Three Things We’ve Learned from the Dewey & LeBoeuf Collapse

The post-mortem for Dewey & LeBoeuf won’t conclude for quite some time. Once the dust has settled and the 1,000+ lawyers have landed elsewhere, we may get the full behind-the-scenes story.

For today, we’re learning that revenues went down, expenses went up, and the firm was obligated to pay huge sums to some key personnel. Certain lawyers were guaranteed huge, multimillion dollar salaries regardless of the overall performance of the firm.

The money ran out.

What can those of us in smaller firms learn from the Dewey & LeBoeuf collapse?

1. We’ve learned that business cycles are inevitable. The economy will go up, and it will go down. The economy affects everyone regardless of how big and how powerful you may think you are. The cycle will grow certain practice areas and shrink others. Things change, and they don’t always change in a positive manner.

2. We’ve learned that payroll is the expense that really matters. When payroll gets out of control, the whole business can collapse—very quickly. Most of us spend most of our money on payroll. It accounts for half or more of the expenses in most law firms. We have to keep tight control over payroll commitments. No employee is worth the collapse of the business. You’ve got to be careful to connect salary commitments with profitability. Whatever the system, it can’t require you to keep making huge expenditures when profits dry up.

3. We’ve learned that we need variability in our expenses. We can’t predict the cycles. When bad things happen, we need the flexibility to cut costs promptly. We can’t make big payroll commitments without providing a quick escape hatch. Payroll—all payroll—needs to be variable: it’s essential. More and more firms pay commissions to attorneys based on origination and productivity. Big firms that previously paid salaries and maintained lockstep compensation systems have migrated toward performance-based compensation. Ask a big firm associate how much revenue he needs to generate to cover his overhead. In many firms, associates will be able to spit out the number without thinking about it: they know what they need to do to make more money.

Variable payroll requires a big, emotional transition for many firms with a history of paying fixed salaries or salaries plus bonuses. You’ve got to make a change so that payroll can go down rather than just up. Conservative attorneys aren’t comfortable with risk and resist the variability. Those attorneys, and the firms that make commitments to those attorneys, sometimes end up unraveling like Dewey. In the end, the conservative attorneys and the firm all end up with nothing. It’s time for a change in those firms.

Variable payroll also requires big changes for the non-attorney staff. It’s challenging to develop variable pay structures for administrative support and paralegals. It’s important, however, to find a mechanism for introducing variability when non-attorney payroll represents a significant expenditure for the firm, as is the case in most small firms. Some firms are shifting toward virtual support and paying hourly for the help they need. That solution immediately introduces variability to the non-lawyer payroll.

Watching a firm like Dewey fall apart is frightening to smaller firms. We assume the big firms know what they’re doing and are well positioned to survive the ups and downs of the business cycle. Unfortunately, they’re subject to the same economic pressures as the rest of us.

There are lessons to learn from Dewey. We’re in a better position than most big firms to act quickly on those lessons and protect ourselves from the same fate. Look at your business practices and apply these lessons to your firm. That way, as things change economically, you’ll still be around long after some firms, like Dewey, are long gone.