Successful law firms not only have great lawyers; they also have solid business practices.
Financially healthy firms make better decisions, take more calculated risks, and are more profitable. However, it is more difficult than ever for law firms to achieve financial prosperity. Clients are demanding more value and transparency with their legal spend. Law firms have no choice but to strengthen their business models and processes.
Firms can start by identifying their weak areas preventing them from having a solid bill of financial health. Law firms facing financial issues are typically weak in the following areas:
1. Financial Resources
Many law firms we consult mistakenly believe that getting new business will cure their financial struggles. However, expansion usually causes strain on the firm’s already limited financial resources. Insufficient commitment to strong financial management stops these firms from reaching their potential and threatens their long-term viability.
Insufficient financial resources is a strong indicator of weak financial management.
2. Financial Discipline
Most small and mid-sized law firms use the cash basis of accounting. This has the side benefit of encouraging firms to live on the money they collect. Some firms choose to use debt to supplement their client fee income. While it is okay to use a certain amount of debt to invest in equipment and finance case costs, when a firm starts to use debt to pay for partner draws, trouble is not far ahead. Instead, we encourage clients to create cash reserves using a mixture of capital contributions and withheld earnings from equity owners.
Using debt to mask underlying financial issues is a strong indicator of weak financial management.
3. Financial Reporting
Smart decisions are based on accurate data. Whether making a purchase decision or a lateral hire, law firms need readily available financial data that is current and real - every time. This isn’t the case for most firms since financial reporting is usually not their strength. In addition to late or inaccurate financial reporting, deficiencies include insufficient regular cash reporting and forecasting. We call this the checkbook approach - things are good when there is money in the bank and bad when there is not.
Law firm accounting and reporting are mostly straightforward. There is no excuse for not having regular financial reporting on cash receipts and disbursements, predictive income statement models using production and billings, and cash needs forecasting.
Poor financial reporting is a strong indicator of weak financial management.
4. Planning and Budgeting
We understand that planning and budgeting is uninteresting and often seem irrelevant to the ups and downs of the average small and mid-sized law firm business cycle. But firms can’t manage what isn’t measured and cannot measure what isn’t defined. A well-developed budget and plan can guide the firm with major purchase or growth decisions. Without a plan and budget, many firms take a reactive approach to financial management, leading to instability and poor performance.
The absence of planning and budgeting is a strong indicator of weak financial management.
Most small and mid-sized firms operate on a tight administrative budget and often don’t have the money to pay for an in-house CPA or high level financial resource. They often expect non-financial people with limited or no financial experience to provide financial management support beyond their training. As mentioned previously, most law firm accounting and financial management functions are not technically complicated, but some components require advanced skills. Law firm CFO services are available on a contract basis, so affordability is not an excuse.
Relying too heavily on untrained staff is a strong indicator of weak financial management.
6. Policies and Procedures
Even the best financial plan and budget is useless if it is not enforced or valued.
Weak law firm financial management policies and procedures send damaging messages to lawyers and staff and usually result in costly mistakes. If the perception is that financial management is not valued, the staff and attorneys likely won’t care. Moreover, they may feel unsafe if they report financial issues. With the many decisions made at law firms each day, equity owners must rely on staff-level positions to protect the firm's assets. Weak policies make that job nearly impossible.
Weak law firm financial management policies and procedures are a strong indicator of weak financial management.
We know law firm financial management isn't easy.
At PerformLaw, we know you want the best for your firm. To do that, you need objective information quickly. The problem is that you are pressed for time and may not have financial training, which can make anyone feel overmatched. For the last 17 years, our unbiased analysis and expert advice have helped dozens of clients just like you with their financial management needs. Our contract law firm CFO services may be the affordable solution to your law firm's financial problems.