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Law firms have found a way to buy your loyalty … again. Years ago, law firms played a form of “Let’s Make a Deal.” They promised to take care of their partners in retirement. Depending on the size of the firm, when a partner retired he would receive a payment for his shares of equity, an income stream for life, or a combination of both. Add this to the monthly Social Security check, and a partner and his family were nicely compensated through retirement. In exchange for this eventual reward, the lawyer committed to don the “golden handcuffs” and offer undying loyalty … for his entire career. You see, if the partner left the firm, he left everything behind. In the 1980s, 401(k)s and profit-sharing plans caught on. Firms treasured these vehicles because they removed some of the administrative burden. Partners loved the plans because of their wider investment options, as well as their portability. If they left the firm, they wouldn’t lose everything: The golden handcuffs loosened slightly. Through the 1990s, fear that the Social Security system would implode sent the 401(k) industry skyrocketing. Many law firms eliminated the old-line defined benefit plans altogether. In the new millennium, the pendulum seems to be swinging back. Greater acceptance of lateral moves has transformed lawyers into free agents. Firms are fighting to recruit and retain partners and associates like never before. And once again, retirement concerns are helping them hold onto their people. The idea with firm-sponsored venture funds is that the firm not only takes care of you in your old age, but also dangles before you the chance to become what even most successful lawyers aren’t … filthy rich. But because disbursements from these venture funds are often years away, the golden handcuffs are back on. VENTURE FUND 101 A venture fund is an investment in a group of companies in their early stages of growth, nearly always nonpublic, pre-IPO businesses. These funds grew out of the relationships many firms had with banks and venture capital groups. As Gary Lawrence, Dallas-based head of the technology practice at Akin, Gump, Strauss, Hauer & Feld, says, “After enough years of seeing our clients’ successes, it was time to join our friends with our own dollars.” Lawrence helped to form the firm’s first venture capital fund last spring. Like Akin Gump’s fund, the majority of venture capital funds at law firms begin a new offering each year. They’re open to partners for a set time, then close until the following year. Investors receive distributions as companies go public or are purchased by other companies. When companies do go public, there is often a six-month waiting period before the fund can cash out. Furthermore, firms set policies as to when the fund must cash out in order to prevent internal disputes among partners. Most expect their first distribution within 24 months and final liquidation within seven to 10 years. Each venture fund has its own individual investment limits. Akin Gump partners may currently invest up to $40,000 of their own money in the fund. At Piper Marbury Rudnick & Wolfe, individual partners have the ability to invest up to $100,000 into the fund each year. Approximately 25 percent of the partners contributed to the fund in 1999. How the money is invested also depends on the fund. Akin Gump has raised upwards of $5 million and will invest in denominations from $50,000 to $250,000. Edwin “Ned” Martin Jr., co-chair of Piper Marbury’s venture capital and emerging companies group, sees his firm making a greater number of smaller investments. The Piper Marbury plan is to invest the $2 million to $3 million raised in investments of $25,000 to $50,000. “Nobody in this city can do it the way we do it,” claims Martin, because “no one has the level of transactions.” San Francisco’s Brobeck, Phleger & Harrison has had a venture fund for almost 10 years. Unlike the funds at many other firms, Brobeck’s venture investing comes out of the firm’s operating profits, not the individual partners’ checkbooks. This is becoming more common. As head of the business and technology department at Brobeck, Stephen Riddick has seen a wide range of firms plunk profits into these funds. He claims, “On average, most firms contribute 1 to 2 percent of operating profits, but several firms are investing as high as 20 percent.” The one pitfall partners must watch out for in these plans is that they must pay taxes on their percentage of the firm’s income invested each year. Nixon Peabody is looking to jump-start its venture fund by bringing in companies to its new incubator space in McLean. Companies seeking more than funding will use the firm’s half-floor of incubator space. D.C. associate Kendal Tyre, a member of the firm’s private equity and venture capital group, doesn’t believe the firm will have trouble filling the slots. He emphasizes that the incubator contacts and relationships will allow them to help the companies at every stage. THE ATTRITION-BUSTER The motives for beginning a firmwide venture fund go far beyond possibly getting rich. Most firms are using these funds as a recruitment or retention tool. With “one foot in the compensation camp and one foot in the benefits camp,” Akin Gump’s Lawrence sees the venture fund as the great retention tool for nonpartners. Instead of sharing in the firm’s profits, associates and others can share in their clients’ success, which can be much more risky but much more lucrative. Since associates and staff are not partners, they are unable to contribute their own dollars to these plans and must rely on firm contributions each year. Almost all of the 15 firms I spoke with contribute firm dollars to a pool for associates, senior counsel, and staff. Here’s where the venture fund attrition game tends to get interesting. Over time, nonpartners at some firms stand to profit from not only their own venture fund shares, but also the forfeited shares of those who left. According to Lawrence, “All you need to do is stick around and reap the potential