(Credit: ALM)

SAN FRANCISCO—Law firm partnerships just keep getting more complicated. There are equity partners, non-equity partners, and then for those such as former Heller Ehrman partner K. William Neuman there’s something in-between.

Upon Heller’s dissolution in 2008, Neuman was being paid a salary rather than out of the firm’s profits, but he maintained voting rights in firm matters under a employment agreement hastily drafted in the firm’s waning days. Making matters even more complicated, Heller never paid back Neuman’s capital contribution.

On Monday, a divided panel of the U.S. Court of Appeals for the Ninth Circuit found that even under these peculiar circumstances Neuman was still technically a “shareholder” in the firm at the time it went under. The ruling means that Neuman cannot pursue more than $1 million in the firm’s bankruptcy proceedings that he claims he was owed in back-pay for the salaried position.U.S. Circuit Court Judges M. Margaret McKeown and Jay Bybee found in an unpublished seven-page opinion that U.S. Bankruptcy Judge Dennis Montali, who has been overseeing Heller’s dissolution, erred by finding that the 2007 letter agreement between Neuman and Heller Ehrman LLP had terminated his status as a shareholder and converted him to an employee.

“Heller’s dissolution foreclosed any further compensation to Neuman, as a shareholder, once the dissolution committee decided in September 2008 to stop paying shareholders any further compensation,” wrote McKeown and Bybee.

Robert Hillman, a professor at UC-Davis School of Law and expert on law firm partnership issues, said that Neuman’s case highlights that “partnership law has not really caught up with the modern law firm” where partners’ relationship to the business often more closely resembles that of an employee taking direction from management than an owner with an equity and voting stake in firm business. Although there have been wave of partner de-equitizations at firms seeking to boost profitability over the past decade, Hillman said that there are very few cases dealing with the phenomenon and none that he knows of involving an “in-between” case like Neuman.

Monday’s decision, Hillman said, presents a “worst of both worlds” situation for Neuman: He didn’t share in the potential upside of Heller’s profits should the firm have survived, but he suffered the loss of his capital contribution with the firm’s dissolution.

Arthur Ciampi, a partnership law expert at Ciampi LLC in New York, said that one takeaway for partners in Neuman’s position is “If you’re going to get bought out, really get bought out” and insist on getting capital back from the firm. However, both Ciampi and Hillman question whether getting capital back from Heller was an option for Neuman since his status was being renegotiated in 2007 while the firm’s finances were already flagging.

Dissenting from Monday’s opinion, Circuit Judge J. Clifford Wallace wrote that the bankruptcy court had not made any clearly erroneous factual findings in the bench trial below, the standard required for reversal in the case. Wallace also agreed with Montali’s conclusion that the 2007 letter agreement terminated Neuman’s shareholder status, leaving the Heller lawyer eligible to pursue claims for back-pay as an employee. “To me, the hallmark of being a partner or a shareholder in a law firm is having an equity stake in the firm’s profits and losses,” Wallace wrote. “Here, upon signing the 2007 agreement, Neuman no longer had any economic stake in the firm’s bottom line.”

According to LinkedIn, Neuman worked at Heller for 32 years. He joined Schiff Hardin as of counsel in 2008, according to his profile, which now describes him as a business and legal consultant.

Neuman’s lawyer Michael St. James declined to comment. Neuman did not respond to a message sent to the email address listed for him on the California Bar’s website. Christopher Sullivan of Diamond McCarthy, special litigation counsel for the administrator winding up the Heller estate’s affairs, didn’t respond to an email message.

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