There are some basic steps that law firms of all sizes can take to turn profits into hard cash. Stephen Pritchard explains how to improve cash collection by following common-sense rules


Financial success for any professional practice is, and has always been, dictated by a basic set of rules.



These are: keep chargeable time high; keep write-offs on billing low; raise fees as soon as you can; and collect your debts promptly.



Following these rules will help keep your 'billing cycle' as short as possible, a period which runs from the acceptance of the initial instruction from a client to the receipt of the payment of your fees. During this period, your profit is locked up and you will be unable to draw against it. This has led to the development in recent years of the term 'lock-up'.



Lock-up tends to be measured in days and the equation is: Work in progress + debtors over Annual fees multiplied by 365 days.



The result of the calculation will give you the number of days of fees that you have tied up in either unbilled work-in-progress or in unpaid debtors. The lower the number, the quicker you are successfully converting your chargeable time into cash.



Shifts in this number can explain why, when reviewing your year-end accounts, you can ask: 'If the profits are so good this year, why do I have no money in the bank?'



This cry has been heard often over recent months as solicitors review their accounts following the introduction of UITF40, which dealt with a dramatic revision in the way that work-in-progress is valued for inclusion within your accounts.



In general terms, these new rules have resulted in greater capital and current account balances for partners and sole practitioners - which looks good until you realise that there has not necessarily been any corresponding increase in cash available for you to draw.



Reducing lock-up



Lock-up can be successfully reduced by a number of tricks, including failing to charge time to the ledger and writing off large amounts of time when fee notes are raised, but such practices will only result in lower profits. It must always be preferable to make a profit that is locked up for a period than to make no profit.



The only true ways to successfully reduce lock-up are to bill quicker and to collect your debts faster. To help with that aim, remember to:

l Maintain good communication with clients about bills, so there are no surprises for them and as a result no delays in paying you;

l Bill the client at completion of a good job when client satisfaction is likely to be at its highest, not weeks later when your 'star performance' has faded in their mind;

l Consider opportunities for interim billing; and

l Operate an effective credit-control system within the practice. This does not require heavy-handed debt collection, merely a system for reminding your clients that they owe you unpaid fees, and to identify problems as early as possible.



There will, of course, be situations when the monies will be on a client's account, so there is no excuse not to bill quickly and collect.



Setting targets



Each individual fee-earner, partner and department should have a target of lock-up days. Of course this will vary between each firm's practice areas - the lock-up relating to residential conveyancing will be significantly different to a clinical negligence case.



However, such differences should not discourage the setting of a target. A lock-up of five months is the overall average that we are seeing at present, but if you are a long way from this then simply remember that it is a target to aim for. Any reduction that can be achieved is a success.



The reason for having a 'days' measure rather than an absolute measure is that the quantum of lock-up can be misleading and lead to incorrect assumptions. For example, assume partner X has a total lock-up of £100,000 and total annual fees of £200,000, while partner Y has a lock-up of £150,000 and annual fees of £450,000.



Partner X, despite only having lock-up of two-thirds of partner Y by value, has lock-up of 182 days in contrast to partner Y's lock-up of 122 days. Quantum of lock-up should not be disregarded, but the focus of concern would be with partner X.



You should therefore adopt (if you have not already done so) a rigid internal control function operated by the finance department, with authority to question all partners as to their portfolio's performance.



Keep in mind also that poor lock-up leads eventually to slower cash collection and therefore, at best, lower drawings and, at worst, demands for further capital injections.



Ensuring financial success



There are some basic steps that all firms can apply in order to earn good profits, and turn them into cash:

l Allocate chargeable hour targets for all fee-earners;

l Give monthly (not annual) billing targets. The 'annual biller' is the partner who does 80% of his billings in the last 20% of the year, which does not assist cash flow in the middle of your financial year;

l Establish work-in-progress write-off controls to ensure that good time is recorded and billed;

l Set cash collection targets for each month. Use of a credit control function can help and often pays for itself;

l Provide lock-up targets for all departments; and

l Assess the support staff to fee-earner ratios.



Many firms will, of course, have these procedures in place but are they actually being operated and monitored?



In recent months, there has been much discussion about UITF40 - and it has been almost universally negative. However, if it helps us to recognise exactly how much cash is locked up in our practices, and to reduce it, then, at least, something beneficial will result.



Stephen Pritchard is a partner at chartered accountants Menzies (spritchard@menzies.co.uk)