As clients continue to ask law firms for alternatives to hourly billing for costly and risky cases and law firms try to reconcile those requests with their own risk tolerance and historical profitability under the hourly model, many have found the answer lies in partnering with a legal financier whose time horizons and appetite for risk can bridge the gap. But law firms should look beyond the funding of individual cases for individual clients when they think of legal finance. Sophisticated third-party capital can also support significant expansion of a firm’s practice, by facilitating the integration of lawyers, practice groups, and even entire firms whose billing model is premised on taking greater risk than the suitor firm is traditionally willing to embrace. By the same token, it can help resolve tensions among existing firms that seek a consensus on litigation risk tolerance. Like a threaded coupling or an electrical converter that allows non-matching mechanical or electrical components to be joined seamlessly together, legal finance can be the “adapter” that brings together lawyers with compatible talents but different economic outlooks and comfort levels.
The legal profession includes firms that run the gamut from strict hourly to fixed-fee or capped, to partial or full contingency billing. Clients continue to demand more and better alternatives to hourly billing. Meanwhile, the current brisk pace of law firm mergers shows that, more than ever, top-flight firms are seeing the potential upside of integrating their operations, across geographic lines or practice areas, to capture economies of scale and exploit complementary skills and client bases. But hourly billing persists, and far more lateral acquisitions and merger talks fail than succeed. One reason for both phenomena: Lawyers don’t all have the same appetite for taking litigation risk. Some firms, and some lawyers within firms, are wedded to the security of hourly billing, while others embrace downside economic risk in exchange for the prospect of greater reward. Despite the compatibility of lawyers and their practices in most or all other respects, lawyers and firms who feel an initial attraction may fail to come together, and existing firms may break apart, over the issue of risk tolerance.
Consider the most complex of lawyer combination scenarios: the complete merger of two active firms. Picture White & Shew, a century-old corporate/M&A firm based in New York and Boston that would like both to exploit its corporate client list’s steady need for litigation services and to extend its transactional reach into the tech sector. And then picture Newsom Guise, a boutique formed by a former AmLaw 10 litigator and his best friend from law school, a biotech lawyer from Silicon Valley, and the junior partners and associates they cherry-picked from their former firms. They’d like both to access a national or international client base and to enjoy a little more stability than their small firm can assure. Everybody has a blue-chip resume, a sterling work ethic, and a commitment to excellence. But White’s partners grew up in a billable-hour culture where the idea of looking for “upside” was and still is viewed as unnecessary, particularly if it meant taking on downside. Newsom kindled its rise with and still makes its money on contingent fees, startup stock in lieu of monthly bills, and a love of the prospects of extra-base hits. Is there a lasting relationship there, or is it hopelessly star-crossed?
One way to make such a marriage work is for the firms to bring aboard a legal financier whose ready capital, risk appetite, and time horizon can bridge the cultural gap. A financier can, on a non-recourse basis—that is, with the cost to the firm to be paid only out of the proceeds of successful engagements—offer the firms:
· A means of offering partial or full contingency fee structures to clients, as Newsom traditionally has, while assuring guaranteed recovery of a portion of the firm’s billed time and expenses on a monthly basis, in line with White’s lower risk appetite;
· Immediate monetization of a portion of the expected proceeds of settlement or judgments in contingent-fee matters, to ensure and accelerate those receipts and smooth out cash flow;
· Advancement of capital to pay extraordinary expenses incurred in merging the firms, regular operating expenses, or even near-term partner draws, without resorting to bank credit lines that are full recourse to the firm, and also possibly to its partners.
The same tools can be brought to bear to facilitate the lateral move of a single partner or group of lawyers. In each instance, the legal financier’s willingness to go on-risk when the firm contemplating the integration is resistant, coupled with its multi-year time horizon (i.e., it willingness to take its return when litigation resolves, however long that may take), in contrast to law firms’ traditional current-year economic focus, provides the economic “adapter” permitting the combination of a risk-taking, volatile-cash-flow practice with a risk-averse, short-horizon one. The economic gap is bridged, allowing the lawyers to focus on finding their synergies and using them to build an expanded brand.
Finally, in case it’s not already obvious: What’s true of lawyers from different firms who want to explore joining forces is equally true of lawyers within a single firm who can’t quite find a ready consensus on risk and reward. Many firms are currently engaged in vigorous internal discussions in which young turks with a taste of risk-taking—or older turks with a track record of successes that has altered their perception of litigation risk—are challenging their older or more conservative partners to look for extra-base hits, and pointing to client demand for alternative fee structures to support their challenge. Traditionalists are looking for ways to leverage their brands without the prospect of a roller-coaster financial ride. Sometimes the factions continue to practice in an uneasy compromise; sometimes, they splinter. Just like lawyers or firms considering combining their practices, lawyers who have already committed to each other as partners may find legal finance the ideal risk-free approach to reducing appetitive or generational stress on the glue that keeps firms together and successful.
Reprinted with permission from the November 30, 2023 edition of the New York Law Journal © 2023 ALM Global Properties, LLC. All rights reserved. Further duplication without permission is prohibited, contact 877-256-2472 or [email protected].