rewards.” Yours and your former colleagues’. In Brobeck’s plan, however, the forfeited shares are returned to the firm, not the remaining associates and staff. This policy has gotten the attention of associates who otherwise may have considered jumping ship to an in-house position. “If I stick around for seven years, I may make partner, but I will definitely receive a huge portion of the shares others have left,” says a third-year associate with a New York firm. Others do not see the benefit materializing. “In concept, I’m excited,” says another third-year associate for a Boston firm, adding, however, “I don’t believe it will be as lucrative as some are proclaiming.” HOW MUCH IS ENOUGH? With many firms starting their first venture fund in the past year or two, most are starting small with bigger plans for the future. “We want to walk before we run,” Akin Gump’s Lawrence says. Like most firms, his put limits on investments to protect against “two evils.” They didn’t want too much funding to start. And they didn’t want to have a handful of partners with controlling interest. Limits will also keep partners from biting off more risk than they can chew, and putting extra pressure on the decision-makers. “I don’t want to be responsible for anyone with $500,000 invested,” says Piper Marbury’s Martin. Some firms, including Shaw Pittman, have no maximum limit for partners. Yet Thomas McCormick, who chairs Shaw Pittman’s corporate group, says, “We wouldn’t want any single partner to have a disproportionate amount in the fund.” What I recommend to Shaw Pittman and others that wish to give free rein to partners is to set a limit on the percentage of the fund that a partner may own. This also addresses what might happen should we see a downturn in the economy, when those in thriving practice areas may be able to invest much more than those in areas hurt by the downturn. WHERE TO INVEST? There are three broad categories of investment choices for venture funds. Firms may choose to invest directly in a client, in a client alongside a venture capital firm, or in nonclient companies through a venture capital firm. Most often, firms have expressed the most confidence investing alongside other venture capital firms. The amount of energy and due diligence is dramatically reduced by investing alongside a professional firm. Ned Martin of Piper Marbury bluntly states, “If a major venture capital firm is making an investment alongside us, why would I waste my time? Someone who has their own money on the line will do a better job than us.” ETHICS ISSUES Most partners believe that investing side by side with venture capital dollars also reduces the ethical questions, as the law firm is working through an outside, independent investment firm rather than directly with the client. Also, compared with the amount a venture capital firm invests, a law firm’s investment is peanuts. Therefore, ethical concerns of majority ownership in the company will not be an issue. Whenever there is talk of a lawyer or firm investing in clients, ethical issues must be raised. Raised and forgotten, according to the overwhelming response from sources I interviewed. As long as they stay within certain parameters, it seems, partners remain relatively unconcerned about potential conflicts of interest. “Sure, there are concerns,” Ned Martin of Piper Marbury agrees. In most of their investments, they “tag along with others,” taking only a small piece of the pie. This also removes Martin and his colleagues from negotiating venture deals with their clients. “Ethical rules permit it, but rules must be followed,” says Jeffrey Greenbaum, co-chair of an American Bar Association litigation section task force that is currently studying the issue. “Investments should be done in a carefully controlled manner.” His report, “Lawyers Investing in and Doing Business with Clients,” due out this fall, will offer model policies and agreements. FALL BACK ON THE BASICS With all the hype of these venture funds and their great potential, I have not heard too much discussion of the risks. This is not your mother’s 401(k), claims one partner. These investments are not insured by the Federal Deposit Insurance Corp. or protected by the Securities Investor Protection Corp. coverage like most traditional investments, and most are small private start-up companies not monitored by the National Association of Securities Dealers or the Securities and Exchange Commission. And of course, the past success of these funds will not be indicative of future results. As a partner, you should allocate an amount that is neither overwhelming to your overall portfolio nor insignificant. A good rule of thumb may be between 1 percent and 10 percent of your invested retirement dollars. Remember, new funds will open every year. While the economy is strong today, things may change in the future, and you will be hard-pressed to find anything as illiquid as your firm’s venture fund. The old financial planning principles still apply: Keep up the maximum 401(k) dollars, do not take on excessive mortgage or credit card debt, and build up a cushion of emergency funds. Many technology attorneys encourage their fellow partners to be levelheaded about their funds. Sure, many attorneys in Silicon Valley have become filthy rich — exponentially more than what they expected to earn when they entered law school. But bear in mind that you didn’t complete law school and years of associatehood just to have a chance to invest in the next big technology. You are fortunate to have the credentials to earn substantial income from your practice, especially while the economy is good. Keep an eye on your big picture and financial goals. For you, donning the golden handcuffs for a time may be a means to meet your financial goals. Your firm’s venture fund should never be the only determining factor in planning your career. Keep on practicing law, and if one of these years, your venture fund does pay off, let that be the icing on your career — and possibly even your retirement.

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