Generational change is slow in law firms
19 October, 2015
A recent study reveals the dangers of being slow to in making generational changes in law firms.
Leadership in AmLaw100 firms is concentrated in the hands of older baby-boomers and members of the Silent Generation, born before the end of World War II. But while there is clear evidence of generational change occurring in the leadership of their clients, the same is not as clear in firms.This slowness to respond to generational change on the part of law firms is creating risks of cultural and generational mismatches.
The study, compiled by Heather Morse at a leading Los Angeles law firm, shows almost 20 percent of Fortune 100 and 30 percent of Nasdaq general counsel are Gen X members compared with fewer than 5 percent of AmLaw leaders. This generational mismatch poses dangers for client relationship management. And also for partner retention if older partners hold on too long and don’t share opportunities for growth with their younger peers.
The demographics of Australian law firms reflect a similar problem. In the 50 largest law firms 43% of partners are over the age of 49 (1). The impending difficulty for firms is not just that a large number of partners are approaching retirement, it is that whole blocks of partners are likely to leave in a relatively short period of time.
Risks of being slow in accommodating generational change
This presents a number of problems, including client retention, withdrawal of working capital, retirement payouts in some firms, loss of ‘grey hair’ experience and leadership changes.
The issues firms must address in managing succession are:
- Deciding if succession will come from within the firm or by lateral recruitment;
- Maintaining revenue by ensuring the orderly transition of client and referrer relationships;
- Dealing with the cash flow and debt issues associated with partner retirements; and
- Filling leadership positions.
Consideration of whether succession will come from within the firm or by lateral recruitment is very important in preserving the fabric the firm. My colleague Paul Hugh-Jones points out in his insightful post on lateral partner recruitment why detailed due diligence is needed to ensure there is a good cultural fit. Lateral partner recruitment is clearly not without risk and can have a material negative impact on a firm’s cash flow and profitability if it is not managed with extreme care. And even then, the success–failure ratio is worrying.
When Beaton Capital works with firms on succession planning we review the distribution of client relationships and it is often the case that the key client relationships rest with the senior partners. This is often driven by partner performance metrics so care needs to be taken when starting the process of transition.
The metrics for partners approaching retirement must reward the transfer of relationships and day-to-day client management. Any firm with a distribution of client relationships and fees introduced like that in the accompanying chart should be acting now.
Without being melodramatic, tomorrow may well be too late.
Debt and cash flow
The debt and cash flow impact of partner retirement varies. Firms with goodwill need to find partners willing to acquire the retiring partner’s equity, those with a pension plan need to fund the payments and others will need to replace working capital contributions. Firms must forecast the cash flow impact of partnership changes and ensure sufficient working capital funding is in place, to ensure that day-to-day operations are not affected.
Bank lending covenants
An issue often overlooked is the impact of bank lending covenants that may restrict the number of equity partners that can retire in a given time frame. Maintaining an open dialogue with lenders on firm succession planning is important to ensure lending conditions allow an orderly change in the firm.
Many firms will have to deal with the retirement of the founders of the current firm, many of whom have held long-term leadership positions. Addressing an orderly change in the leadership, well before those partners retire, is crucial to ensure corporate knowledge is retained.
Rather than follow the highlighted example of the AmLaw100 law firms, Beaton believes firms should conduct open dialogue about partner succession planning up to 10 years out and commence succession management five years out from retirement. This will help manage the expectation of younger partners about the timing of future opportunities and allow time for decisions on internal versus lateral succession, transfer of client relationships, debt and cash flow management and firm leadership changes to be conducted in a reasoned and detailed way.
In too many law firms generational change is too slow – and worrying for clients. How well is your firm prepared for generational change and succession?
Further reading on related topics
(1) Information provided by the firms – Beaton Research + Consulting research for The Australian Legal Affairs section.
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