The fracturing of Big Law

Jeffrey MacMillan/Capital Business - Howrey grew from a Washington litigation firm to an international player with offices in 18 cities before it collapsed in 2011.

As recently as December, Dewey & LeBoeuf had more than 1,000 lawyers in 26 offices around the world, annual revenue close to $800 million, and attorneys who had a hand in some of the biggest headline-making deals of the last decade.¶ Now the law firm, the product of one of the largest legal industry mergers in history, is rapidly unraveling. Employees have been warned the firm could shut down this week, and remaining partners have been urged to seek other job opportunities, according to several published reports. The Manhattan District Attorney’s office is investigating accusations of wrongdoing by ex-Chairman Steven Davis — allegations his attorney denies. And last week, three of the firm’s four-member office of the chairman decamped to other law firms, as of Friday, the new firms confirmed.

A spokesperson for Dewey did not return requests for comment.

The downward spiral has come as a shock to many outside the legal industry, but in some ways the collapse follows a path taken by the Washington law firm Howrey 14 months earlier. Dewey partners departed in trickles at first, then increasingly in waves. There was the D.C. managing partner who left to join King & Spalding in February, followed by the three senior partners who moved to Sidley Austin in D.C. and Los Angeles, and the 12 who then landed at Willkie Farr & Gallagher in London, New York and D.C. Suddenly, partners were moving on at a near-daily rate. Between January and May, the Dewey partnership dwindled from 320 to around 160.

Howrey and Dewey are extreme examples of how rapid expansion during the recent economic boom is coming to haunt firms that sought fast growth.

In its final years, Howrey snapped up large practice groups and entire firms at a breakneck pace, going from a one-city Washington firm specializing in litigation to an international player with 18 offices worldwide.

Dewey built its legal empire with promises of multimillion dollar pay guarantees to lure star lawyers from other firms.

In each case, the firms tried to negotiate a soft landing by merging with another firm, only to have talks go nowhere.

The sprawling firms proved unsustainable when the financial crisis struck and clients pulled back. Dewey, saddled with lower-than-expected profits and mounting debt, found itself unable to pay its partners, and they began leaving in droves.

Legal and bankruptcy experts said they may not be the last to be hurt by an exodus of attorneys seeking greener pastures.

“If you ask me, I think there are going to be a number of law firm insolvencies in the coming months,” said Allan Diamond, a Houston bankruptcy attorney who is representing creditors in the Howrey bankruptcy.

Other large law firms followed a similar pattern of expansion in the 2000s: they ballooned swiftly, either through mergers or lateral hiring, “all with the underlying assumption that the markets would grow and the business would grow,” said Diamond, who is also working on the bankruptcy of a law firm known as Dreier. “Of course, what’s happening is the exact opposite. Starting in 2008 and the global recession, there was a massive contraction of business in the legal marketplace.”

Corporate counsel, law firms’ biggest clients, are using outside firms less. From the firms they are using, they’re demanding lower fees. Law firm expenses are rising, but legal work is not pouring in at the same rate. And most large firms have already cut as much fat as they could, hiring far fewer associates, laying off staff during the height of the recession, and outsourcing back-office jobs to less-expensive U.S. cities.

Big law gets bigger

“The big law firm is a relatively new thing,” said Sean Boland, former Howrey vice chairman now at Baker Botts in Washington. “Law firms have not been this big for very long. We also haven’t seen a slowdown in the business environment quite like this one, ever.”

There have been warning signs. The past decade has seen several big firms collapse: Heller Ehrman and Thelen in 2008, Coudert Bros. in 2006, Brobeck in 2003.

“It’s not a new phenomenon,” said Stephen Nelson, managing principal for the law and government affairs group at the Arlington executive search firm McCormick Group. “However, I think the fears are out there that this will become more of an issue during the ‘new economy’ because it is so much harder year after year for firms to show an increase in profitability.”

When law firms talk about profit, they typically mean profits per partner, the standard by which a law firm measures its success and its main tool for recruiting and retaining top talent. To boost profitability, firms are increasingly banking on a growth strategy of poaching attorneys from other firms who come with built-in books of business, known in the industry as “rainmakers.”

According to statistics collected from The American Lawyer, an industry publication, lateral hiring jumped 22 percent between 2010 and 2011, and are now back at pre-recession levels. That volume of lateral movement was relatively unheard of a generation ago when lawyers started and ended their careers at a single firm. And it’s risky because the same partners who can instantly boost a firm’s bottom line can walk out the door just as quickly.

“There is a free-agent mentality in law firms, which has never been greater than it is now,” Nelson said. “In the past, there was more loyalty and more of a sense that the firm stood by its partners when times got tough. But that’s not the case anymore. If times get tough, firms start asking partners to leave or de-equitize them. Partners see this going on, and their view is, ‘I’m really only as valuable as my book of business.’ Their book of business is their way out of the firm. If there’s a blip, the big fear is that people will start to leave.”

No escape when
panic sets in

No one knows this better than Howrey and Dewey.

“I believe, and I’ve always believed, that if partners at Howrey did not panic in the fall of 2010, we could’ve kept the firm together,” Boland said. “But there was a panic that set in. My observation is the exact same thing happened at Dewey. Once some critical high-profile partners leave, younger partners start to say, ‘What do they know that I don’t know? This herd mentality develops and it’s over very quickly.”

Nelson said it’s not necessarily growth itself that led to the collapse of the two firms, but the speed and scale at which it was executed.

“I don’t think the fact that both of them went on wild international hiring sprees tells you that was in and of itself the reason for their downfall,” Nelson said. “Other firms have continued to do that successfully. That seems to be the way the profession is going. It’s just that it carries risks when you do it quickly.”

Boland said the same kinds of large lawyer acquisitions that got Dewey in trouble appear to be happening at other firms that are now hiring Dewey lawyers.

“The question is do lawyers really know how to do good due diligence on their acquisitions?” Boland said.

Among the 40-plus law firms acquiring Dewey attorneys is Baker Botts, which last week took in a trio of Dewey partners in New York and Houston, and Morgan Lewis & Bockius, which just absorbed Dewey’s entire 31-lawyer Moscow office. Winston & Strawn picked up 60 Dewey attorneys, including former office of the chairman member Jeffrey Kessler.

Winston & Strawn also took in 51 Howrey litigators in the wake of the firm’s collapse last year.

Chairman Dan Webb said the firm is “pretty comfortable this will be a good arrangement for us and the Dewey lawyers.”

 
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