Monthly Archives: November 2014

LAW & FOOTBALL: RANKINGS DOUBLETHINK

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For many people, the holiday season means an intense focus on college football. This year, a 12-person committee develops weekly team rankings. They will culminate in playoffs that produce head-to-head competition for the national championship in January.

A recent comment from the chairman of that committee, Jeff Long, is reminiscent of something U.S. News rankings czar Robert Morse said about his ranking system last year. Both remarks reveal how those responsible for rankings methodology rationalize distance between themselves and the behavior they incentivize.

Nobody Wants Credit?

Explaining why undefeated Florida State dropped from second to third in the November 11 rankings, Long told ESPN that making distinctions among the top teams was difficult. He explained that the relevant factors include a team’s “body of work, their strength of schedule.” Teams that defeat other strong teams get a higher rank than those beating weaker opponents. So even though Oregon has suffered a loss this year, its three victories against top-25 opponents jumped it ahead of undefeated FSU, which had only two such wins. Long repeated his explanation on November 19: “Strength of schedule is an important factor….”

Whether Oregon should be ahead of FSU isn’t the point. Long’s response to a follow-up question on November 11 is the eye-catcher: Was the committee sending a message to teams that they should schedule games against tougher opponents?

“We don’t think it’s our job to send messages,” he said. “We believe the rankings will do that.”

But who develops the criteria underlying the rankings? Long’s committee. The logic circle is complete.

Agency Moment Lost: Students

In his November 14 column for the New York Times, David Brooks writes more broadly about “The Agency Moment.” It occurs when an individual accepts complete responsibility for his or her decisions. Some people never experience it.

Rankings can provide opportunities for agency moments. For example, some prelaw students avoid serious inquiry into an important question: which law school might be the best fit for their individual circumstances? Instead, I’ve heard undergraduates say they’ll attend the best law school that accepts them, and U.S. News rankings will make that determination.

If they were talking about choosing from law schools in different groups, that would make some sense. There’s a reason that Harvard doesn’t lose students to Boston University. But too many students take the rankings too far. If the choice is between school number 22 and the one ranked number 23, they’re picking number 22, period. That’s idiotic.

In abandoning independent judgment, such students (and their parents) cede one of life’s most important decisions to Robert Morse, the non-lawyer master of the rankings methodology. It’s also an agency moment lost.

Agency Moment Lost: Deans, Administrators, and Alumni

Likewise, deans who let U.S. News dictate their management decisions say they’re just responding to incentives. As long as university administrators, alumni, and prospective students view the rankings as meaningful, they have to act accordingly. Any complaint — and there are many — should go to the person who develops the rankings methodology.

All roads of responsibility lead back to U.S. News’ Robert Morse, they say. But following that trail leads to another lost agency moment. In March 2013, Lee Pacchia of Bloomberg asked Morse if he took any responsibility for what’s ailing legal education today:

“No…U.S. News isn’t the ABA. U.S. News doesn’t regulate the reporting requirements. No….”

Agency Moment Lost: Methodology Masters

Morse went on to say that U.S. News was not responsible for the cost of law school, either. Pacchia didn’t ask him why the methodology rewards a school that increases expenditures without regard to the beneficial impact on student experiences or employment outcomes. Or how schools game the system by aggressively recruiting transfer students whose tuition adds revenue at minimal cost and whose lower LSAT scores don’t count in the school’s ranking methodology. (Vivia Chen recently reported on the dramatic increase in incoming transfer students at some schools.)

Cassius was only half-right. The fault lies not in our stars; but it doesn’t lie anywhere else, either!

The many ways that U.S. News rankings methodology has distorted law school deans’ decision-making is the subject of Part I of my book, The Lawyer Bubble – A Profession in Crisis. Part II investigates the analogous behavior of law firm leaders who rely on metrics that maximize short-term Am Law rankings in running their businesses (e.g., billings, billable hours, hourly rates, and leverage ratios).

Aggregate Rankings v. Individual Outcomes

In the end, “sending a message” through a rankings methodology is only one part of an agency equation. The message itself doesn’t require the recipient to engage in any particular behavior. That’s still a choice, although incentive structures can limit perceived options and create first-mover dilemmas.

Importantly, individual outcomes don’t always conform to rankings-based predictions. Successful participants still have to play — and win — each game. That doesn’t always happen. Just ask Mississippi State — ranked number one in the college football playoff sweepstakes after week 12, but then losing to Alabama on November 15. Or even better, look at number 18 ranked Notre Dame, losing on the same day to unranked Northwestern.

Maybe that’s the real lesson for college coaches, prelaw students, law school deans, and law firm leaders. Rather than rely on rankings and pander to the methodology behind them, focus on winning the game.

INFILAW AND THE ABA

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After a setback last summer, Inflilaw has flown under the radar in its quest to acquire the Charleston School of Law. Since July 2013, the private equity owners of Infilaw  — a consortium of three for-profit law schools (Florida Coastal, Charlotte, and Arizona Summit (formerly the Phoenix School of Law)) — have been trying to add Charleston to their portfolio.  (For more on Infilaw, see Paul Campos’ recent article in The Atlantic.)

