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Call it a near miss. Earlier this year, New York’s Simpson Thacher & Bartlett raised starting salaries for first-year associates to $160,000. In the competition to recruit top talent, the tactic was similar to one used by Kenyan marathon runners: a midrace burst to separate elite competitors from the pack of pretenders. But while Simpson’s bump momentarily opened up a $25,000 gap between top-end New York firms and their Washington counterparts, the pack soon matched the move. Eight months later, starting salaries for first-years at most of the 200 largest firms nationwide remain bunched at $160,000. “Those law firms must have felt the gap needed to be closed,” says Ward Bower, a consultant at Altman Weil. “And once one goes, they all go.” So what New York firms had hoped was a raise too rich for out-of-town competitors with more pedestrian profits, instead looks to be another failed attempt to segment the market. Which is why as top Washington firms struggle to digest the last associate pay raise, they are bracing for what they feel is inevitable: another round of raises, probably ignited by a New York corporate firm looking to up the bidding war for talent. “New York firms have to be frustrated,” says the managing partner of an international firm based in Washington. “There’s an attempt on the part of the Simpson Thachers of the world to divide the industry into first class and second class. But no one willingly accepts the characterization of being second class.” But according to revenue and expense growth figures compiled by Citigroup’s private law firm banking group, firms in the bottom half of The American Lawyer‘s AmLaw 200 are struggling just a bit to keep up. In the first six months of 2007, AmLaw 100 firms saw expenses rise at 14.4 percent while revenue increased at 14 percent. By comparison, firms in the AmLaw 200 saw expenses move up 12.2 percent while revenue came in at 11.4 percent growth. “You’re going to see profit margins at firms reduced somewhat, but overall profits are still growing,” says Dan Dipietro, client head of Citigroup’s law firm group, who accounts for the associate raises as a significant part of the increase in expenses. “It’s generally true that larger firms, those in the AmLaw 100, are going to be able to absorb it better.” Based on conversations with more than a dozen Washington managing partners, there is a strong belief that January’s salary raise had less to do with competition among upper echelon New York firms like Cravath Swaine & Moore or Davis Polk & Wardwell, and everything to do with dusting firms based in other markets — including Washington. “There’s no other rational explanation to what they’re doing other than trying to find the number where people start to drop out,” says the managing partner of a Washington-based firm in the AmLaw 100. “And once people drop out of the horse race, there’s going to be a smaller number of competitors for the best law students.” HEADED UP AGAIN? To some degree, that has started to happen. Smaller firms, like Venable, have not brought first-year salaries up to $160,000. For firms that did raise, some are feeling tension with clients, who, managing partners say, increasingly demand that their work not be done by a less experienced first-year associate with billing rates now hovering around $300. “A first-year lawyer is an investment by a law firm,” says the D.C. managing partner of a top-50 AmLaw firm outside Washington. “And now there’s growing push back and resentment from clients. I’ve certainly seen an increase in clients saying we don’t want first- and second-years working on our issues.” For many firms that seemingly did match, the increases in associate pay come with qualifiers. At Patton Boggs, for example, an associate must bill 1,950 hours and also work 100 hours of pro bono to be eligible for the highest salary in their class. Other firms employ similar benchmarks. “It’s very similar to a second raise in poker,” says Ed Wesemann, a consultant at Savannah, Ga.’s KermaPartners. “If you have a marginal hand you may have to grit your teeth and do it. It’s gut check time.” If history is a guide, the first firm that does up the ante will keep their cards close to their vest. In 1999, when the Internet was still booming, San Francisco Bay-based Gunderson Dettmer Stough Villeneuve Franklin & Hachigian threw down a compensation gauntlet: The firm raised first-year associate salaries from around $100,000 a year to $125,000. A year later, Washington firms matched. That line held until two years ago, when California firms, led by Gibson, Dunn & Crutcher, jumped to $135,000. Washington firms quickly followed. But these days, the impetus for further salary hikes remains squarely in New York’s backyard. In conversations with managing partners, speculation that another first-year pay hike was on the way was pervasive — and unwelcome. (Several lawyers interviewed in different markets said, unbidden, that they had heard corporate transaction behemoth Skadden, Arps, Slate, Meagher & Flom, a first mover in past associate salary spikes, was contemplating a big bump in first-year pay. Skadden declined to comment.
Equivalent of Earning $160,000 in New York
Boston $241,397
Chicago $278,573
Houston $370,462
Los Angeles $205,631
Miami $288,696
San Francisco $190,789
Washington $234,757
Source: CNN Money

