31 July came and went. No announcements of law firms going under; everyone’s in holiday mode; and, apart of course from continued legal aid reforms and being told to do more charitable/pro-bono work, the legal sector seems a happy place.
A general uptick in results published to date, certainly on turnover, suggests a sector coming out of a recession in a positive fashion. That’s worth emphasising as insolvency practitioners (IP) would tell you that more businesses go bust coming out of a recession rather than going into a recession. Cynics amongst us would say, ’well they would say that wouldn’t they’, but it may be worth exploring and how it could be relevant to law firms.
I referred to turnover increases being experienced by law firms, but it’s worth considering how this has come about. There is a belief that this is mainly due to additional lateral hires, rather than existing fee earners being busier/more productive. This, therefore, naturally increases the cost base of the business, probably leading to increased Work in Progress to be financed. Returning to our friendly (no hidden agenda) IP, he or she would relate this to a ’normal’ trading business taking on too much stock due to increased activity and not selling it on quickly enough and, therefore, not being able to finance it. Classic overtrading the IP would say, knowingly.
So how can the legal sector and its advisers avoid the IPs saying ’I told you so!’? It does come back to a few key practice management tools and ensuring the key (or working capital hungry) fee earners/departments are educated and/or reminded of the following:
• Cash is king – Their parents would always have told them money does not grow on trees and certainly neither does a law firm’s finances!
• A profit is not a profit until it’s turned into cash. I am a great believer that businesses in general should be focused on their own liquidity and removing any barriers to this. A law firm’s profit are in some instances represented 100% or more by what is in debtors or WIP; therefore is this profit ’real’ and the model sustainable?
• Banks and lenders generally are becoming more covenant-savvy and linking terms not just to the year-end results, but also to the whole equation of WIP/debtors/lock-up build up, fees and, therefore, borrowing requirements. This information is often required quarterly so make sure you are on top of your cash flow pinch points rather than the bank pointing them out for you.
• Second-tier lenders are still keen on the legal sector but will also often require much more robust management information and projections than a few years back. And a message from any second-tier lender is do not leave it too late to approach them; that hardly would suggest you are in control of your own finances.
• HMRC Time to Pay (TTP) arrangements have been incredibly useful to many businesses, including law firms. HMRC have for a while been giving many signs that this will not be as readily available as before and another such sign was that from 3 August 2015 payment via any TTP arrangement must be by Direct Debit.
Finally, and in conclusion, every business and law firm needs to have a firm handle not only on their present finances but also on their projected cash flow. An empowered and appropriately skilled finance team should be able to predict and manage the aforementioned pinch points.
That internal discipline, often delivered with an external nudge occasionally, should also be a benefit to assisting fee earners in their own financial management and performance, which all joined together leads to a financially efficient business with no surprises and panic calls to any lenders.
Peter Noyce is head of professional servies at Menzies LLP.