When an especially provocative and ingenious piece is published analyzing a noteworthy aspect of the sea BigLaw swims in, one may feel an obligation to one’s readers to weigh in on the conversation. Particularly when the original piece was published under one’s own auspices.
So it is with Richard Rapp’s Understanding the Lateral Hiring Frenzy, (11 March 2016, Adam Smith, Esq.).
The core of Richard’s thesis is twofold, one from the “firm side” perspective and one from the “lateral side” perspective.
From the firm side, (1) Managing partners should be assumed to be behaving as rational economic actors in hiring laterals, in order to grow their firm, diversify, and even spread the cost of overhead. I would be the first to line up behind granting every actor in a competitive economy the presumption of rationality, assuming no reason to suspect any cause of market failure. (I’ll come back to this anon.) Richard also posits that raw statistics on the impressive lateral partner failure rate could be misleading if the successes are major and the disappointments minor. I take this as a helpful, clarifying, and indisputably sound observation in theory as to which the industry—hardly for the first time, damnit—has woefully inadequate data to either confirm or contradict in practice.
From the lateral side, (2) Richard’s intriguing and, to the best of my knowledge, thoroughly novel contribution is to posit that “the dominant reason why partners change firms” is to perform a sort of personal arbitrage between the value their current firm places on their own skills, career, and client portfolio and the value the recruiting firm would place upon them. I believe, and in a personal conversation Richard instantly confirmed, that the concept of “arbitrage” between two markets offering materially different prices for the same basket of goods and services was the core explanatory concept. (Richard even noted that an earlier draft of his piece used the word “arbitrage” in the title.)
To me, this analysis is ingenious, highly creative, and seems to have explanatory power, especially if you imagine the counterfactual, which Richard invites you to do, that all law firms paid all partners according to one universal formula such that moving from one firm to another would not change your compensation by a nickel. The lateral partner frenzy would be immediately reduced to a trickle.
So what, then, do I think? And would I amend the condemnations I published in 2013 and 2014 about the lateral “arms’ race” and “delusions of crowds?”
With surpassing respect to Richard, and appreciation of the sincerity and the energy (not to mention the checkbooks) of the 96% or so of AmLaw managing partners who say that lateral recruitment is a core part of their growth strategy, on reflection I will reaffirm my profound skepticism that this “frenzy” is anything more than an enormous round of musical chairs played at great expense in transactional costs and career friction.
I won’t rehearse everything I wrote in Delusions of Crowds, (14 February 2014, Adam Smith, Esq.) but here are the highights for your convenience.
In self-defense I will only add that I declared the premise that I had the burden of explaining why otherwise presumptively rational people (managing partners) would act irrationally as plainly as I possibly could, in the very title of the article.
- One of the “hooks” for my publishing the piece when I did was that Bill Henderson and Chris Zorn had just published a cover story in The American Lawyer (“Is reliance on lateral hiring destabilizing firms?”) which found “using an arsenal of multivariate statistical methods” (and nobody but nobody does it better than they do in Law Land), they “were unable to find a relationship between a lateral partner hiring strategy and higher law firm profitability.” Nailing down their conclusion is this: For the top 10% of most-active firms in the market (the 20 most active among the AmLaw 200), “the odds of them having above-average growth in profits per partner one, two or three years later is slightly worse than a coin toss”(emphasis mine).
- Their analysis also found that “the only thing laterals really moved the needle on was gross revenues”—not RPL, not PPP, not profit margin, etc.
And I added my own speculation on what psychological motivations might underlie this:
- We as human beings and as organizations find growth dynamic, exciting, vital. It’s more exciting to launch a new brand than to reconfigure an old one; to open a new office than to strengthen an existing one; to land a new client than to win a greater wallet share from an existing one; and to hire a new lateral than to cultivate home-grown talent. Having an affair is a thrill; strengthening your marriage takes actual commitment and follow-through. Managing partners and hiring partners are exempt from none of this.
- Lawyers by predilection, training, and selection are insecure. Validation as evidenced by success at an external courtship is a powerful narcotic.
Finally, I concluded that extremely selective lateral hiring could improve a firm’s gene pool, premised upon the potential recruit being able to advance your firm’s (well-articulated and rigorously executed) strategy in concrete ways explainable in short words of Anglo-Saxon derivation, then and only then would I endorse your proceeding.
But Richard’s hypothesis is both too intriguing and too powerful (go back to that counterfactual…) to end here; I need to clarify my reaction to it in one final dimension, which takes us back to the notion of market failure.
A sturdy form of market failure is that arising from asymmetric information. And isn’t that characteristic of the lateral partner recruiting market? The only parties who really know the potential lateral’s abilities, working style, client development skills, (talent for mentoring, gift for playing nicely with others, willingness to share with alacrity, etc., etc.)—not to mention the real, hard-core, irreducible book of business s/he can claim credit for—are the lateral and the lateral’s firm whose pocket you are about to pick. You, the recruiting firm, have no such privileged access to this information. And make no mistake that some of it, while not numerical or quantitative, is as material as possibly could be to the lateral’s prospects for success or failure under your roof.
Actually, a shocking number of firms take laterals’ words for it as to their actual current compensation at the incumbent firm. One managing partner told me a few weeks ago that when they started asking for K-1’s a host of hot searches went stone cold.
If there’s asymmetric information, and hence (understandably) a form of market failure, then one doesn’t have to presume that (1) managing partners are irrational or that (2) laterals cannot indeed perform effective, low-risk, and highly profitable arbitrage upon themselves by moving to a new firm.
Richard’s insight as to one of the (presumably unintended) consequences of the stunning diversity of law firm partner compensation plans is preserved intact. And my denunciation of lateral partner recruiting as a near universal solvent to address your growth challenges is, properly, amended for the exceptional case where you actually have perfect, or sufficiently perfect, information about what you’re buying.