Law Practice Management Asked and Answered Blog

Category: Financial Management

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Jun 01, 2011

How Can Protect My Law Firm From Embezzlement?

Question:

At a recent managing partner forum several of the attendees at the seminar discussed recent experiences with embezzlement by employees. What can we do to protect our firms?

Response: 

During the past 25 years that I have been working with law firms I have been amazed at the number of embezzlements caused by unscrupulous attorneys, bookkeepers, office managers and other staff members. And yes – even partners. One out of five law firms in my client sample has actually lost funds due to some form of embezzlement and caught the offenders.  While some of the firms have prosecuted and taken other actions against the offenders the process was very painful, time consuming, and typically the funds are never recovered in entirety. Of course, this is if you catch the offenders.

Many small firms’ internal control procedures are so lax that funds could be lost through embezzlement and the firm would not even know it.

Only through effective internal accounting and financial controls can law firms protect their offices from theft. The goal is not to catch offenders – but to have a system in place that discourages and prevents the theft from occurring in the first place.

The process involves implementing internal accounting and financial controls. In essence – segregation of duties. Here is an overview of such a system:

                    Internal Control is the plan of organization and all of the coordinate methods and measures adopted within a business organization to safeguard its assets, check the accuracy and reliability of its accounting data, promote operational efficiency, and encourage adherence to prescribed managerial policies.

The four basic elements considered essential in a satisfactory system of internal control are:

  1. A plan of organization that provides appropriate segregation of functional responsibility and duties.
  2.  A system of authorization and record procedures adequate to provide reasonable accounting control over assets, liabilities, revenues, and expenses. 
  3. Sound practices to be followed in performance of duties and functions of each of the organizational areas. 
  4. A degree of quality of personnel (competency) commensurate with responsibilities.

SUGGESTIONS:

 RECEIPTS

  1.  Have someone other than the bookkeeper open the mail. (i.e. receptionist) 
  2. Have the person who opens the mail prepare a list of all checks/cash received in duplicate. 
  3. Have person responsible for mail route one copy of the check/cash list to the office manager or managing partner and the other copy along with checks/cash to person responsible for making the bank deposit. 
  4. Assign someone responsibility for preparing the deposit and taking it to the bank. This person should verify the check/cash list against checks and cash, prepare deposit slip and make the bank deposit. 
  5. Upon return from the bank the deposit clerk should provide the bookkeeper with the deposit slip, receipt from the bank, and the check/cash list. 
  6. Bookkeeper enters the deposit into the computer system. 
  7. Office manager runs and mails monthly statements – not invoice fee bills – to clients.

DISBURSEMENTS

  1.  Don't give bookkeeper check signing authority.
  2.  Have someone other than bookkeeper approve vendor invoices. Require evidence of approval on all invoices. 
  3. Require purchases to be handled by someone other than the bookkeeper and the individual who approves vendor invoices for payment.

 GENERAL

  1.  Obtain adequate fidelity bonding insurance coverage. 
  2. Rotate duties when possible. 
  3. Have bank statements mailed to managing partner's home. He/she should bank statements and transactions and then give to someone other than bookkeeper and other personnel involved in processing receipts or disbursements. Some firms have their outside accounting firm perform this function. 
  4. Reconcile all bank accounts monthly. 
  5. Insure that adequate record retention systems are in place. 
  6. Formulate policies that provide for reasonable protection of assets. 
  7. Insure that adequate personnel selection methods, training programs,  supervision practices, and performance evaluation techniques conducive to control, providing assurance than an adequate number of employees are available to perform operational duties. 
  8. Insure that vacations are mandatory and contain provisions for competent replacements to perform all of the assigned duties of the vacationing employees. 
  9. Outline job duties in written job descriptions.  
  10. Develop an accounting manual. 
  11. Properly supervise, verify, and follow-up on all operations, people, and systems.

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John W. Olmstead, MBA, Ph.D, CMC

 

 

 

May 25, 2011

Improving Law Firm Profitability Through Cost Reduction

Question:

As the managing partner of a 12 attorney I have been asked to see what the firm can do to improve profitability by reducing costs. Do you have ideas or recommendations in this area?

