American Lawyer: How to Navigate the Financial Minefields of a Lateral Partner Move

By Joe Macrae and Lauren Drake

Published in The American Lawyer on January 28, 2022.

It’s once again the time of year when a subset of law firm partners who moments ago were basking in the glow of hefty final distributions now find themselves deciding whether or not to pull the trigger on that lateral move they have been considering for the last few months. Could it be that the grass (and the cash) is greener at another firm? It likely isn’t the first time such partners are mulling a change, but for many it’s the first time they’re doing so seriously.

We’d wager this is particularly true in 2022, in the wake of a head-spinning year that has seen lateral partner activity—and what firms are willing to pay for top talent—go through the roof. The continuing trend of firms moving away from strict lockstep to more dynamic pay scales reflects their desire to be increasingly proactive in retaining lawyers and competitive in the lateral market.

For partners eyeing a move, however, it’s critical to pay close attention not only to the boost in compensation a firm might provide but also a host of other financial factors that can spell the difference between a step up and a misstep. While law firms have become more aggressive on pay, they’ve also grown more sophisticated in finding ways to share performance risk with incoming laterals.

Here’s a quick checklist of money matters to look out for if you decide to enter the lateral market in the months ahead.

What’s the Whole Truth?

Depending on when in the calendar year you make a move, the issue of being “made whole,” or partially whole, could prove significant. Increasingly, we’re seeing law firms dig their heels in at the notion of paying exiting partners the full pro-rata shares of the compensation they’d have been entitled to had they stayed through year-end. Is the firm you’re in talks with willing to provide you with a “make whole” or “true-up” payment to ensure you’re not leaving money on the table in the transition?

The Capital Contribution Conundrum

While the vast majority of firms require a capital contribution if you join as an equity partner, the terms of the agreement can vary dramatically depending on where you land. You can typically expect a required payment in the neighborhood of 15-35% of your anticipated annual earnings (and well beyond that at a handful of firms). When is it due?

Some firms require a lump-sum payment when you walk through the door (or log onto Zoom) on day one. Others give new lateral partners a period of time to pay in that could range from 30 days to a few years. The latter reflects an evolution in law firm practice whereby some firms now insist on repaying partner capital in installments over a multiyear period when a partner resigns to go to a competitor.

If you find yourself balking at the amount you’re being asked to ante up, you can blame the collapses of Brobeck, Phleger & Harrison (2003), Heller Ehrman (2008) and Dewey & LeBeouf (2012). Before these firms’ demise, it wasn’t uncommon for law firms to borrow material amounts of long-term debt on their balance sheets rather than require enormous capital contributions. In the years since, the vast majority of Am Law 200 firms have substantially increased the required amount of capital paid by partners to ensure greater liquidity without the stress of bank covenants.

How Will Your Cash Flow?

Big differences exist in how firms pay partners throughout the year, even among those of similar size, profitability and prestige. Understanding when money will hit your bank account and what it will likely be is critical. In some cases, equity partner draw can range from $10,000 to $50,000 per month or the equivalent per quarter, including for partners whose total annual take-home runs well into the millions. Firms often supplement these routine payments with larger ones around tax time, and some begin making more significant distributions in the second half of the year as the firm moves into profitability. Don’t make any assumptions, however, because it’s not unheard of for as much as 70% of a partner’s compensation to be held back until after the end of the firm’s fiscal year.

Don’t Bet on a Guarantee

The landscape for guaranteed compensation changed dramatically after the failures of the firms mentioned above. Before then, it was not uncommon for firms to offer guarantees to lateral partners for up to three years and, in some situations, beyond. These days, guarantees are much harder to come by, and the market standard has shifted to stub year plus one. This means that if you move in March 2022, you can expect a guarantee for the remainder of 2022 and all of 2023. Given the intense competition for talent, you might be tempted to think law firms are willing to back off the stub-plus-one standard, but our experience is that firms are generally holding firm on this issue. Even star laterals are rarely able to sway firms on this point.

A critical distinction to keep in mind with guarantees is that we often see candidates ask for a specific dollar minimum. However, law firms greatly prefer an assurance that laterals will be kept at a minimum number of units or points for the period of the guarantee so that their compensation rises and falls in a manner commensurate with existing equity partners.

What Role Do Bonuses Play?

Law firms are getting increasingly creative—and generous—with bonuses to incentivize lateral partners to come on board and stay on board. These can help close the gap in negotiations and, as such, take various forms, from a specified sign-on or year-end bonus to a metric-based performance bonus. Using bonuses as a recruiting tool enables firms to offer a projected uplift in compensation while sharing some of the performance risk with the incoming partner or team, and we don’t see their use diminishing anytime soon. If you’re excited by an opportunity but the initial offer is not quite where you want it to be, consider how a bonus might enable you to seal the deal.

Are There Strings Attached?

As law firms grow more sophisticated in their analyses of what goes right and wrong in lateral hiring—and feel increased pressure from their existing partners to learn from the mistakes of the past, whether at their own firms or anecdotally in the market—lateral candidates shouldn’t be surprised if financial handcuffs and clawback clauses crop up in their agreements. The use of forgivable loans is also on the rise.

One approach to annual bonus payments is to share bonus details in Q1 of a given year but wait until Q2 or Q3 to actually pay it in full. A second is to offer an assured minimum bonus with payments split between sign-on and first-year anniversary. Clawbacks, which require repaying a bonus if you leave within a set period of time, are also fairly standard now—and in some cases more onerous than in the past. (We’ve seen firms incorporate clawback provisions into agreements that extend as long as five years.) Room for negotiation varies by firm, but we’ve found that pushing back on these provisions too hard can raise questions about whether the candidate aims to stay for the long haul.

The Counteroffer

Not surprisingly, over the last year firms have become much more aggressive and creative in their efforts to retain partners, implementing staggered bonus payment plans and making quick counteroffers. Assume your current firm will try to entice you to stay and prepare accordingly. What would have to change, if anything? Candidates often wait until the pressure of a counteroffer is upon them to start looking closely at the make-it-or-break-it factors—to their detriment. Come up with as concrete a list as possible at the outset of your search, and then update it if and when you receive offers.

We understand that a host of emotions can come into play at the decision stage. In our experience, candidates who can keep their emotions in check and focus on where they have the best opportunity to advance professionally and personally come out ahead.

Joe Macrae is the Palo Alto, California-based founder and chairman of transatlantic legal recruiting firm Macrae, which focuses on placing partners and groups into leading law firms and helping firms open new offices. Lauren Drake is a partner in the firm’s Washington, D.C. office. They can be reached at at joe.macrae@macrae.com and lauren.drake@macrae.com, respectively.