Associate Salary Increases: Don't Follow Milbank's Lead

As almost everyone in the legal market now knows, Milbank announced they will be increasing associate salaries. Past events tell us that three things are likely to happen next. First, Above the Law's gossip machine will be shifted into high gear. David Lat, Joe Patrice and our other friends at Above the Law will ensure a steady stream of leaked compensation memos and stories of disgruntled associates demanding salary increases. Second, many firms will follow Milbank's lead and announce matching, or at least similar, increases in associate compensation. The third likely event, will be the most interesting. Some firms will choose to not follow Milbank. If enough firms take this path, the tradition of matching salaries will finally break.

Similar to most legal market watchers, this analyst has a particular point of view on this topic: the vast majority of law firms should not follow Milbank. This advice has nothing to do with clients. It is true that increasing associate pay may send the wrong signal to law firm's clients who have been demanding “more for less”. While these concerns should enter into law firm leader's calculations, a more pressing matter is at hand. A downturn is coming. Nearly every economist agrees that the economy appears overheated. The best projections suggest the economic winds will change direction sometime within the next two years. Law firms are, just now, beginning to recover from the past downturn (see graph below). Increasing costs again puts years of prudent management at risk. Law firm's should be consolidating their gains and investing their limited dollars into initiatives that will help them weather the next downturn. Increasing starting salaries for associates to $190,000 will not do that. It may, in fact, do the opposite.

There is another reason most law firms should resist following Milbank's lead. The tradition of matching salaries is a relic from a different, simpler, time in the legal industry. Announcing across the board salary increases and automatically matching Cravath's or Milbank's pay scales makes no sense in today's legal market. The current system only benefits the Cravath's and Milbanks of the world. Most law firms should be actively trying to undermine this system.

To that end, here is a summary of the advice this analyst is giving law firm leaders:

Follow if You Must

Some law firms will have to follow Milbank's lead. If your firm is one of those few, do so quickly.

Milbank's announcement was, for all intents and purposes, a branding initiative. The firm is signaling to the market that they are willing to pay top dollar for the best talent. In doing so, they have, essentially, labeled themselves as the home of the best talent in the legal market. The firms that compete with Milbank for talent should not cede that ground to them. They should match, or even surpass, Milbank's new pay scale. It would be savvy for Cravath, for example, to one up Milbank and announce a $20,000 increase. Such a move would allow Cravath to retain their position as the ultimate arbiter of associate pay. It would also help further differentiate themselves from the firms which are not willing to follow.

Most Firms Should Not Follow

In the past round of associate salary increases, which occurred in 2016, ninety three Am Law firms followed Cravath's lead in increasing pay. Many matched Cravath's increase exactly while others announced similar, although not identical, increases. The net effect of the associate salary increases was estimated by ALM Intelligence, at the time, to have added $840m in new costs for Am Law 200 firms. Some firms, of course, were expected to be impacted more than others. ALM Intelligence estimated firms would see cost per lawyer increases of somewhere between a one percent and four percent depending on the size of the pay increase and the number of associates the firm had. In total, cost per lawyer was expected to increase, on average, 2.1% for firms, fairly similar to the actual increase in cost per lawyer last year of 2.9%.

This year's increase will have a smaller impact on firms. The $10,000 increase Milbank announced represents a six percent hike in pay for associates. Cravath's increase, in 2016, was a 13 percent increase. A back of the envelope analysis suggests the net impact of matching Milbank's increase this year will cause, on average, a one percent increase in cost per lawyer for firms. If the same firms which matched Cravath last time, match Milbank this time, the total bill for this year's salary increases will be roughly $420 million.

The pertinent question is this: what will firms get in return for increasing pay. For firms that compete with Milbank for talent the answer is clear. They will compete on a level playing field for the best talent. For firms that do not compete with Milbank, the answer is less clear.

Seventy-six of the firms which followed Cravath's lead in 2015 were from the Am Law 100. Seventeen were from the Am Law Second Hundred. The vast majority of these firms had significantly lower revenue per lawyer, profit per lawyer, and profit per equity partner than Cravath. What this tells us is that these firms compete in a different segment of the market than Cravath and Milbank and, almost certainly, do not compete directly for talent in most areas. The leadership teams of these firms should be highly skeptical of the need to follow Milbank in this round of increases.

Increase in New York – Hold the Line Elsewhere

Milbank is a largely a New York firm. Over half of their lawyers are located there. This gives law firms an opportunity. Firms could choose to match Milbank only in New York, leaving salaries elsewhere untouched. There is some precedent for this. Many firms chose to match Cravath only in New York or only in “Big Cities” (largely defined as New York, Washington D.C., Los Angeles, San Francisco, Houston and Chicago). Such an approach could allow firms to publicly announce they are increasing pay while limiting the financial impact of those increases.

A warning – many of the firms which chose to differentiate their salary increases by geography got publicly shamed in the last round of pay increases. Those that choose this route this time, will almost certainly, face similar public pressure. The cost may be worth it for many firms, but be prepared for Above the Law's ire.

Undermine the “Matching” System

The current system of matching compensation to highly profitable New York firms like Cravath and Milbank is not good for firms outside of that elite group. Compensation should be based on the segment of the market the firm competes in, the geography they are based in, and on the profitability of their practices. Firms should be actively trying to undermine the current system. This can be done in several ways.

The most obvious way of undermining the matching system is to not follow Milbank's increase. Less obvious ways exist as well. Firms could, for example, announce that they are matching Milbank's pay scale for their “most competitive” associates. This would accomplish two goals. Firstly, firms could increase pay for associates which they fear might leave for more pay elsewhere. Second, more variability in pay would make firm's pay scales less transparent and less open to criticism from the outside. Another approach would be to announce a larger increase in bonuses but leave base salaries untouched. Firms, could for example, announce a $20,000 increase in bonuses. This would be a larger, potential increase, than Milbank's but allow firms to differ the payment based on performance.

Risks and Courage

All of the approaches outlined above come with risks. Associates will almost certainly be displeased with any increase which does not match Milbank's. Above the Law is likely to publicly pressure firms which do not announce increases. Firm's marketing and human resource departments should, therefore, be prepared to deal with the fallout of any decision their firm makes.

Breaking with tradition will take courage and carry risks. That said, it has become increasingly clear that the matching system does not work for most law firms. A system which only works for a handful of firms will break eventually. Firms would be wise to help that day come sooner rather than later.

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Nicholas Bruch is a Senior Analyst at ALM Legal Intelligence. His experience includes advising law firms and law departments in developing and developed markets on issues related to strategy, business development, market intelligence, and operations. He can be reached by Email, Twitter, or LinkedIn.