Response:

In most law firms the real problem is insufficient gross income and lack of sufficient investment (spending and time) on marketing and initiatives designed to stimulate client and revenue growth. For most firms increasing revenues is the most effective way of impacting the bottom line. However, we do find that there is waste and unnecessary overhead that eats away at profits and a cost control program is also recommended and implemented. During recessionary times such as we are currently facing – drastic cost control are often the only option. Reducing overhead can immediately and effectively improve a firm’s bottom line.

The first step in an expense control program is to identify those areas where potential savings exist. Review your profit and loss statement. Resist the temptation to arbitrarily cutting costs which could cut the muscle with the fat and result in revenue loss as well. You have to spend money to make money – so if cost cutting is the appropriate strategy – cut the right costs. Think strategically about cost reduction.

After you have identified areas where savings can be made prioritize and develop specific strategies and implement action plans to achieve the savings.

 Here are a few ideas:

STRATEGY #1:  Reduce Headcount

This is the largest area for potential savings. Downsizing is a strategy that has been used by many firms this past year. However, it can have long term negative consequences for revenue and talent management. Consider all levels – non-productive partners, associates, paralegals, and staff. Be prudent and sensitive in implementation.

STRATEGY #2:  Reduce Compensation

Obviously one way is to cut salaries – a strategy to be used as a last resort. A better approach is to reduce fixed salary (paying people for showing up) and add a variable pay component which will allow employees to earn additional compensation in the form of bonus for results achieved. Another approach is to freeze salary increases.

 STRATEGY #3:  Benefits

A major area for cost savings – especially health insurance. Determine which programs are most important to employees. Do your best to protect those and reduce or eliminate programs that are less important. Consider offering more than one health insurance plan. Pay the premium for the lowest cost plan and provide options for employees to “opt up” to the better plans by paying the additional premiums. Consider increasing deductibles and requiring employees to pay a portion of the base premiums.

 STRATEGY #4:  Outsource

 Examine potential for outsourcing – from copy services – IT management – to your legal team.

 STRATEGY #5:  Occupancy

Review your lease invoices and question increases and escalators for which you have been charged. Consider renegotiating your lease and ask for a lower rate. Reduce excess space either through a renegotiated lease or through sub-leasing. 

 STRATEGY #6:  Telephone Service

Scrutinize your bills and examine rate tariffs as well as items that have been tagged to your bill by third parties. Negotiate and ask refunds for any discrepancies or abuse found. We have seen firms receive thousands of dollars in refunds.

STRATEGY #7:  Virtual Office

Do you need an office at all. Many solos are working out of virtual and home offices or a combination of same. Some larger firms are reducing the size of their primary expensive downtown offices by having some attorneys work from home offices or other locations.

STRATEGY #8:  Marketing

Many firms actually need to spend more money on marketing. However, this does not mean that it should be wasted on sacred cows. Review marketing investments, eliminate feel good items, and insure that they are producing results. Reallocate funds.

 STRATEGY #9:  Supplies and Other Purchases

Eliminate waste and unnecessary expenses. Consolidate with fewer vendors and solicit discounts for exclusive relationships.

STRATEGY #10:  Develop a Budget and Financial Plan

If you don’t have one – develop a budget and financial plan and work the plan.

Click here for our blog on financial management

Click here for articles on other topics

John W. Olmstead, MBA, Ph.D, CMC

 

 

Apr 27, 2011

Contingency Fee Profitability: Can You Make Money From Contingency Fee Work

Question:

Our firm is a 12 attorney general practice firm located in the Phoenix metropolitan area. In additional to general practice, we do a fair amount of insurance defense work as well. In an effort to improve firm profitability we have been considering alternative fee arrangements – particularlly contingency fees – with some of our existing clients as well as venturing into personal injury plaintiff work. Can we improve profitability by doing more contingency fee work?

Response:

The CEO of the Howrey LLP, when interviewed about the law firm's recent dissolution, advised that deferred profits from contingency fee work led to the firm's demise.  Howrey is a good illustration of what can happen when the risks of contingency fee work is not considered or managed. Contingency-fee work can pose major risks for law firms, as they earn no fees if they lose those cases and sometimes have profits deferred in protracted litigation. In addtion, cases can be lost with no fee whatsoever recevied. Whether your firm is considering "big deal" litigation or bread and butter run of the mill personal injury litigation you may want to consider the following:

  1. Don't dabble in contingency fee work. Take it seriously and insure that your case portfolio is adequately diversified.
  2. Reduce case portfolio risk and improve case profitability by implementing a sound case intake system to insure that you are selecting quality cases.
  3. Realize that you have to spend money to make money and that you simply may not have the financial resources to take on certain cases. Learn how to say no and when to refer these cases out to others.
  4. Insure that you have an adequate portfolio of cases (number of cases, size and type) to insure diversification and manage risk.
  5. Analyze the profitability and return on each case and ascertain what can be done differently on future cases. Typical metrics include effective rate and/or LODESTAR.

