Tue 27 February 2018

Equity vs. salaried partners

Posted by Antony in misc   

In certain partnerships of individuals, particularly law firms and accountancy firms, equity partners are distinguished from salaried partners (or contract or income partners). The degree of control which each type of partner exerts over the partnership depends on the relevant partnership agreement.

An equity partner is a part-owner of the business, and is entitled to a proportion of the distributable profits of the partnership.
A salaried partner who is paid a salary but does not have any underlying ownership interest in the business and will not share in the distributions of the partnership (although it is quite common for salaried partners to receive a bonus based on the firm's profitability).
Although individuals in both categories are described as partners, equity partners and salaried partners have little in common other than joint and several liability. In many legal systems, salaried partners are not technically "partners" at all in the eyes of the law. However, if their firm holds them out as partners, they are nonetheless subject to joint and several liability.

In their most basic form, equity partners enjoy a fixed share of the partnership (usually, but not always an equal share with the other partners) and, upon distribution of profits, receive a portion of the partnership's profits proportionate to that share. In more sophisticated partnerships, different models exist for determining either ownership interest, profit distribution, or both. Two common alternate approaches to distribution of profit are "lockstep" and "source of origination" compensation (sometimes referred to, more graphically, as "eat what you kill").

Lockstep involves new partners joining the partnership with a certain number of "points". As time passes, they accrue additional points, until they reach a set maximum sometimes referred to as a plateau. The length of time it takes to reach the maximum is often used to describe the firm (so, for example, one could say that one firm has a "seven-year lockstep" and another has a "ten-year lockstep" depending on the length of time it takes to reach maximum equity).
Source of origination involves the compensation of profits according to a formula that takes into consideration the amount of revenue and profit generated by each partner, such that partners who generate more revenue receive a greater share of the partnership's distributed profit.

Source of origination compensation is rarely seen outside of law firms. The principle is simply that each partner receives a share of the partnership profits up to a certain amount, with any additional profits being distributed to the partner who was responsible for the "origination" of the work that generated the profits.

British law firms tend to use the lockstep principle, whereas American firms are more accustomed to source of origination. When British firm Clifford Chance merged with American firm Rogers & Wells, many of the difficulties associated with that merger were blamed on the difficulties of merging a lockstep culture with a source of origination culture.