LB 145 p48-53
25/5/04
2:45 pm
Page 48
Lockstep pressure
THE MAIN MAN What price a big-name rainmaker? Enough for A&O to break out of its once rigid lockstep. Legal Business exclusively reveals the extraordinary lengths the firm was prepared to go to in order to hire a Cravath partner CLAIRE SMITH
PICTURE THE SCENE: YOU RUN A Magic Circle firm, and a CV arrives on your desk from a New York M&A rainmaker. He’s currently working for one of Wall Street’s finest firms, and his clients include to-diefor corporates like Unilever and KLM, plus JPMorgan and ABN Amro. He’s one of the best derivatives lawyers in the US, and he has recruitment and management experience. He’s 51 years old, and in each of the past three years his billings have comfortably exceeded $10m. This guy wants to join you, and he wants to propel your US practice on to a whole higher plane. He looks like the answer to some pretty difficult strategic questions on the other side of the Atlantic. Tempted? Well, it will cost you – people like this don’t slot easily into an English firm’s lockstep: he’s currently earning over a million dollars a year more than your plateau partners. So you can bust your lockstep and buy the big name and the big practice, or you can send him on his way. ‘I’d say “bye bye”,’ says Anthony Cann, senior partner of Linklaters. ‘We have not broken our lockstep for higher renumeration,
48 Legal Business June 2004
LB 145 p48-53
25/5/04
2:45 pm
Page 50
Lockstep pressure
rs: Overy’s note to partne Extracts from Allen & ound: Dan Cunningham’s backgr ■ ■ ■ ■ ■
■
Extracts from Allen & Overy’s proposal for Cunningham’s compen sation: Current and proposed rem uneration: His earnings over the las t three complete years exceeded our 50 poi nt level by, on average, c.$1.35 million [£761,722] per annum. He also would rec eive on retirement at age 62 from Cravath, an unfunded pension entitlement of c.$540,00 0 [£305,600] per annum. The following pac kage is proposed:
partner since 1983. He has been a corporate ivatives lawyer. m led by Jeffrey Golden, He is the leading US der , with a broad-based tea ery Ov & len (Al A ISD He is US counsel to t Asian Counsel to ISDA). is European and South-eas London partner 1986-90. European He was resident Cravath Europe and representing A experience, notably in yer and Ba M, KL He has considerable M& er, include Unilev itions: corporate clients corporates in US acquis Schering. class firm. class reputation from a top He is a US lawyer of top
■
h of fits very well. His strengt his work experience, he and y teg stra US our en Giv e our ability to recruit: reputation should enhanc er business areas). tners (and partners in oth ■ Other M&A par ■ Associates. ■ Graduates. join Allen & Overy oses to leave Cravath to cho he t fac the and yer place, His standing as a law will impress the market ility to our practice which in itself will bring a credib kers. including investment ban Specifically he will: ■ ■ ■ ■ ■ ■
US flagship. Enhance New York as our . US and European clients act attr to Be a strong name e. ctic pra law US securities Be a major addition to our US M&A capability. a for tion Act as the founda e. derivatives services ventur Play a major role in the inistrative manager. adm an not , and recruiter Be primarily a deal-doer
50 points. 5 annual payments of app roximately £750,000 gross to produc e a net amount of $580,600 [£327,700] eac h to establish a fund to match his pensio n promise. If he resigns from the partnersh ip no further payments would be made following his resignation. a 15% equity interest in a proposed new derivatives services ventur e to compensate for the shortfall in annual earnings referred to above. This interest ma y prove worthless but is capped in value at $15m [£8.5m].
■
■
LB note: On today’s exc hange rate, and using 2002/3 PEP figures for A& O, 50 points over five years is worth $9.2m . The five annual payments are worth $6.6m . If Cunningham nets the full $15m available fro m the derivatives venture, he will amass $30 .8m over five years.
