Most associates in law firms are over the moon to be invited to become partners. Likewise partners unhappy at their present firms are often delighted to be offered partnership elsewhere. Only if things go wrong are partnership lawyers consulted; only then does it become apparent whether the due diligence carried out by a candidate for partnership was inadequate or non-existent.
Recently I advised an able and cautious lawyer. When offered partnership, he had asked the equity partner with whom he had worked closely as a senior associate for a copy of the latest completed accounts and up-to-date management accounts.
The partner took offence and said that there was no reason for his colleague to see the firm’s accounts, which he would not understand anyway. My client went ahead and signed a deed of accession. Less than a year later it emerged that the firm was hopelessly insolvent. No names, no pack-drill but I am certain that my client would not have allowed a client of his to enter into a transaction carrying a similar degree of risk without first making detailed enquiries.
Asking for accounts is an obvious step towards minimising risk. But sadly few solicitors really understand the financial dynamics of a law firm or appreciate the importance of lock-up (i.e. days tied up in work-in-progress and debtors) in assessing the adequacy of a firm’s working capital. Others would do well to approach an experienced solicitor or accountant able to explain financial issues and to compare the figures with those in comparable firms.
However before that stage there are two logically prior steps.
The first is to look at the structure of the partnership. Almost half of the domestic private practice law firms in England and Wales operate as either a limited company or as a limited liability partnership. A potential partner at a traditional partnership, where each partner has unlimited liability, might properly question why the partners practise without the benefit of limited liability. There are almost 1,000 foreign law practices in England and Wales, many growing aggressively. Sometimes a UK partner will become a member of both a UK LLP and another entity based abroad. Too often implications are considered only when it is too late to discuss the issues and negotiate a solution.
The other initial step is to request a copy of the firm’s standard terms of business and to look for clauses limiting the firm’s liability to clients. Once it was considered unprofessional to limit liability to clients; those days have long gone. A candidate for partnership in a firm which does not limit its liability to clients would be well advised to ask more questions about the extent of the firm’s professional indemnity cover than might otherwise be the case. Because professional indemnity policies are written on a “claims made” basis, some traditional partnerships agree that new partners will not become liable for negligence claims arising from work done before they became partners.
There are a few so-called virtual law firms in which partners and staff normally work from home. But for most firms, the office from which the practice is carried on is a significant factor. A partnership candidate might wish to consider carefully the terms on which a firm occupies its premises. A lease at above market rent may impair long-term ability to compete.
I have sometimes seen law firms practising from premises owned by a minority of partners and leased to the firm. This situation creates much potential for argument, especially at the time of a rent review. I suspect that more firms encounter serious difficulty as a result of problems relating to premises than over any other single issue.
One way to assess a partnership is by looking at whether incoming and departing partners are treated fairly. When advising a partnership candidate on a partnership deed or LLP members’ agreement, I review more than three dozen separate points. I recommend avoiding firms where the default regime applies (whether under the Partnership Act 1890 or under the Limited Liability Partnership Act 2000 and regulations made under that Act).
The conventional way of assessing the commercial success of a partnership is by reference to average profit per equity partner. I also ask about staff and partner turnover and the trend over, say, the last three years. It may be helpful to work out not only the numbers of those who have left but their reasons. It is invariably interesting to hear partners speak about their departure from a previous firm. This point informs both my advice to firms losing or gaining partners and the questions I suggest should be raised by partners moving to a new firm.
Ronnie Fox specialises in the law relating to partnership and employment at the City firm Fox.