In May of 2012, Dewey & LeBoeuf LLP filed for bankruptcy. After sustaining itself for years on the “Big-Law” business model, too many financial missteps led to fleeing partners, which ultimately resulted in one of the biggest law firm meltdowns in US history. Despite its downfall, the firm has implemented a novel strategy during its bankruptcy proceeding that has caught everyone’s attention.
Like many other mega-firms in the law industry today, Dewey’s constant expansions and lawyer recruitment from competing firms made for an atmosphere of dissimilar backgrounds and interests. While this mentality does little to foster a firm culture or sense of unity, it does tend to foster one common ideal: making money, and lots of it. But when those decisions amounted to overwhelming debt obligations and large salary disparities coupled with a minimal sense of loyalty to the firm, disaster ensued.
Partly due to the financial crisis, brewing concerns over the firm’s debt, and salary cuts, partners began escaping to greener pastures. With the floodgates open, the firm saw no viable route out of millions in debt other than bankruptcy.
How much debt exactly? According to the original court-filing documents, Dewey racked up an estimated $315 million in liabilities – $225 million of which it owed to banks. After further investigation, that number grew to $560 million in potential liabilities. The next question then was whether to liquidate under Chapter 7 or reorganize under Chapter 11.
A Chapter 7 filing is usually the preferred route for liquidations because the debtor hands the estate over to a trustee to sell the assets and pay off creditors quickly. However, liquidation is also possible under Chapter 11. This is a more time-consuming and deliberative process, but it allows for more cooperation and control of the estate on the firm’s part throughout the process.
A majority of Dewey’s former partners have already found safe harbor at other firms, which is not to say they are entirely safe from harm. It is very common for creditors to make “clawback” claims, which are preferential transfer (§547) or fraudulent transfer (§548) claims for money given out by the debtor but owed to the bankruptcy estate to settle debts with creditors. Because law firms do not typically have many assets to liquidate (besides some high-end artwork perhaps), clawback claims are usually aimed at the partners themselves.
Clawback claims tend to come in large quantities and from all directions, dragging out the litigation process for years on end. Given the high stakes of debt, there was naturally a desire to minimize the number of potential claims and get out of the mess as quickly as possible. Prior to filing, Dewey’s plan was to merge with another firm that would agree to liquidate Dewey’s assets and waive potential liabilities for partners.
The question was whether this plan would yield enough cash to pay creditors while staying out of the bankruptcy court. However, once an investigation by the Manhattan District Attorney’s Office was initiated to look into the potential transgressions of former Dewey partners, the group decided to switch to another alternative.
A new settlement option within the bankruptcy process, The Partner Contribution Plan (PCP), was devised shortly thereafter by a team of restructuring experts. As its name suggests, the agreement asks former partners to contribute part of their compensation from 2011 and 2012 in exchange for a release from liability in future lawsuits (the clawbacks).
The PCP proposal was for a $71.5 million settlement with former partners, with individual payments ranging from $5,000 to $3.37 million. This would serve as the most significant recovery for creditors to date, despite being a long way from the potential $500 million owed (which may never be fully realized).
Normally an idea like this is met with hesitation and objection because of the likely controversy that would ensue over who owes how much and who is responsible for certain financial shortcomings. Initially, the plan was supported by a portion of ex-partners and even the unsecured creditors who, although admitting the plan was a compromise on their part, could not refuse it.
However, two groups were not on board with the plan because they preferred to have an independent trustee appointed. Both the official committee of former partners and an ad hoc committee of retired partners filed objections to the plan with the bankruptcy court. These groups felt it was too soon to be attempting such a progressive tactic (it is true: no other firm bankruptcy had successfully negotiated a partner settlement this big within only the first few months of filing).
In addition, there were claims that this was not exactly an arms length deal – the architects of the plan were the very same individuals who could face liability for their role in the firm’s downfall. Those opposed to the plan were concerned that there had been connivance between interested parties and that there was not enough transparency in that the plan did not show the liabilities and settlement amounts for any individual partners.
However, in his August ruling, US Bankruptcy Court Judge Martin Glenn (Bankr. S.D.N.Y.) rejected the contentions of the groups having found no evidence to support their allegations. Furthermore, he found that the plan offers undeniable benefits because it will result in the fastest wind-down and distribution to creditors.
When deciding between years of anxiety and costly litigation and the opportunity for a clean slate, the partnership contribution plan becomes more persuasive. As Mr. Bienenstock, the former head of Dewey’s bankruptcy practice put it, “it was an opportunity to buy yourself an insurance policy.” It may have never been done before because people assumed that it was impossible before even trying. But with minimal cooperation (rare in these cases), a complicated process becomes more feasible. On that note, Judge Glenn gave his blessing to the proposal, paving the way for more partners to sign on to the plan.
The passing of the Partner Contribution Plan has become the talk of the bankruptcy community and looks to be a potential candidate for the new remedy of choice in firm bankruptcies. While there are obvious benefits to the plan, it may be a unique solution designed only for the Dewey bankruptcy case. The shocking amount of debt and the ability to waive potentially millions in claims down the road may have pushed the early PCP settlement here. Nonetheless, the level of cooperation and decisiveness in forming the PCP should serve as a model for firms in danger of insolvency. Given the dreary financial climate of today, we may be seeing more PCP’s after all.