Like any other business, law firms sometimes fail. While the failures of large law firms are well-publicized, smaller law firms can be just as or even more susceptible to failure, as the unexpected departure of the firm’s most profitable partner can be devastating to a small firm.

When law firms fail, the California Court of Appeals’ decision in Jewel v. Boxer is often the first case cited by courts in determining how to handle claims for “unfinished business” in the form of the client matters that remain pending at the time the law firm dissolves. This is true regardless of the jurisdiction, as courts around the country often look to Jewel for guidance in the absence of controlling authority.

As a result, law firms everywhere have debated whether they are comfortable with the potential effect of Jewel. This question involves tricky issues that can create a potential conflict between the interests of individual attorneys and the interests of the law firm as a whole. However, the landscape may be changing, as the California Supreme Court has accepted a request for certification of a question from the U.S. Court of Appeals for the Ninth Circuit that may give the court occasion to review the decision in Jewel.

‘Jewel v. Boxer’

In Jewel, the California Court of Appeals considered the proper allocation of fees received from cases that remained active at the time a law firm was dissolved by mutual agreement of its partners. Specifically, the court considered whether partners of a dissolved law firm are entitled to the profits earned by their former firm partners who took their portable business to a new firm. The court concluded that, when an attorney leaves a dissolving firm and takes work elsewhere, the departing partner and his or her new firm may be required to disgorge profits earned in completing the work taken to the new firm.

At the time it was decided, it was not clear whether Jewel was an isolated case or whether it reflected a significant change in the dynamics of partner departures. Since then, however, bankruptcy trustees, receivers, and successors in interest to law firms have regularly relied on Jewel in attempting to collect profits from departing partners and the firms that hire them.

In response to Jewel, attorneys and law firms that wished to allow departing partners to keep the profits earned in completing so-called “unfinished business” began to include “Jewel waivers” in their partnership agreements. In most situations, this term permits a partner to complete unfinished business originated at the dissolved firm without the financial or legal obligation to disgorge fees earned from that business after moving to a new firm. The Jewel court recognized such a provision as a means “to endure a degree of exactness and certainty unattainable by rules of general application.”

For individual attorneys, especially rainmakers focused on portability, a Jewel waiver can be a simple and effective solution. On the other hand, for law firms focused on deterring defecting partners, the firm may not want to pursue a Jewel waiver option. Indeed, a firm that adopts a Jewel waiver may have less ability to predict and control its accounts receivable because anticipated profits are tied to the partner, not the firm where the matter originated.

Heller Ehrman

Although Jewel remains controlling law, a decision from the California Supreme Court may soon either create new law or reaffirm the application of the Jewel doctrine. In 2014, the U.S. District Court for the Northern District of California reviewed a bankruptcy court decision that allowed the trustee for the defunct Heller Ehrman LLP law firm to pursue profits made by third-party firms under the unfinished business doctrine. The court addressed whether a dissolved law firm has a property interest in hourly fee matters pending at dissolution and observed that a “law firm—and its attorneys—do not own the matters on which they perform their legal services. Their clients do.”

The court in Heller Ehrman analyzed Jewel in detail and concluded that the California Supreme Court was unlikely to find the case to be good law. It also distinguished Jewel on the basis that the Revised Uniform Partnership Act (RUPA), which California adopted after Jewel, has no provision “that gives the dissolved firm the right to demand an accounting for profits earned by its former partner under a new retainer agreement with a client.”

On appeal, however, the Ninth Circuit held that, in light of the adoption of the RUPA and other statutory changes since Jewel, guidance was needed from the California Supreme Court. As of the date of this publication, the California Supreme Court has heard oral argument on the issue but has not yet rendered a decision. Law firms will certainly be watching the decision closely.

Whether to Waive

While the debate continues in California and elsewhere regarding whether it should be the law, law firms and their partners continue to balance the short-term and long-term benefits and consequences of adopting a Jewel waiver. Some law firms also may consider a third option and require that after a partner leaves the firm, she or he will pay the prior firm a specified percentage of the revenues or profits earned from unfinished business for a prescribed period of time.

Indeed, by proactively addressing the issue, law firms can help avoid the uncertainty associated with the dissolution of a law firm. While there is no one right answer that fits all firms or all partners, the goal is to avoid unexpected and unwanted surprises.