firm; if and workings of a US law p knowledge of the ethos le. uab val ly que He will also bring a dee uni would be r his ‘insider’ knowledge tpor sup h wit am we were to pursue a merge e Cunningh will rapidly need to provid rettably this Reg ng. doi to It is recognised that we ted mit ich we will be com wh s), ate oci ass and ers ing resources (partn ious reasons. ultaneous, process for obv is a consecutive, not sim
> not at all, ever. It is a dangerous game to play.’ But Guy Beringer, Cann’s opposite number at Allen & Overy, said ‘hello’. He took one hell of a risk in a bid to propel his firm up a tier on the global M&A stage. In 2001, A&O partners approved a plan to hire Dan Cunningham, a partner from Cravath, Swaine & Moore, with a bumper compensation package. As well as taking his rightful place at the top of the firm’s
50 Legal Business June 2004
lockstep, worth just over £1m last year, Cunningham was to be paid £750,000 a year extra for five years, and get a 15% equity stake in the firm’s derivatives services venture. That could net him as much as $15m (£8.5m) if it works. Will he justify the cost? ‘Only time will tell,’ the firm’s partners were told in 2001. ‘But
if our strategy is right, the investment should pay handsomely. We have not yet executed a major US M&A transaction for a European client. However, these deals should generate significant fees.’ Fast forward to 2004, and the risk is yet to pay off.
Deep pockets Cunningham wasn’t the first beneficiary of what A&O calls ‘imaginative’ partner
LB 145 p48-53
25/5/04
2:45 pm
Page 51
Lockstep pressure
> packages. In 1998 the firm took over Brosio, Casati e Associati in Italy, the only other jurisdiction where the going rate for a rainmaker is higher than it is in London’s legal market. Roberto Casati came in at the top of the lockstep, and was guaranteed to stay there until he was 70 – ten years longer than any other A&O partner. A tasty package, but not enough to stop Casati resigning last month to join Cleary Gottlieb Steen & Hamilton, the tenth most profitable firm in the world, where the average partner takes home £300,000 more than he would at A&O. Certainly the precedents aren’t good for the English firms. Most of the partners afforded bumper off-lockstep pay deals have stayed for a couple of years and then headed to American firms where the mega bucks they have come to expect are considered the norm. Clifford Chance’s woes are now the stuff of legend: they paid Kevin Arquit and Steve Newborn three times the top of lockstep, but still couldn’t stop them leaving for Simpson Thacher & Bartlett and Weil, Gotshal & Manges. That was a good few million down the drain: A&O is painfully aware that its own American dream could go the same way. CC has done it twice in the US. After its merger with Rogers & Wells came five partners from Brobeck, Phleger & Harrison on the West Coast in 2001, led by securities litigator Tower Snow. Instead of extra
‘We have not broken our lockstep for higher renumeration, not at all, ever. It’s a dangerous game to play.’ Anthony Cann, Linklaters points, these five were given their own bonus pool of about £1.5m for the first two years, to share out amongst themselves as they saw fit. Now Snow is understood to be leaving the partnership: sources at the firm say he’s becoming of counsel
Arquit: left CC despite its lockstep-breaking deal
and scaling back his practice for family reasons. The exact timing is still under discussion and Snow told LB in May that his status was unchanged. CC management insists that Snow has not been de-equitised but discussions are ongoing about the West Coast practice. All is not well.
Locked out Cunningham declined an interview request for this article, but LB has seen the proposal that was sent to partners three years ago outlining his package and the reasons behind it (see opposite page). On the status of the lockstep, the partners were told: ‘[This] is not the end of lockstep, but it does emphasise our need to be flexible in a changing market place. This is an exceptional proposal for exceptional circumstances. Nonetheless, the principal component of [Cunningham’s] compensation will be his points on our existing ladder. There is no reason why it should open the floodgates as we see today no other [Cunninghams] on the horizon. In fact we probably only want and need one and so this may help ensure that the lockstep system “survives” our US growth rather than the reverse.’ The biggest issue for Cunningham at the time was the pension scheme he was giving up by leaving Cravath. He was due to receive, on retirement at age 62, an unfunded pension entitlement of around $540,000 (£305,600) a year. The American firms may not have restrictive covenants, but that’s a pretty good reason to stay where you are.
