Litigation threat a block to US mergers

The back story to the Patton Boggs/Squire Sanders merger highlights why there comparatively few mergers stateside.

One of the ways of increasing a law firm’s client base and revenue stream in this age of shrinking demand for legal services and downward pressure on legal fees, is by entering into a merger.  Although the same negative revenue trends have been felt on both sides of the pond, there have been, in 2013 and 2014, twice as many law firms in the UK merging with other firms at least one third or more of their size than there have been in the US. Why is that?

The first answer that comes to mind is the prohibition in the US against placing any restrictions on a client’s right to choose his or her lawyer. Such restrictions are considered to be against public policy. That means that firms in the US are not allowed to do many of the things that firms in the UK typically do to institutionalise the relationship with their clients and to sever the ties between the clients and individual partners. This includes garden leave, non-compete, non-solicitation and long-term notice provisions in law firm partnership agreements, all of which are prohibited in the US.

Partners in US firms have been known to keep clients’ files in boxes, piled high in their offices, so that when they give notice, the same day they leave, if needs be, they can move with their files to a new firm of their choice and seamlessly continue to service their clients. This means that unless management negotiating a merger see to it that the firm’s principal rainmakers are happy with their post-merger compensation, roles and titles, they might scuttle the merger by leaving the firm, taking clients and whole practice areas with them, and cause what might culminate in a ‘run on the firm’. Even if the rainmaker partners tow the management line and vote for the merger today, that does not prevent them from leaving tomorrow and potentially causing a run on the merged firm.

None of this means that one suitor law firm can break off merger negotiations with the other and launch a raid on all the rainmakers it identified in the due diligence process. That type of behavior can be prevented by the insertion of an appropriate non-solicitation clause in a confidentiality agreement between the merger parties at the outset of the merger talks.

The second answer is the ever-present threat of litigation in the US. Unlike the UK, the US legal system never built in the mechanism of ‘loser pays winner’s fees’ as a brake on the wheels of litigation.

A good example of how litigation might upset a merger is the story of the merger of Patton Boggs with Squire Sanders. After that merger was all wrapped up and ready to go, Squire Sanders postponed its partner vote to approve the merger because of a motion, filed in the federal court of New York, by Steven Donziger, one of the attorneys for the Ecuadorian plaintiffs in the now famous litigation with Chevron over pollution in the Amazon rainforest and in which Patton Boggs acted as US attorney for the plaintiffs, asking the court to reconsider its approval of a settlement agreement reached between Chevron and Patton Boggs.

In the settlement agreement, in exchange for the payment to Chevron by Patton Boggs of $15m and in exchange for Patton Boggs publicly announcing its regret for having been involved in the Ecuadorian litigation, Chevron agreed to release Patton Boggs from all claims it had filed against it in Federal Court of New York for allegedly attempting to enforce a $8.9bn judgment against Chevron which Judge Lewis Kaplan found to have been fraudulently and illegally procured in Ecuador and for allegedly obstructing discovery of the fraud. The fraud found by Judge Kaplan consisted, among other things, of the plaintiff’s team ghostwriting the report of the Ecuadorian court’s expert and ghostwriting the judgment itself, which the Ecuadorian judge signed after having been promised $500,000 of the recovery proceeds. An appeal has been filed in the US Court of Appeals against the decision of Judge Kaplan.

In Donziger’s motion for the court’s reconsideration of its approval of the settlement agreement, he argues that in order to pave the way for the merger with another law firm, Patton Boggs sold its former clients down the river, switched sides in the middle of a lawsuit, expressed regret at having taken them on in the first place and agreed to cooperate with Chevron in discovery, all in severe violation of the rules of professional responsibility. Patton Boggs disputes that it has done anything wrong under the circumstances of this case.

Patton Boggs, that desperately wanted the Squire Sanders merger to go through after Locke Lord had backed out of previous merger negotiations out of concern of the same litigation, held its breath for several long days as Squire Sanders reviewed the risks of the ongoing dispute to the merged firm before finally approving the merger at the close of a cliffhanger weekend.

Raphael Grunfeld, partner, Carter Ledyard & Milburn