Dividing Profits Among Partners: A New Approach

Our firm is now a three partner entity.  We are fortunate enough to be in a position to disburse profits throughout the year, in addition to our salaries.  Like everything else at Traverse Legal, we did not blindly follow the path of other firms in deciding how profits would be shared.

I have been involved with law firms who had very simple formulas for profit sharing.  Many of them simply add up all the collected billable hours and thereafter provide a multiplier based on origination.  The incentive in most firms is to bill as many hours as you possibly can and originate work which is billed by other lawyers in the firm.  While this approach is relatively simple to apply, it hardly provides the correct incentives from either the firm’s point of view, or the client’s point of view.

First of all, there is no substitution for hiring and working with good people.  If you bring in the wrong partner, no formula will protect you from that partner’s greedy discontent.  Our formula is built on good faith and goodwill towards each other.  We use metrics, set forth below, to help define each lawyer’s contribution to the firm on many levels.  But a partnership is only as good as the people in it. 

Unlike many firms, we distribute profits throughout the year.  Many firms hold on to profits until the very end, where they distribute sometime just before or after Christmas.  We have found this approach to be inadequate and unnecessary.  We certainly did not want our families to take on debt throughout the year if it wasn’t necessary.  Now, we have a minimum level of income we like to see in the bank account at the beginning of each month.  Once the bank account grows beyond that limit, we start considering a profit distribution.

The Revenue Component:

We do track revenue where possible for each lawyer.  However, since most of the work we do is on a flat fee and we do not keep track of hours, we are simply left with a revenue number for each matter.  When dividing profits, we simply discuss who brought in the client, how important the client is to the firm, what we believe each partner’s contribution was towards the result achieved (and irrespective of how many hours were put in by the way) and then assign a percentage of that to each partner.  This requires that we discuss each case and justify for ourselves, and for each other, the contributions that were made by each.  If this approach sounds like a recipe for disaster in your firm, I would suggest that maybe you’re working with the wrong group of people.  In our firm, we spend much more time identifying each other’s contributions, than our own.  The magical part of this process is the fact that we are continually reinforcing issues such as:

• Who are our best clients,
• What practice areas are the ones that we want to focus in on as a firm,
• How do we collaborate better as a group,
• What cases do any of the partners want to jump in on in the future in order to enjoy expected or anticipated revenue,
• What adjustments should we make for revenue received or written off for a partner who jumps into a difficult case, or one where the client will be unable to pay.

Nurturing Client Relationships:

Any law firm partner profit sharing program should provide incentives which go to the heart of your business.  The heart of any law firm is its client base.  When assigning a portion of revenue for any particular project, we always discuss the amount of time, effort and innovation in getting a particular client retained, putting that client into an optimal fee arrangement, defining deliverables for each project, moving the client into the next project, and engaging in all those intangible items such as phone calls, newsletters, etc. which turn a client project into a client relationship.  Again, we understand that client relationships are incredibly important for our firm’s success.  We have specific rewards in place for partners who identify prospective clients, get them retained and put them into a program which works for us and the client. 

Firm Administration:

Every firm requires a tremendous amount of administration.  This is the dirty work which keeps payroll coming, hires new employees, develops marketing plans, incorporates new technology into the business process and keeps the firms infrastructure up and running.  There are always lawyers in the firm who handle certain administrative items better than the others.  But administrative items don’t directly result in revenue.  How does a firm encourage its best administrative partners to make contributions to the firm in those critical areas?  The answer, of course, is to account for administrative tasks and reward partners under the formula for jumping in and handling those tasks.  We adjust the revenue numbers based on the value provided by each lawyer across our wide range of administrative areas. 

The Intangible Items:

If you can identify a firm which has specific metrics and tangible rewards for creating a positive attitude and dedication to the firm, I would like to hear about it.  Our formula specifically measures items such as firm spirit, attitude, dedication, support for other partners, community involvement and cohesiveness.  Not every lawyer can be a ring maker.  But who is more valuable, the grumpy lawyer who invisibly brings in new clients or the partner who keeps the staff and other lawyers feeling good about themselves or their firm?  We reward lawyers on these metrics by adjusting their profit ratio according to these items. 

So, here's what we end up with at the end of our process.  We assign percentage of revenue to each lawyer on a project by project basis.  We then measure the contributions of each partner in the areas of client relationships, administrative tasks and firm intangibles.  Those percentages work to adjust the assigned revenue numbers, either up or down.  We take those percentages and apply them to the amount of profits available for distribution, make any other adjustments we feel are appropriate, and divide accordingly.  The process of dividing profits becomes collaborative and encourages all of the discussions that any firm would want its partners to be having about the incentives which need to be in place in order to grow and prosper.  It does take time, but the time is well spent.

How does your firm determine profit sharing?  Do you think the formula you have in place is fair?

Comments

[Profit sharing; partner distribution; Greatest American Law Firm]

Three important elements underly the successful implementation of such a profit sharing approach:

1. Value for value - This means that each partner must be willing to receive, and conversely allocate, value (profit) for the amount of value he/she has delivered. In order for this to occur, the partners need to agree upon what adds value, which as said above, is more than simply client generation and revenue. Value can be anything that improves the firm. The more value you add, the more value you receive. The most beautiful part of this element is that if all partners are driving to deliver value, the more often and the greater amount of value (profit) there is to distribute.

2. Sharing - A prerequisite to our "distribution meetings" is profits. Without having generated the necessary profits, we would not be in a position to distribute to the partners, and others of the firm for that matter. Some may think the need to generate profits would force each partner to hoard the most valuable matters. However, our approach encourages each partner to share, which leads to collaboration, which ultimately leads to a better outcome for the client. By sharing particular matters (be it with partners or virtual law clerks), we maximize the strengths of each firm member to increase efficiency, and hence, productivity. The outcome is that we are able to do more with less. By sharing, the profits increase. Come time for distribution, the value added to a matter may be split more than three ways. Be willing to share.

3. Loyalty - Loyalty is one of the most important elements of this approach. Each partner must be loyal to the firm, to the client, and to each other partner. It is easy to be loyal when times are good, but when things get slow or challenges arise, remaining loyal to the approach and each other will ensure sustained success. Never forget that you are all in it together. We have already learned we are better as three than anyone of us alone. We know our clients (and likely our adversaries) agree!

Keeping these three elements in mind will empower you to change your firm, reward one another, and truly enjoy what a partnership has to offer.