In essence the fundamentals of risk and return is at work and should be considered when accepting contingency fee work. You are betting that you can beat your hourly rate that you receive (or would receive) on hourly work. Contingency fee work often involves the risk of no fee at all, financing the case, long time periods before the case is concluded and fees are received, client advance investments, etc. For these risks the firm should be able to expect a premium. In other words – the effective rate on contingency fee cases should (on average) be greater than that for hourly work.

Many law firms are not receiving a "risk premium" at all and are often, on average, obtaining an effective rate close to their bill rate. So, do consider the risk involved and evaluate methods of mitigating the risk as much as possible. In general – don't dabble – but work to a portfolio of cases large enough to diverisfy your risks.

Herbert Kritzer has done extensive academic research over the years on contingency fees which can be found in his book – Risks, Reputations, and Rewards: Contingency Fee Legal Practice in the United States. The book can be ordered from Amazon.com. Link to Amazon

While I have outlined a cautious approach here I want to also clarify that I have many clients that are doing very well and making a lot of money doing contingency fee work. It is the firms that did not grow up doing contingency fee work that "dabble" where I see the problems.

So proceed with caution – but go for it if it makes strategic sense for your firm.

Click here for blog ideas for personal injury firms

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John W. Olmstead, MBA, Ph.D, CMC

Apr 20, 2011

Law Firm Financial Statements

Question:

I was just elected by my other partners to serve as managing partner of our 17 attorney firm. We are based in Nashville, Tennessee. I do not have an accounting background and I have questions about our financial statements:

  1. Why does the income statement not reflect all disbursements for the month? For example it does not reflect partner draws, client advances, or payments on the firm line of credit?
  2. I have only been receiving the income statement. Should I been receiving other financial statements?

Response:

Getting a handle on the financial aspects of your firm will be your most important role – whether you have a firm administrator or not.

You should also be receiving a balance sheet which reflects the firm's financial position as of a particular point in time. The income statement only reflects income and expense accounts and reports net income for a reported period of time. The income statement is different that a statement of cash flows which reports cash flows during the period. Partner draws, client advances, and line of credit payments are not expense accounts (they are asset, liability, and capital accounts respectively).  Consequently, they will not be reported on the income statement. These accounts will be reported on the balance sheet.

Other than reviewing the balance sheet for activity in accounts such as discussed above the balance sheet (without adjustment) has limited use. It's purpose is to reflect the firm's financial position as of a point in time. However, since most law firms maintain their books on a cash basis – the largest assets – accounts receivable and unbilled work in process – are not reflected. Accounts payable and other such liabilities are not reflected either. If you are interested in a true picture of the firm's financial position as of a point in time you must take these items into consideration.

Another report that you may wish to receive is a statement of cash flows. This statement will report actual flows of all cash – in and out of the firm – regardless of account time.

There are additional schedules and reports that you should receive as well. Suggest you review your system and create a report distribution policy as to which reports you and the other partners receive each month.

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John W. Olmstead, MBA, Ph.D, CMC

Apr 13, 2011

Balancing the Law Firm Trust Account

Question:

I am the managing partner with a 14 attorney firm in Chicago. We recently hired a new accounting manager/bookkeeper. While she has worked in a few other law firms these firms did not require her to manage a high volume trust account. Our firm has a high volume of transactions that flow through the firm's trust account. We have had problems in the past with prior bookkeepers and outside accountants that did not balance/manage our trust accounts properly. What suggestions do you have or resources do you suggest?

Response:

Failure to properly manage, balance, and reconcile the firm trust account can be a major problem for law firms - from professional responsibility, accounting, and tax aspects. From a bookkeeping standpoint – failure to maintain a trust account sub-ledger for each client that has money in the trust account and insuring that all of the sub-ledgers balance and reconcile back to the trust account bank statement in the biggest problem that I see. You must do more than simply maintaining a checkbook journal register – you must have a sub-ledger for each client. If the firm reflects the trust bank account on it's balance sheet there should be either a contra asset account or a liability account relecting the same amount reflected in the cash account. The total of all of the sub-ledgers should also equal the number in each of these two general ledger accounts. All should reconcile back to the trust account bank statement. If the firm does not reflect the trust account on the balance sheet – then the trust account bank statement should be reconciled to the sub-ledgers.

