Dewey Violate Rule 10b-5? A Detailed Look at the Firm's 2010 Offering Memorandum
Was the offering memo for Dewey & LeBoeuf's 2010 private placement materially misleading? And what does the document reveal about the firm's finances?
Law firm financials can be shrouded in mystery. Sure, the American Lawyer releases its closely watched and highly influential Am Law 100 rankings each year, which shed some light on the subject. But these numbers are not Gospel truth, and sometimes they get restated — which is what happened last month to Dewey & LeBoeuf.
Making a material misrepresentation to the American Lawyer doesn’t violate the securities laws. Making a material misrepresentation in connection with the purchase or sale of any security — well, that’s more problematic.
Let’s take a closer look at a subject we mentioned last night and again this morning, namely, the offering memorandum for Dewey’s 2010 private placement of $125 million in bonds….
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Here’s a report on the document from DealBook, which obtained and posted the offering memo:
A bond offering by Dewey & LeBoeuf did not disclose the extensive guarantees that it gave to partners, an omission that could subject the law firm’s partners to litigation, securities lawyers say.
In March 2010, Dewey raised $125 million in a private bond offering, an unusual move by a law firm. The offering document… paints a rosy picture of Dewey, even as cracks in the firm’s finances were starting to show.
The 58-page document trumpets Dewey’s “global footprint,” “exceptionally diverse client base,” and “strong financial condition and conservative debt profile.”
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That’s a good description of the offering memo. At times it feels like Dewey simply took its website and turned it into paper form. For example, the entirety of page 40 is devoted to bragging about Dewey’s pro bono work — certainly commendable, but not terribly relevant to purchasers of debt securities.
More relevant would have been mention of the compensation guarantees to certain partners. Again, from Peter Lattman of the New York Times:
At the core of Dewey’s financial problems were the multiyear, multimillion-dollar pay contracts it gave existing top lawyers and star recruits. Beginning in 2008, the firm fell short of its projections and started accumulating millions of dollars owed to its partners. Those continued to pile up until things came to a head after the firm posted disappointing results last year and asked the partners to take substantial salary cuts….
Several securities lawyers said that it was rare for a private bond offering like Dewey’s to contain no “risk factors,” which are typically included in an offering to warn investors about potential issues with a company’s financial condition.
“It is highly unusual to see no risk factors in a securities offering,” said Andrew Stoltmann, a securities lawyer in Chicago.
“And it also seems to me that these big contracts that the Dewey partners had and weren’t getting paid on would be material information to a potential investor,” Mr. Stoltmann said.
Recall that this was a private placement made back in 2010, not a public offering or even a Rule 144A transaction, so the disclosure requirements weren’t as high. But having a “risk factors” section would have been wise in terms of protecting Dewey from subsequent claims by investors of insufficient or misleading disclosure — claims that we might very well see, very soon. One knowledgeable ATL reader offered this free (albeit belated) drafting advice for Dewey:
Shockingly, there is no “Risk Factors” section. Undisclosed risks would seem to include:
1. Most of the firm’s revenues are transaction-based and therefore highly subject to overall economic conditions. (Dewey’s drop in revenue from 2008 to 2009 would reflect this.)
2. Under the partnership agreement, partners — whose future billings are the firm’s biggest assets — can leave whenever they want, and take their paid-in capital with them.
3. When partners leave, their clients often follow, resulting in a potential loss of large fees to the firm going forward.
4. The firm relies on relatively few partners to bring in a majority of its revenues, meaning that any loss of those partners could have a significant effect on the firm’s overall revenues.
5. Many partners have long-term income guarantees, meaning that the firm has multi-year obligations. (Yes, the Memo makes no mention of the guarantees! That alone could be a securities-law violation.)
6. Because many partners have income guarantees, they may not be properly incentivized to seek out new business for the firm or aggressively collect on outstanding accounts receivable.
7. If a few partners who generate lots of business leave the firm, it may create a domino effect of other partners leaving the firm, which could cause the firm to collapse.
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Which, of course, we are now witnessing. If the firm goes under and these bonds don’t get paid — right now, according to the Times, they are “trading at deeply distressed levels and are in an ‘apparent death spiral'” — look out for litigation. In terms of possible plaintiffs, the biggest purchasers were Hartford ($45 million), the British firm Aviva ($35 million), and the Dutch firm Aegon ($25 million), according to Bruce MacEwen.
So that’s what the memo does not say. What does it say, as an affirmative matter?
Here are a few things I noticed in a quick spin through the document — followed by observations from readers, and then the document itself….