THE LOCKSTEP BUSTING SUPER-POWERS: WHERE ARE THEY NOW? Roberto Casati Joined: Allen & Overy in 1998, merging the Italian firm he founded, Brosio, Casati e Associati, with the Magic Circle firm Deal: Casati was guaranteed a place at the top of lockstep until he was 70, ten years more than the average A&O partner. He was A&O’s biggest biller in Italy, a member of the firm’s three-man global corporate executive, and the senior partner for Italy Left: April 2004, to join the Milan office of Cleary Gottlieb Steen & Hamilton
Kevin Arquit Joined: Clifford Chance in 2000, through the merger of Rogers & Wells in New York Deal: Arquit was given 326 points on CC’s lockstep, more than three times the average compensation of a CC plateau partner. His annual billings regularly exceeded $25m. He is one of the world’s top antitrust stars and, before joining Rogers & Wells, was general counsel of the Federal Trade Commission Left: December 2002, to join the New York office of Simpson Thacher & Bartlett
Jim Benedict Joined: Clifford Chance in 2000, through the merger of Rogers & Wells in New York Deal: Benedict was originally awarded 200 points on the CC lockstep, earning twice the average CC plateau partner. In 2001 he became US managing partner and gave up his additional points in favour of integration on the lockstep Now: This year, CC awarded Benedict and two other New York partners an extra 50-75 points each. Benedict has given up his global head of litigation role and last year spent 2,000 hours on client work and 2,000 on firm management
June 2004 Legal Business 51
>
LB 145 p48-53
25/5/04
2:46 pm
Page 52
Lockstep pressure
Italy. What do we do? Do we expect people to work over a sustained period of time under the market rate? I don’t think that’s realistic, any more than you could pay CC partners half what they pay at Linklaters. And I don’t think it’s realistic to expect the market to change to the English system.’ He says that no one in New York demanded extra points, but the firm’s management felt they were deserved. In truth, Messrs Cornell and Popham were painfully aware that their American dream could go up in smoke if there were any more departures. Benedict billed 2,000 hours of client work last year, and spent 2,000 hours on firm administration in his role as global head of litigation. He also brought in more than a dozen new litigation matters last year, and those are chunky pieces of work. ‘A committee was set up to look at the system,’ he says. ‘They proposed a solution, and then it got voted down by a group of Taliban in our London office. So they went back to the partnership agreement. The partnership agreement provides for us to have additional units, and certainly we have to continue to find a way within our culture to pay market levels of compensation to all of our people. It’s just a question of fairness.’ Benedict insists that he has never been aware of resentment of his pay deal from other sections of the partnership, but says the firm has to accept that one lockstep ladder cannot work worldwide. ‘At the moment we are grossly overpaying partners in Prague and underpaying partners in New York,’ he says. ‘We have lawyers in this firm who are the highest-paid lawyers in their respective countries,’ he says. ‘The principle is very important. You need the commitment to meeting the market rate wherever you are, and you need to find a way to do that within your culture. I don’t think it’s as difficult as people think.’
‘A committee was set up to look at the lockstep system. They proposed a solution, but it got voted down by a group of Taliban in our London office.’ Jim Benedict, Clifford Chance
>
Hence the five annual payments of £750,000 gross agreed by A&O, which at the time were calculated to produce a net amount of $580,600 (£327,700) each year to establish a fund to match his pension scheme. If he resigns, he doesn’t get the outstanding payments. Cunningham is certainly working hard. A&O now has four US M&A partners in New York, alongside almost full-service support and a burgeoning litigation capability. But it can be lonely at the top when you’re earning a lot more than your partners. One former Clifford Chance partner, who had ‘super pointer’ status while he was there, says: ‘Even though the management recognised that they would lose the US rainmakers if they went to lockstep, the people above the lockstep felt that they had targets on their backs and it was pretty unpleasant. We found that 40% of the partners, or even more, resented us. It was a really bad situation.’
The flood of departures continued stateside, and global corporate head David Childs was appointed to review the firm’s compensation strategy for the US. His proposal for lockstep with an additional bonus pool for the US was rejected by the partnership, so the firm reverted back to additional points and awarded them to three partners in New York: litigator Jim Benedict and restructuring stars Margot Schonholtz and Mark Liscio. ‘The challenge of the British lockstep system is it’s designed for the London market and not a global market place,’ Benedict says. ‘It works well in London, but there are two places in the world where the top legal talent is paid substantially above the top in London: the US and
Point blank Clifford Chance has been through the ringer on the issue of extra points, both in the US and Italy. After the merger with Rogers & Wells, a firm that was highly meritocratic, with top partners earning ten times more than those at the bottom, ten senior US partners were awarded bumper deals. Arquit was awarded 326 points, more than three times the usual plateau of 100 points, and Newborn 275. Eight others took between 125 and 200 units. Then in 2001 everyone but Arquit and Newborn gave up those extra points and joined the lockstep, and then last year Arquit and Newborn left. The firm was back to pure lockstep, but not for long.
