Open or Closed Compensation Programs

  • March 11, 2014
  • James D. Cotterman

I was recently asked about my views on open or closed partner compensation programs. Here is my response.

Law firms predominantly have open programs; about 80% to 85% are open; 3% to 5% semi-closed (either management compensation is disclosed or certain statistics reflecting the decisions are published, but not individual decisions) and the balance closed. Traditional professional partnership values support an open program as consistent with partners entitled to see the books and records and their desire for a transparent partnership. It also greatly aids the ability of partners to determine the degree to which they believe that the program is a fair meritocracy. This is critical to ensure the overall success of a compensation program that is dependent upon it being widely accepted as a fair meritocracy. Internal comparisons are the prime evidence in such an evaluation. And as a practical matter, in most firms the decision makers change leadership roles over time so the closed nature of the program deteriorates over time.

Firms that embrace a closed program generally advocate the practice as a means to focus each partner solely on his/her performance and pay. And accordingly reduce the intra-partner bickering and competition that can result in an open program. A number of compensation committees in closed firms have indicated that it gives them more freedom to make the decisions they believe are in the best interests of the firm — a dangerous slope to be on when the judgment is limited to a select few.

Others have stated that it makes it easier to bring laterals into the firm. Our assessment is that firms have frequently overpaid laterals as an enticement to make the deal and then in many cases those same laterals did not quickly produce the business and benefits that were the stated basis of their compensation. Admittedly it is not an easy task, even for the lateral, to really know how much of his/her practice is portable or how quickly it can or will transition to the new firm. That scenario also indicates firms are likely paying more for lateral talent then they would pay their own partners. That can breed resentment and disrupt a collegial/collaborative environment.

For a closed program to work the firm must have a very high degree of trust, especially for leadership. It also must develop other means to ensure that the partners feel that the program is fair and a meritocracy. The best closed programs have been firms with a strong benevolent founder who had unassailable credibility and who remained in control for many, many years.

Transitioning either way is a major change and will likely alter the firm’s culture and intra-partner dynamics. Even if the decisions were well done in a closed program it will likely be unsettling when partners are first exposed to the reality. We have found it difficult to close an open program without a major catalyst such as a merger of equals or some traumatic “life-changing” event.

Reprinted with permission from Cotterman on Compensation, a blog on lawyer compensation and law firm finance authored by James D. Cotterman, Altman Weil, Inc.