This column is by Janet Stanton, Partner, Adam Smith, Esq.

Why doesn’t $$ change hands when law firms merge or when one takes over another? (We’re not talking about solo or tiny practitioners selling their practices to a successor; that’s like buying the corner newsstand for a future personal income stream; we’re talking about firms with at least a handful of partners.)

This question has been bugging us for a while; we’ve asked some smart people and not yet gotten what feels like a satisfactory answer.

The explanations offered have ranged from “it’s just not done” (which is merely a fact) to something about partners trading their shares in their “old” firm for shares in a new, larger enterprise. But we’ve written about how partners’ “equity” in law firms bears not the remotest resemblance to equity as economists and corporate finance professionals use it.

One of the more diabolical hypotheses was that managing partners embark on mergers to institute otherwise-wrenching organizational change–primarily pruning deadwood–that would be impossible in the ordinary course of business.  Highly creative indeed, but we are loathe to posit a closet Machiavelli in very many managing partners.

To us, this state of affairs makes no sense. Outside Law Land private companies buy private companies all the time; including professional service firms – which like law firms have only “elevator assets.”  Moreover, there are established rules of thumb for valuing privately held professional services firms (usually a single-digit multiple of revenue).  Also, outside Law Land even distressed or failing companies often sell off attractive pieces and parts.  But that same logic did not apply when Morgan Lewis took on a material portion of Bingham in the form of a massive lateral partner acquisition.  Certainly that group of a dozens and dozens of lawyers had a non-zero economic value?

Well, many of those former Bingham partners got short-term guarantees, right?  So aha!  That was money!  Not exactly, and not the way we mean it.  The guarantees were hardly an unconditional lump sum cash payment tendered upon the deal’s closing.  They were merely a (largely unenforceable) expectation of continued going-rate compensation if you kept doing what you’d been doing for a living and didn’t decamp to the beach.  Did we forget to mention that not a nickel of those payments went to the Bingham “estate” nor to a partner who didn’t sign on with Morgan Lewis?

One theory I have is this practice can underscore the (often spurious) notion is that “this is a combination of equals.”  Another theory has to do with firms not willing/unable to put a value on themselves (Bruce, our resident economist reminds me that everything can be valued, including bankrupt or insolvent enterprises).

An unfortunate outcome of no money changing hands is that law firms are way too promiscuous about merging.  An especially droll law firm COO we know well described the shock of discovery he experienced when he entered Law Land from public accounting a couple of decades ago:  “Wow, I can buy a competitor for nothing!  Free money!”

But back to the original question.

And you know the drill:  Supplemental editorial notions and commentary go in the, where?, “Comments” box below:

Why aren't law firms bought and sold?

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Courtesy NASDAQ

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