52 Legal Business June 2004
Money matters
Snow: given share of £1.5m bonus pool
While it is in New York and Italy that the top of the lockstep is challenged, elsewhere it is the bottom where adaptations have to be made. Clearly in parts of continental
LB 145 p48-53
25/5/04
2:46 pm
Page 53
Lockstep pressure
Europe and parts of Asia, the charge-out rates and cost bases are some way removed from those in London. Clifford Chance still pays a ten-year equity partner the same amount, wherever they are based; A&O adopts different ladders for different offices to take account of costs of living, while Linklaters uses a factoring system to make minor adjustments in certain places. A&O has local partners and ‘one point’ partners, the latter being effectively salaried partners with a bare minimum share of the equity. It also has different partnership tracks: in places like Poland, the firm’s usual 15-year track, from 20 points to 50 points, may be adapted to a ladder running from 15 to 35 points, for example. ‘There were well over a dozen ways of calculating partnership compensation when I was there,’ one ex-partner says. ‘It really wasn’t as simple as they liked to make out.’ Lockstep is feeling the heat in every continent, but it’s much easier to deal with an incredibly well-paid Czech than it is an under-remunerated New Yorker.
KEY NEW YORK LATERALS HIRED BY CUNNINGHAM Who David Frauman and Ken Coleman
From Insolvency partners from Cadwalader, Wickersham & Taft
When
Eric Shube and Marun Jazbik
M&A partners from Vinson & Elkins in New York
2001
Peter Harwich
Associate general counsel, Unilever in the US
2001
Henry Morgenbesser
Former White & Case pensions and benefits partner
2001
Kevin O’Shea
Previously a real estate partner at Paul, Hastings, Janofsky & Walker
2002
Michael Feldberg
Chair of litigation at Schulte Roth & Zabel
2003
Barry Biggar
Asset finance partner from Bingham McCutchen
2003
AND WHAT CUNNINGHAM’S DELIVERED... Since Cunningham arrived, A&O’s New York office has added ten partners – three in M&A and others across a range of disciplines. The firm now has 131 US lawyers outside the US, and 103 in New York.
The American way Clifford Chance is now facing up to a future without an American M&A rainmaker, and the plan is to make lateral hires at a more junior level and fit new partners into the lockstep. It’s the approach taken in New York by Freshfields Bruckhaus Deringer and Linklaters. You may not get Cunningham, but you get good junior partners who buy into the merits of an international firm and, more importantly, lockstep. CC plans to phase out the super pointer status: the idea is for the extra points afforded to Benedict et al to decline over time so that a single lockstep will be back by 2006. The firm has permanently turned its back on the kind of bonuses used in the US West Coast hires. The view has been taken that if lockstep must be broken, the principle must at least remain. Bonuses discourage teamwork, the theory goes. Phasing out the extra points only works if that other great unthinkable happens – the English Magic Circle gets its profits up to the same league as Wall Street’s finest. There’s no evidence of such a shift so far, but it’s the only hope for lockstep. Otherwise those junior partners joining
2001
Some of the transatlantic deals worked on by the US M&A team in London and New York include advising: ■ ■ ■ Cunningham: worth a potential $30m ■
New York offices now will be out the door in ten years’ time. Clifford Chance’s managing partner Peter Cornell says: ‘We have got to make sure profitability is robust. It’s not the only influencing factor, but it’s an issue to consider in all our offices, in Europe as well as the US. The way this firm would like to approach it all is: let’s maintain lockstep, let’s maintain that as a framework.’ ‘We’ll have some flexibility in New York, but that’s being pragmatic while we ramp up profitability,’ he adds. ‘We will
BLB Investors on its £309m offer for Wembley Plc. JPMorgan in connection with the $60bn merger of Olivetti and Telecom Italia. KLM Royal Dutch Airlines on its merger with Air France to create a £13bn airline. BG Group’s acquisition of Enron Oil & Gas India for $350m.
go forward as lockstep.’ You either raise profitability, or you find an extra £750,000 a year, and hand it over to your own Mr Cunningham. Surely, faced with such a choice, lockstep looks doomed. ‘If you had asked me that ten years ago,’ Cann says. ‘I would have said it couldn’t last another ten years. But it is proving hugely durable. It does depend on keeping the profits high, and on having a good culture, but I think that once you start making some minor exceptions you are in quite a lot of difficulty.’ A&O’s partners may yet come to agree. LB claire.smith@legalease.co.uk
June 2004 Legal Business 53