The persistence of Infilaw’s effort alone says something about the situation: There’s money to be made in legal education. Venture capitalists specialize in finding opportunities for above average investment returns. It doesn’t matter to them that the main source of that money is federal student loans. Nor do they care if the vast majority of students who obtain those loans to attend marginal schools are unable find JD-required employment. If there’s a market failure to exploit for profit, they’re on it.

On November 6, 2014, the ABA Accreditation Committee issued its recommendation of acquiescence — yes, that’s what it’s called — in connection with Infilaw’s proposed acquisition. It found that the desired change in control “will not detract from [Charleston School of Law’s] ability to remain in compliance” with ABA accreditation standards.

The Deal

The ABA recommendation identifies key aspects of the proposed acquisition, but then ignores their implications. For example, under the Asset Purchase Agreement, Infilaw would acquire most of the school’s assets, but it makes no promise of post-acquisition employment for any existing employees. None. Only on the “eve of closing” will Infilaw disclose the faculty members it wants to keep. Nevertheless, the ABA is willing to accept on faith that this pig in a poke — whatever it turns out to be — won’t “detract from the school’s ability” to retain its accreditation.

Under a separate Administrative and Consulting Services Agreement, Infilaw will receive “substantial consideration” to provide “non-academic, administrative, and consulting services” to the law school. Those services probably account for these troubling lines in the ABA committee’s recommendation:

“Infilaw contemplates that…the legal market permitting, it will increase the size of entering classes to approximately 250, or ‘pre-downturn levels.’…The law school will have access to and benefit from the collective knowledge of Infilaw and its three existing law schools with respect to student recruiting and enrollment.”

The Market?

What does “the legal market permitting” mean? Charleston enrolled 145 full-time students for its expected graduating class of 2017. Returning to “pre-downturn” levels would increase that number by 75 percent. Such near-term growth in demand for the school’s new lawyers is a pipe dream. The recent Bureau of Labor Statistics report on legal sector employment confirms painful reality: Over the past year, the number of all legal jobs — not just lawyers — is actually 1,300 lower than a year ago.

But “access to and benefit from” Infilaw’s existing three schools “with respect to student recruiting and enrollment” means law school behavior that has little to do with actual “legal market” employment conditions for new graduates. Rather, as I’ve discussed previously, the current operation of the Inflilaw business model makes the future of Charleston as an Infilaw holding apparent.

A Race To…The Bottom?

The Infilaw model depends on federal student loans to produce revenue streams that create profits for investors. As the demand for lawyers languished during the Great Recession, Infilaw schools increased enrollment and tuition.

Meanwhile, North Carolina bar passage rates for first-time takers graduating from Infilaw’s Charlotte School of Law dropped from 87 percent in July 2010 to 58 percent in July 2013. The school placed seventh (out of seven NC schools) in its July 2014 bar passage rate: 56 percent. Florida Coastal’s first-time rate dropped from 75 percent in July 2012 to 67 percent in July 2013. Its first-time Florida bar passage rate in July 2014 was 58 percent (10th out of 11 Florida schools). Arizona Summit’s first-time bar pass rate in its home state for July 2014 was 55 percent (third out of three Arizona schools).

Overall, only 35 percent of 2013 graduates from Infilaw schools found full-time long-term JD-required employment. By comparison, 53 percent of Charleston School of Law  graduates from the class of 2013 secured full-time long-term JD-required jobs — just below the national average for all law schools.

A Statistic On The Rise

At Florida Coastal, average student loan debt for 2014 graduates was $175,274. The other two Infilaw schools haven’t updated their websites to provide 2014 information. For 2013 graduates of Arizona Summit, average student law school debt was $184,825. At Charlotte, it was $155,697, plus another $20,000 in private student loans. (Average law school debt for Charleston graduates in 2013 was also too high ($146,595). But its 2013 employment outcomes were much better than any Infilaw school.)

Infliaw isn’t home free in its quest. After a closed session of the Accreditation Committee on December 5 in Puerto Rico, the recommendation will go to the ABA’s Council of the Section on Legal Education and Admissions. Then the South Carolina Commission on Higher Education has to approve the deal. Last summer, a committee of that commission voted 3-to-1 against, prompting Infilaw to withdraw its application while promising a return bout that will probably occur in early 2015.

The ABA

People sometimes ask where the ABA has been in the ongoing search for solutions to the current crisis involving law schools whose graduates are incurring staggering debt for JD degrees of dubious value. The answer is becoming clearer.

It’s “acquiescing.”

But wait. The ABA has done one more thing. It has convened a special Task Force on the Financing of Legal Education to recommend fixes for a dysfunctional legal education market. Former Detroit Mayor Dennis W. Archer, the chairman of Infilaw’s National Policy Board, is still chairman of that Task Force. In 2003-2004, he was president of the ABA.

