Miguel Ángel Pérez de la Manga Falcón
Partner at black.swan
Professor of Management at PSF at the University of Navarra, Spain
Published by https://lexlatin.com/gestion-lexlatin/compensacion-socios-resultados-presente-recompensas-futuro 35 m
A few days ago, I reviewed an episode of a series set in the day-to-day life of a professional services firm. One of the main characters, a partner in the firm, is being evaluated to determine his annual compensation. The conversation went something like this:
- We’re going to cut your pay by 40%.
- 40%? Why?
- Your results have not been good.
- What do you mean, not good? Only the last two quarters have been bad.
- Those are the ones that count for the evaluation and for determining compensation.
- What about the previous 100 quarters? Don’t those count?
- No, they don’t.
In less than a minute, this scene perfectly summarizes the dimensions that underlie partner compensation in professional services firms, a reality also seen in law firms.
What will we evaluate?
When evaluating professional performance, we must take into account the dimensions of partner compensation systems in law firms. What are we going to evaluate?
- The effects of past performance on the present, or just the present?
- The performance of the collective or individual performance?
- The effects of performance in the short, medium or long term?
All approaches are valid, but they must be consistent. A compensation system that capitalizes 100% of the partner’s performance in the present, even if it means tacitly recasting the partnership every year, is just as legitimate as a model that rewards current efforts for their future effects. The first system is based on the individual; the second on the collective.
That effort and reward do not travel in tandem is difficult to understand in today’s environment. The second system is institution and long-term oriented. In an era where the perception of time and space has changed for new generations, this model seems to contradict the immediate rhythm that many expect. If in a discounted cash flow valuation we bring to the present the future utility adjusted for risk and opportunity cost, in a lockstep compensation system the opposite is true: current efforts are moved to the future, where they will determine the payoff.
In these systems, risks and opportunity cost are also taken into account, and are reduced through the governance of the firm. If my promise of reward is future, I need an organization that is sustainable over time, institutionally oriented, with stability to ensure that the promise is fulfilled, with a well-defined culture and values. In addition, it must generate sufficient profitability so that waiting does not erode motivation.
Review of compensation systems
Compensation systems operate in dynamic environments and need to be reviewed periodically. However, these reviews will only be accepted by partners if they are aligned with the firm’s strategy. Internal and external strategy must be connected. If, in order to better compete in the market (external strategy), adjustments are required, the partners will accept changes to the internal strategy. But if the adjustments are not related to this coordination, the partners may perceive them with suspicion, generating unnecessary tensions.
Three key questions to update the compensation system
When we detect tensions in the system, we can consider these questions as a guide to initiate its modification:
- Will the modification help to better coordinate the external strategy with the internal one?
- Is it consistent with the rest of the firm’s systems? Are we breaking any promises?
- Will it improve cohesion among the majority of partners? Will it motivate associates to want to be partners? Will it increase commitment to value generation, quality and client service in the coming years?
The answers to these questions will provide a solid guide for adjusting the compensation system, ensuring that it is functional, equitable and aligned with the firm’s strategic objectives.