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Lockstep Model Loses Favor as Law Firms Pressure Partners
The Legal Intelligencer
May 18, 2009
Editor's Note: This is the second part in a weekly series from The Legal Intelligencer examining the lasting effects of the current economy on the legal industry. This article has been modified since its original publication.
Ballard Spahr Andrews & Ingersoll Chairman Arthur Makadon told a room full of recruiters this month that compensation models for all nonpartners will see "an absolute change" as partner compensation shifts as well.
And his firm is no exception to that trend.
Makadon told The Legal Intelligencer last week that the model his firm uses to pay nonpartners is "going out the door" to be replaced with a new system in 2010. The details haven't been finalized yet, but Makadon intimated that the focus would be on merit, not seniority.
"It literally makes no sense to run a business where your basic compensation, no matter how good you are, is the same," he said.
And coming off of a year where equity partner profits fell by nearly 25 percent, Ballard Spahr is making some changes to its partnership model, too. Starting this year, the firm will no longer have nonequity partners.
Makadon has long said that there never really were two partnership tiers at Ballard Spahr because nonequity partners had voting rights, contributed capital and didn't have to face another vote before becoming an equity partner. The only difference was that the nonequity partners were on a fixed income. That is no more.
"There will be no fixed income, even for the newest partner," he said.
Makadon said. Many firms found themselves in a bad situation, Makadon said, because people became equity or nonequity partners and began to feel entitled to their salaries. Now firms have to "separate the wheat from the chaff," he said.
Firms across the country have begun to roll back associate salaries. Drinker Biddle & Reath cut first-year associate salaries by $40,000 for the first six months in order to train the attorneys and make them more marketable to clients.
The latest firm to cut salaries was DLA Piper, which on Friday announced it was cutting pay in high-wage markets from $160,000 to $145,000. In markets where it currently pays $145,000, the firm was dropping salaries to $130,000. Firm leaders, who said they have taken their own pay cut, said DLA Piper would move toward a merit-based compensation system as part of the salary changes, according to reports by The Legal Intelligencer's sister publication, The National Law Journal.
Even firms that haven't cut salaries are thinking about it.
Saul Ewing managing partner David Antzis said conversations about salary freezes and changes to leverage models have allowed firms to look at moving away from the lockstep model and moving toward a merit-based system for associates in which the spreads in compensation are more significant.
Because the firm deferred start dates for first-years until at least January 2010, it hasn't had to decide what it will do with salaries. If more firms do start to drop salaries across associate levels, that will demand, Antzis said, that firms move toward a merit-based system because they will have to continue to reward their best people in order to keep them.
But with all this talk about systemic changes to compensation models, Altman Weil's Jim Cotterman said he wonders what significant difference the end result will show. To be sure, Cotterman is in full support of a more merit-based system in which firms increase the dialogue with associates on their progress. But to Cotterman, that is just implementing a different set of performance criteria, not changing the pace with which salaries move up or down.
For starters, it was supply and demand that resulted in the rollbacks in salaries.
"The question of whether that will be permanent is whether the leverage model has changed permanently," Cotterman said.
He said supply and demand will most likely dictate whether the salaries stay put or at what rate they will move up or down.
On the broader question of moving to a merit-based system, Cotterman said his research has shown that the lockstep model is already very closely tied to an associate's value. And he determines value based on hours multiplied by rates. He said his statistical analysis shows that 92 percent of associate pay is based on the variability of their time.
"If the lockstep was this abysmal system because it was rewarding people who were coasting, then I didn't think we would see this type of correlation," Cotterman said.
Lockstep models can certainly allow some people to coast, but the statistics show the effect isn't as bad as some believe, he said.
Cotterman described an elevator and escalator system that he said would be in place regardless of whether firms used lockstep or merit-based models.
The lockstep model is like an escalator in that every year an associate advances a step up in compensation because he or she gained a year's experience. The model turns into an elevator -- except during recessions -- when starting salaries are raised because of inflation and market competition, he said.
The elevator system will still apply under a merit-based model, Cotterman said, because inflation and recent graduates' need to service student loan debt will still force the elevator upward. The escalator will still be in play because there will always be value in the accumulation of experience and that can only come with time, he said.
At the partner level, the biggest change is stricter adherence to performance criteria and less patience for underperformance. Partners having a down year can no longer get a pat on the back and a chance to improve next year because there are too many partners in that situation for the firm to support them for very long, Cotterman said.
Firms are becoming much more conservative on what they can do with base pay, draws and distributions. They also have to be mindful that banks are watching and won't allow firms to drain their cash and let them start the year on the bank's dime, he said.
Historically, partner compensation has been based on looking back at performance over the most recent three to six years.
"Now more and more weight is given to current performance because the reality of today is so starkly different from history," Cotterman said. "That is a systemic change."
The one downside there is that firms spend a lot of time preaching the value of culture, teamwork and the institution, but that type of pay structure rewards individuals on productivity.
It doesn't necessarily inspire the team approach clients often look for, Cotterman said.
FEWER DOLLARS?
While the way compensation rises or falls might remain basically unchanged, some see raw dollar figures taking a tumble.
New York-based recruiter Jerome Kowalski of Kowalski & Associates said that with increased capital needs, changes in billing practices and an excess of attorneys, "these meganumbers in terms of compensation are just going to disappear."
One of the big drivers of lawyer compensation was the need to compete with salaries of other professions, particularly investment banking. Today, salaries in those fields aren't on the rise, Kowalski said.
Other systemic changes to the profession are also going to have an impact on salaries, he said. In the years following the last two major recessions, profits per partner saw big spikes in large part because firms reduced staff and lawyers during the downturns and then -- during the early stages of economic recovery -- there was a demand for new services.
This recession is different because even if new services are needed or those dormant practices come back, the preference of clients to take greater care about the size of the bills they pay has probably become permanent, Kowalski said.
And law firms are going to have to be careful in the way they implement their new compensation models.
The idea of moving to a merit-based compensation model certainly isn't new, Hildebrandt's Lisa Smith said, adding that many firms have been using such a model for years. But in the last three or four months, many firms have looked much more seriously at joining that club.
The merit-based model makes sense not just because it is a cost-cutting measure, but also because it works for both clients and associates, she said. The typical model will most likely mean a drop in base pay and a shift to bonuses for rewarding those who deserve it, she said.
Switching to a merit-based system is a major change for firms, Smith said, because it requires some real thinking about what skills the firm requires and what the evaluation process will be. Firms have career management processes in place, but their focus will be much different, she said.
On the partner side, compensation systems are already pretty flexible at most firms, Smith said, but what is going to change is the care -- or rigor -- with which partners are evaluated.
For Duane Morris Chairman John Soroko, one of the biggest pressures he has in the current economic environment is evaluating his partners. Sitting on a panel with Makadon and others at the NALSC conference this month, he said the evaluation brings the economic and human element together, combining for a "trying" process.
But things will never go back to the way they were just a couple of years ago, he said.
"We're now a business like every other American business," Soroko said.
The next installment of The Legal Intelligencer's weekly series will examine alternative fee agreements and the billable hour.