BULLET DODGED? OR REDIRECTED TOWARD YOU?

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For the past six months, Thomas Jefferson School of Law in San Diego seemed poised to become the first ABA-accredited law school to fail since the Great Recession began. For anyone paying attention to employment trends in the legal sector, the passage of six years without a law school closing somewhere is itself remarkable. It also says much about market dysfunction in legal education.

In his November 5 column in the New York Times, University of California-Berkeley law professor Steven Davidoff Solomon has a different view. Solomon argues that recent enrollment declines prove that a functioning market has corrected itself: “[T]he bottom is almost here for law schools. This is how economics works: Markets tend to overshoot on the way up, and down.”

Solomon urges that the proper course is to keep marginal law schools such as Thomas Jefferson alive for a while “and see what happens.” I disagree.

Take Thomas Jefferson, Please

As I’ve discussed previously, in 2008 the school issued bonds for a new building. When the specter of default loomed large in early 2014, the question was whether some accommodation with bondholders would keep the school alive. Solomon suggests that creditors made the only deal possible and the school is the ultimate winner. He gives little attention to the real losers in this latest example of a legal education market that is not working: Thomas Jefferson’s students, the legal profession, and taxpayers.

In retrospect, the restructuring agreement between the school and its bondholders reveals that a deal was always likely. That’s because both sides could use other people’s money to make it, as they have since 2008.

According to published reports, interest on the taxable portion of the 2008 bond issuance was 11 percent. Tax-exempt bondholders earned more than 7 percent interest. Thanks to federally-backed student tuition loans, taxpayers then subsidized the school’s revenue streams that provided quarterly interest and principal payments to those bondholders.

Outcomes? Irrelevant In This Market

Last year, Thomas Jefferson accepted 80 percent of applicants. According to its latest required ABA disclosures, first-year attrition was over 30 percent. The school’s California bar passage rate for first-time takers in February and July 2012 was 54 percent, compared to the state average of 71 percent.

Solomon cites the school’s other dismal statistics, but ignores their implications. For example, Thomas Jefferson’s low bar passage rate made no difference to most of its graduates because the full-time long-term bar passage-employment rate for the class of 2013 was 29 percent, as it was for the class of 2012.

Meanwhile, its perennially high tuition (currently $44,900 a year) put Thomas Jefferson #1 on the U.S. News list of schools whose students incurred the greatest law school indebtedness: $180,665 for the class of 2013. According to National Jurist, the school generates 95 percent of its income from tuition.

It’s Alive

This invites an obvious question: How did the school survive so long and what is prolonging its life?

First, owing to unemployed recent graduates with massive student loans, bondholders received handsome quarterly payments for more than five years — much of it tax-exempt interest. The disconnect between student outcomes and the easy availability for federal loans blocked a true market response to a deteriorating situation. Bondholders should also give an appreciative nod to federal taxpayers who are guaranteeing those loans and will foot the bill for graduates entering income-based loan forgiveness programs.

Second, headlines touted Thomas Jefferson’s new deal as “slashing debt” by $87 million, but bondholders now own the law school building and will reportedly receive a market rate rent from the school — $5 million a year. Future student loans unrelated to student outcomes will provide those funds.

Third, the school issued $40 million in new bonds that will pay the current bondholders two percent interest. Student loan debt will make those payments possible.

Net-net, win-win, lose-lose

The bottom line benefit for Thomas Jefferson is immediate relief from its current cash crunch. Instead of $12 million in principal and interest payments annually, the school will pay $6 million in rent and bond interest — funded by students who borrow to obtain a Thomas Jefferson law degree of dubious value.

“I think the whole deal is a reflection of the fact that the bondholders were very desirous for us to succeed,” [Thomas Jefferson Dean Thomas] Guernsey said.

Actually, it reflects the bondholders’ ability to tap into the proceeds of future federal student loans as they cut a deal with a wounded adversary. Instead of cash flow corresponding to bond interest rates of 7 and 11 percent, bondholders will receive about half that amount, along with an office building and the tax advantages that come with ownership (e.g., depreciation deductions). Think of it as refinancing your home mortgage, except the bank gets to keep your house.

Erroneous Assumptions Produce Dubious Strategies

“This restructuring is a major step toward achieving our goals,” said Thomas Guernsey, dean of Thomas Jefferson. “It puts the school on a solid financial footing.”

Throwing furniture into the fireplace to keep the house warm is not a viable long-run survival strategy. Consider future students and their willingness to borrow as the “furniture” and you have a picture of the Thomas Jefferson School of Law’s business plan.

Meanwhile, Solomon echoes the hopes of law school faculty and administrators everywhere when he says, “[T]he decline in enrollment could lead to a shortage of lawyers five years from now.”

In assuming a unitary market demand for lawyers, he conflates the separate and distinct submarkets for law school graduates. His resulting leap of faith is that a rising tide — even if it arrives — will lift Thomas Jefferson’s boat and the debt-ridden graduates adrift in it. It won’t.