partners decide to end the partnership and/or retire, establish new separate practices, or for any other reasons, the typical course of caution in the US is that the firm enters dissolution and the firm assets are typically governed by the provisions under the Uniform Partnership Act (UPA), which is in effect in nearly every states in the US.

5. File Transfer

All firm breakups require file transfer. The importance in making sure that files are transferred properly is an issue that can arise at any point and the inability to ensure proper conduct can also cause an abundance of issues for the lawyers which in turn could create unnecessary workloads. It must be ensured that there is a plan in place and that the firm and its lawyers have the ability to transfer files in a way that will not lead to the ethical practices of the firm being questioned and any other potential complaints to arise, which is a frequent occurrence. Statute of Limitation issues and other problems can arise leading to potential liability for partners.

The UK Law Society and the US Bar Association have stated that there is an obligation in ensuring departing lawyers take all necessary and reasonable steps to protect clients’ interests during their departure. Professor Morley commented that the destruction of law firms in general are very predictable. To get ahead of these issues, you need someone who has created a strong culture within law firms as well as created a firm whose clients are loyal to the firm and not to any individual lawyer. As such, employing someone with those skill sets and expertise can ensure sustainable growth and steady returns.

In conclusion, the break-up of a law firm is never easy – but creating strong bonds with clients and a strong culture that inspires partners to build something rather than do it all for money at the very beginning, can help firms to avoid fallouts and become sustainable and profitable in the long run. However, if a fallout is inevitable having a plan that deals with the significant issues and concerns involving partners, staff and clients alike is the most important step that should be taken to avoid the sort of bitter meltdown occurring.

Written by:

Shamimi Saberi & Loni Lee (general@azmilaw.com)