New system with performance-based element gets green light

Herbert Smith Freehills is set to introduce a merit-based element to partner pay as part of its post-merger restructuring, in a clear departure from legacy Herbert Smith's rigid eight-year lockstep.

The system will take into account a number of factors including financial performance and business development, engagement with staff, client servicing and contribution to the success of others, bringing the firm closer to merger partner Freehills' system, which is more heavily linked to individual performance. 

The new 'balanced scorecard' system has been given the go-ahead by management and comes as proposals on the wider remuneration structure are due to be put to partners.

The plan currently being thrashed out at management level would see the introduction of a modified lockstep with a single profit pool. It will be put to a partner vote by the end of the year, with partners suggesting it will take place at the end of November – later than October as previously speculated. 

The new structure is expected to take effect from 1 May 2014 and comes as several firms, including Norton Rose Fulbright and Hogan Lovells, have moved to more merit-based pay systems following major mergers.

One partner within the firm said: "Everybody will benefit from the single profit pool – the percentage of allocation according to different parts of the firm will be no different to what we had in the legacy firms. The process is heading in the right direction but there are always going to be some objections from partners." 

The Australian arm currently operates a policy where partners are given a number of credits that they can allocate to other partners who have made a significant contribution to the firm. The points individual partners are awarded have no financial value but are taken into account when the firm sets their remuneration. It is unclear whether this system will continue when the new measures are brought in, with some partners suggesting it could be an option further down the line.

The proposals come after legacy Herbert Smith equity partners were called on to pay in £2,000 per equity point in a bid to improve the firm's capital structure and better align the two parts of the business. The move will ensure higher levels of partner capitalisation, reducing the need for holding back partner distributions to fund investment.

The new system will come into effect alongside a new leadership as current CEOs Gavin Bell and David Willis prepare to retire in April 2014. A new CEO or joint CEOs will be appointed by the Herbert Smith Freehills global council – the firm's governance body – and then put to partner ratification before the end of the year. It is understood that a 50% partner majority will be needed for the vote to pass.

The firm reported post-merger revenues of £471.2m for the seven months from October 2012 to April this year.

The seven-month figure extrapolated over 12 months equates to a 12-month total of just over £800m, meaning the revenues are broadly flat on the combined total of legacy Herbert Smith's 2011-12 turnover and Australia's Freehills' 2011 income.

Meanwhile, profits per equity partner (PEP) have fallen by around £100,000, down from £840,000 to £744,000 – a drop of 11%. The firm attributed the fall in PEP to the merger.

Herbert Smith Freehills declined to comment.