Dewey & LeBoeuff

With a bang, not a whimper

When a law firm gets into trouble, it can be hard to recover

THE chief benefit of the merger of Dewey Ballantine and LeBoeuf, Lamb, Greene & MacRae may have been a shorter name. The deal, in 2007, created Dewey & LeBoeuf, the world's 23rd-biggest law firm by revenue. The new firm was ambitious. But according to the American Lawyer, a magazine and compiler of legal league tables, revenue for 2010 turned out to be $760m, $150m less than first thought; last year's sum, $782m, was not much better. Dewey has lost 70 of its partners—more than a fifth of the total-and more keep jumping ship. It is said to be considering a "prepackaged" bankruptcy and a merger with another firm, Greenberg Traurig.

The speed of Dewey's decline shows how fragile law firms' finances can be. If a public company gets into trouble, the price of its shares falls, giving investors an incentive to buy if they think the market undervalues it. In companies with physical assets, creditors can demand that they be sold to repay loans. But nearly all law firms are private partnerships whose only real assets are the partners themselves. Not only can they not be sold; they can get up and walk to a new firm. Worse, American lawyers (unlike their British cousins) typically take their clients with them.

Survivors of failed firms talk ruefully about what went wrong-usually, overexpansion in one of two ways. The first is geographical: a regional firm going national or a national one, international. This tends to dilute profits per partner. Offices abroad, especially, can take a long time to turn a profit. The second sort of expansion (Dewey's kind) is to hire hotshot partners from outside. According to lawyers from other firms, Dewey committed two sins: guaranteeing poached partners their first few years of income, and borrowing from banks to pay for them. Unusually, in 2010 Dewey also issued bonds; the first of these mature next year.

Firms with large debts are vulnerable if a big client leaves, a practice area sours or the economy weakens. Partners may sit tight for one bad year, but after another some will scarper with their clients. Firms that have nurtured their own talent are likely to have more loyal lawyers; poachers such as Dewey, fewer. Expensive hires can cause resentment. "There's only 100% of the profit to go around," says Ward Bower of Altman Weil, a consultancy. "To the extent anyone is overpaid, by definition someone else is underpaid."

If enough people leave, the firm may break loan covenants with its banks, which can require it to have a minimum number of partners. Loans may be called in at once, or continued only under onerous conditions that can hasten the decline.

To stop an implosion, managers must act decisively, says Randall Miller, of Bryan Cave in Denver. He was managing partner of Holme, Roberts & Owen, which found itself in a tight spot several years ago. An expansion in western states and a split (over that strategy) with the Salt Lake City office left the firm in trouble. Partners were leaving. Mr Bower's Altman Weil helped with a scouring of excess costs. A "brutally honest" conversation with the partners helped convince enough of them to stay to allow the firm to stabilise and survive. It merged with Bryan Cave this year.

But Mr Miller points out that his firm did not take on big bank debts, as Dewey did. According to the Wall Street Journal, the firm has until the end of April to negotiate the extension of a credit line. Dewey's lineage goes back a century. It may survive for another century, but only if its leaders act decisively in the coming weeks. Other firms watch not with glee but with nervousness, knowing that a short run of bad luck could put them on the same wobbly precipice.