The departure of a key partner can often cause significant financial, operational and reputational damage to a firm. It is imperative for firms to anticipate these risks in advance and have the appropriate protections and procedures in place and, where necessary, to take swift action, in order to mitigate against the adverse effects of partner departures.
In this Part 3 of our three-part series on Partner Lateral Hires, we highlight the key issues to be considered, and the potential steps that can be taken, by the current firm of a partner who is seeking to move to a competitor. Part 1 highlighted the key issues for the hiring firm and Part 2 addressed the risks and practical steps for the exiting partner.
1. Constitutional protections and powers
As a matter of general law, partners are likely to owe fiduciary duties to their current firm (these are highlighted in Part 2 of this article series). However, many of these implied duties will only subsist whilst an individual remains a partner of the firm. Having in place a well drafted partnership or LLP members’ agreement will provide a firm with additional and express protections (both during the partner’s tenure with and following their departure from the firm) as well as potential express remedies for the firm in the event of a breach of duty by a partner.
The common express partner duties and firm powers that can be included in partnership or LLP agreements to deter or impede partner departures include:
- A wide-ranging duty of good faith and confidentiality.
- Disclosure and reporting obligations, including an obligation for partners to promptly inform management of their own wrongdoing or any offer of employment/engagement made to them by another firm, or of any circumstance that is likely to affect the business (e.g., the potential departure of, or suspected breach of duties by, another partner or a senior employee).
- An appropriately long notice period which gives the firm sufficient time to manage and transition client relationships, stabilise a departing partner’s team (who might otherwise contemplate moving with the partner or elsewhere) and where necessary, recruit or promote a replacement partner. Notice periods tend to vary in length depending on the individual firm and industry but are typically between 3 and 12 months.
- A “departure lounge” or “waiting room” clause where the number of partners who are permitted to resign is limited to a specified number in a specified period (e.g. no more than 4 partners in any financial year may give notice to resign). If the number of partners resigning has reached the limit, any other partners who want to leave will have an extended notice period so that they join a queue to leave (unless the firm agrees to an earlier departure). This gives the firm control over both the number of partners leaving and the timing of their departure and can be particularly helpful in preventing or at least slowing down a team of partners moving together.
- The power to put a partner on garden leave during their notice period, which can effectively “lock” a partner out of the market for a period of time, reducing their market profile and opportunity to solicit clients and employees, as well as giving the firm time and space to effectively manage client and employee relationships and control the communications regarding the partner’s exit.
- Good/bad leaver provisions which allow the firm to defer for an extended period the payment of balances due to the partner (e.g., capital, tax reserves and undistributed profits) if they move to a competitor or are in breach of or suspected of breaching their obligations to the firm.
- An express forfeiture clause providing for the forfeiture of a partner’s remuneration if they breach their fiduciary obligations to the firm and a right for the firm to set-off any losses suffered by the firm as a result of a partner’s breach against amounts owed by the firm to the partner.
- Post-termination restrictive covenants which typically include restrictions on soliciting and dealing with clients, soliciting or hiring former colleagues and in certain cases, non-compete obligations and restrictions prohibiting team moves. Such restrictions typically apply between 6 and 24 months post-termination (sometimes even longer) and can hinder a partner’s ability to take clients and team members with them and to successfully establish their practice at a competing firm. The English courts will only enforce restrictive covenants if they are found to be necessary to protect the firm’s ‘legitimate business interests’ and provided the restrictions go no further than is reasonably necessary to protect those interests. Legitimate business interests can include the protection of the firm’s confidential information, its client, supplier, referrer or investor connections or the stability of its workforce. It is vital to ensure that any restrictions are carefully drafted and tailored to the firm’s business and are reasonable in scope and length.
- A provision requiring a departing partner to promptly inform their prospective new firm of the restrictive covenants and confidentiality obligations that are applicable to the partner so that the hiring firm is effectively on notice of the restrictions and therefore (it is hoped) deterred from acting, or encouraging the partner to act, in a manner that might give rise to claims against the hiring firm for conspiracy or procuring or inducing breaches of duties by the partner.
- Non-disparagement provisions prohibiting former partners from making derogatory statements about the firm or its partners and employees.
It is vital for the firm to keep its partnership or LLP agreement under regular review to ensure that any powers and protections to mitigate against partner departures remain appropriate, enforceable and reflect any changes in the firm’s partnership, governance and business.
2. Practical steps to protect clients, workforce and confidential information
Even though partner departures are a ‘fact of life’ for many businesses, the resignation of a partner who is a key business generator and/or influencer can sometimes come as a surprise and have a destabilising effect on the firm. Once the initial shock has receded, the firm’s management must quickly assess the situation and be prepared to take practical steps to protect the firm’s position as far as possible.
If a partner’s departure is perceived as a competitive threat to the business, the firm should consider putting the partner on garden leave and removing their access to the firm’s premises, IT systems and confidential information and prohibiting them from communicating with clients or colleagues or discussing their prospective departure with any person without the firm’s consent. The firm will need to weigh up the tactical advantages of putting the partner on garden leave against the financial cost to the firm as it is likely the partner will be entitled to his/her usual non-discretionary remuneration during any garden leave period without concomitant partner billings accruing to the firm.
