Paul L. Caron

Friday, September 18, 2020

Why Law Firms Collapse

John Morley (Yale), Why Law Firms Collapse, 75 Bus. Law. 1399 (2020):

Law firms don’t just go bankrupt—they collapse. Like Dewey & LeBoeuf, Heller Ehrman, and Bingham McCutchen, law firms often go from apparent health to liquidation in a matter of months or even days. Almost no large law firm has ever managed to reorganize its debts in bankruptcy and survive. This pattern is puzzling because it has no parallel among ordinary businesses. Many businesses go through long periods of financial distress and many even file for bankruptcy. But almost none collapse with the extraordinary force and finality of law firms. Why?

I argue that law firms are fragile in part because they are owned by their partners rather than by investors.

Partner ownership creates the conditions for a spiraling cycle of withdrawals that resembles a run on the bank. As the owners of the business, the partners of a law firm are the ones who suffer declines in profits and who have to disgorge their compensation in the event the firm becomes insolvent. So if one partner leaves and damages the firm, it is the remaining partners who bear the loss. Each partner’s departure thus has the potential to worsen conditions for those who remain, meaning that as each partner departs, the others become more likely to leave as well, eventually producing an accelerating race for the exits. This kind of spiraling withdrawal is sometimes thought to be an unavoidable consequence of financial distress. But if law firms were not owned by their partners, spiraling withdrawals would not happen. Indeed, the only large law firm in the history of the common law world that has ever survived a prolonged insolvency (the British and Australian law firm Slater and Gordon) is also one of the only large law firms that has ever been owned by investors. These insights have extensive implications for how we understand law firms and corporate organization more generally.

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"if one partner leaves and damages the firm, it is the remaining partners who bear the loss." That's a big AND. Not all partner departures damage firms. Some help. In addition, as firms become more and more eat what you kill, and less lockstep, partners are being paid more or less what they contribute -- meaning their departure has a net zero effect.

Posted by: anon | Sep 21, 2020 10:55:51 AM

They focus and waste money on diversity nonsense at the expense of the bottomline.

What do I win?

Posted by: Anon | Sep 18, 2020 7:34:40 PM