Part of that rumor may be borne out of the fact that Skadden has long been a market leader until recently. Before the last round of raises, Skadden paid first-years $140,000 while the rest of Washington stood at $135,000. For their part, consultants are split on whether a raise looms. “I’m hearing the pressure won’t be there,” says Dipietro of Citigroup. “However, I think there will be more programs announced on the variable side where compensation is performance driven, including the performance of the firm.” Dipietro pointed to the program Sullivan & Cromwell announced last week that will pay senior associates and counsel supplemental bonuses tied to the firm’s financial performance as an alternative to raising salaries across the board. Washington firms may breathe easier if that’s the case. So far, the escalating price tag for associates has mostly resulted in uniform action by firms in Legal Times‘ D.C. 20 to try and keep up. But many consultants and managing partners say less profitable firms — roughly defined as any at or under $1 million in profits per partner — are at a breaking point. As a sign of the times, last week Duval & Stachenfield, a New York-based firm with a small L.A. office whose two founders are former Latham & Watkins partners, announced it would start first-year associates at $60,000 — $100,000 below top market value — while midyear and senior associates would still receive salaries equal to those offered by firms like Skadden and Davis Polk. In a tight market, the idea is to minimize risk on unproven talent — the first-round bust — while concentrating resources on proven producers. The danger, of course, is that firms may end up missing out on star talent coming out of school while collecting also-rans from top firms. Another more revolutionary idea, being studied by consultants, is for firms to scrap summer associate and law school recruiting programs altogether and concentrate solely on attracting laterals. Altman Weil’s Bower, however, says his clients are not eager to take the lead on such an uncharted course. THE 10,000 To those who argue that $160,000 starting salaries may be appropriate for Manhattan but not Washington or other smaller markets (See chart), the retort is simple: First-year salaries aren’t about the cost of living, but the cost of talent — talent that the most competitive firms want showcased to clients; then later winnow down to a select few partners. And because the legal world is increasingly flat (practice and client work are not limited to a single office), the compensation metrics of the more profitable Gotham firms impact firms across the country. But, can the legal world get round again? If you have a New York office, must you pay to play by New York rules, even if you are based elsewhere? That depends on if you want to fight the talent wars. “You have a supply and demand imbalance,” says Bradford Hildebrandt, name consultant at Hildebrandt International. “There are more spots [at firms] than quality students.” According to a report by Altman Weil released earlier this year, AmLaw 200 firms hire 10,000 associates every year, accounting for a quarter of the 40,000 students graduating from law school annually. As the firms get bigger, the value for the best students increases. Which means, assuming the inevitable, D.C.-based firms may again face the dilemma they encountered in January: Cut into profits and raise associate salaries just to stay competitive with New York (and possibly California) firms, or lose out on top first-year talent. “This has a lot to do with ego,” says KermaPartner’s Wesemann. “Many firms don’t have the practices to support these raises. In many cases, it is a reaction and desire to maintain a position in the marketplace that [they] think they have, but don’t have.” Consultants predict that New York firms — and out-of-town shops intent on keeping the Manhattan market as a significant part of their businesses — will keep on raising pay. But firms without a huge New York presence will eventually give up the chase. For those that do stay in the game, one consequence of the money being thrown at first-years is the pushing of partner talent both up and down, some industry watchers say. “The strategy is to drive up the cost structure of the firms with partners making about $1 million,” the chairman of a Washington firm says. “By doing that, they’re trying to attract the business producers from the firms that are declining in productivity.” Then there are the younger partners who are seeing their compensation devoured by associates. As a result, some observers say smaller firms, well below the AmLaw 200, will benefit. “In-house corporate counsel are getting more and more cost-conscious and it plays into our market strategy. I hope the salaries keep going up,” says David Pordy, the managing partner of Shulman Rogers Gandal Pordy & Ecker, a Rockville, Md., firm with about 90 lawyers. “Most of our senior partners came from large Washington firms because they were disillusioned.” Adds Jeffrey Lowe, a Washington recruiter at Major Lindsey & Africa: “The associate pay has wrecked the economics of most firms. Being a junior partner and senior associate are materially the same.” RAISE OR FOLD? When Simpson Thacher reignited the salary war last January, the tenor of comments among associates at D.C.-based firms on the message boards of legal blogs was a combination of lust, envy, and indignation. Managing partners concede the associate fervor following Simpson’s move fueled the fear among Washington firms that to be considered top-tier they had to match. The choice was clear: Raise or fold — and hope against hope your associates accept a salary a rung or two down from a law-school buddy working across the street for a New York-based firm. “Firms need to ask: Are we simply putting too much pressure on this business model while also inviting the ire of clients?” Hildebrandt says. “Unfortunately, law firms have a lemming mentality and have trouble making a decision for themselves.” Then again, if uniformed restraint doesn’t work, the head of one Washington firm has a plan: “The firm will announce tomorrow we’re going to $250,000 — but we’re just not going to hire anyone. Everyone else can kill themselves.”

Nathan Carlile can be contacted at [email protected].

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