Formal reminder of partner’s duties
It may also be helpful at this point to remind the partner in writing of their implied and express duties to the firm and any applicable regulatory duties (if they are a regulated professional such as a solicitor), including their duty of good faith, restrictive covenants and obligations in relation to the protection of confidential or privileged information. The firm could also request confirmation that the partner has informed the hiring firm of the restrictive covenants applicable to him/her.
Manage clients and workforce
At the same time, the firm will be concerned to ensure that key client relationships are managed very carefully as well as other partners and employees in the departing partner’s team or practice group. Having in place a good communication and transition strategy with clients and employees will be key to ensuring the firm is able to successfully retain those relationships and stabilise its workforce.
The firm may ultimately decide that it would be commercially unrealistic to attempt to restrain the departing partner from taking certain clients with them to their new firm, for example, because certain clients are embedded with that partner and wish to follow them or if (once the partner has left) the firm would no longer have the capability or desire to service those clients’ needs. The firm may also come to a similar conclusion in relation to certain members of the departing partner’s team, particularly if there is no alternative partner or potential new partner hire on the horizon who could take over supervision of the team or it is not feasible to re-deploy them to another part of the business. In such instances, it may be prudent for the firm to agree exit terms with the departing partner which could include a release or partial waiver of their restrictive covenants, for example, a reduced restriction period, the carve out of certain clients and/or employees and/or the carve out of certain services. In some cases, it may be possible for the current firm to negotiate a fee sharing arrangement with the hiring firm for a limited period in respect of fees generated by any clients who move with the departing partner to the hiring firm, in return for a full or partial waiver of the partner’s restrictions.
Identify potential wrongdoing
Where the firm harbours suspicions that the partner may have already breached their duties, for example, by disclosing confidential client information to the hiring firm as part of their business plan or has attempted to solicit clients and/or orchestrate a team move, as an initial step, (and subject to the firm’s IT and privacy policies) the firm should carefully check its computers, printers and other devices for any evidence of confidential information being downloaded, printed or forwarded to the partner’s personal email account or device or communications which might suggest an attempted team move or other breach of duties. Even where the partner has avoided leaving a digital footprint on the firm’s systems and devices, they may have created a ‘paper trail’ elsewhere. Such information (including any business plan or other information provided by the partner to the hiring firm) would ultimately be disclosable should the current firm decide to pursue litigation against the partner for any breach of their duties.
Request formal undertakings
In order to “flush out” any potential wrongdoing and bolster the firm’s tactical position in the event the firm decided to seek an injunction or pursue litigation against the partner, the firm could also request that the partner provide formal written undertakings that they have at all times complied with their duties to the firm and will continue to do so. A partner or member of an LLP has a general obligation to disclose to their firm any information that is material to the business. There may also be express obligations in the firm’s partnership or LLP agreement requiring a partner to respond promptly to any requests for information relating to the business. If the partner fails to respond fully to such request, that in itself is likely to be a breach of their duty to the firm as well as being a ‘red flag’ that something is amiss.
Potential action against partner/hiring firm
If the departing partner is suspected of breaching their duties, the firm should consider the following potential options:
- Seeking a springboard injunction which prevents the departing partner from gaining a head start at the hiring firm as a result of their breaches (for example, by using the current firm’s confidential information). This could prevent the partner from joining the hiring firm for a period of time long enough to cancel out the head start.
- Seeking an injunction to stop or prevent further unlawful action (such as stopping the partner from acting for the current firm’s clients and/or employing or engaging any employees of the current firm).
- Seeking an account of profits made by the partner as a result of their breaches.
- Seeking damages for any losses caused by the partner’s breach of duties. The losses may include the loss of revenue from key clients who have been solicited and recruitment costs in hiring employees or partners to replace the those who have been enticed away to the hiring firm.
- Activating any right of forfeiture and set-off against balances owed by the firm to the partner and seeking clawback of any remuneration paid to the partner in respect of any period during which they were in breach of their fiduciary obligations to the firm.
- Exercising the power of expulsion against the partner for breach of their duties (where such power is provided for in the firm’s partnership or LLP agreement).
- Seeking damages from the hiring firm for conspiracy or procuring or inducing a breach of duties by the departing partner.
Regulated firms (such as law firms) should also consider whether the firm has any reporting obligations to clients or their regulator in relation to any wrongdoing by the departing partner (e.g., the unauthorised disclosure of client confidential information).
References in this news alert to “partners” means a partner in a general partnership or a member of a limited liability partnership.
If you are a partnership or LLP and are concerned about a potential partner departure or team move, or would like to discuss the protections that you can include in your partnership or LLP agreement to mitigate against partner departures, please get in touch with Zulon Begum, David Fisher or Wendy Chung for specific guidance on the legal issues and risks applicable to your circumstances.