Many time and billing programs have trust accounting modules that fully automate the trust accounting management function, maintain the sub-ledgers, write trust account checks, and reconcile the bank statement against the client trust sub-ledgers.

There are a whole array of issues that you need to be aware of and stay on top of concerning retainers generally, firm trust accounts, and other matters. You, your bookkeeper, and your CPA need to get educated on all of the ramifications.

Here are a few additional suggestions:

  1. Get a copy of your local rules and read them. For Illinois lawyers – get a copy of the Illinois Rules of Professional Conduct of 2010 published by the Attorney Registration and Disciplinary Commission of the Supreme Court of Illinois. www.iardc.org.
  2. Insure that your bookkeeper and CPA read these rules and implement appropriate systems to ensure compliance.
  3. Get your hands on a copy of the book – ABA Guide to Lawyer Trust Accounts, by Jay Foonberg. Book can be obtained from the American Bar Association website. www.abanet.org
  4. Reconcile monthly.
  5. Use appropriate software to write checks, record deposits and transfers, renconcile bank statements, and maintain the client trust sub-ledger.
  6. Maintain a journal.
  7. Maintain a client trust sub-ledger.
  8. Insure that funds are transferred to the firm's operating account when fees are earned and appropriate accounting entries made at that time in the firm's books.
  9. Stay on top of the trust account.
  10. Insure that your bank and credit card company are following proper procedures. Insure that your bank takes services charges, charges for printing checks, etc. from your operating account rather than the trust account.

You are right in desiring to get a handle on this sooner than later. Sit down with your bookkeeper and CPA, get educated on the rules and procedures, and implement appropriate policies and systems now. It is always easier to prevent a mess than to clean up one.

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John W. Olmstead, MBA, Ph.D, CMC

Jan 18, 2011

Law Firm Profit Improvement

Question:

Our firm is in its second generation. While we are proud that we have been in business for over 60 years we also believe we need to re-examine our practice and embrace changes that may be needed for the firm to move forward and remain competitive. We are a 16 attorney firm located in Wisconsin. We have 12 partners and four associates.

Response:

More and more law firms are re-examining their business models and approaches and running the practice as a business. You may want to begin by conducting a management review or audit to determine where the firm is presently and where the firm needs to head in the future. 

Start by Asking the Following Questions:

  1. Are firm members frustrated with the amount of money they are making and taking home?
  2. Are firm members unsure whether the firm is competitive with other law firms?
  3. Is the firm taking advantage of some of the management “Best Practices” being used by successful law firms and possibly your competitors?
  4. Are firm members concerned about getting a handle on and controlling the financial aspects of the firm?
  5. Are firm members uncertain about the future and long-term direction of your firm?
  6. Are firm members frustrated with the lack of accountability of other attorneys and staff?
  7. Is everyone effectively managing their time?
  8. Are members concerned about the firm getting and keeping clients?
  9. Are members concerned about work-life balance?
  10. Are members concerned about the succession and exit of key partners?

I suggest that you conduct a practice management review that will provide you with a clear assessment of the firm’s practices and performance and outline a plan for implementing “Best Practices”. The assessment should focus on:

Click here for our blog on profit improvement and other topics

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John W. Olmstead, MBA, Ph.D, CMC

Aug 10, 2010

Personal Injury Law Firm Profitability

Question:

We are a 5 attorney (all partners) personal injury plaintiff law firm in Central Illinois. We are all working hard, are extremely busy, but we don't seem to be seeing the results of our hard work in our earnings and compensation. We are making hefty marketing investments – in fact we are spending around 6% of revenue on marketing. What are your recommendations on how we can improve our profitability?

Response:

It is hard for me to comment specifically with the limited information that you have provided. There are numerous variables that need to be examined. However, in general terms:

John W. Olmstead, MBA, Ph.C, CMC

Jul 15, 2010

Getting Control of the Financial Side of Your Law Practice

Question:

I am a partner in a 14 attorney firm. Our bookkeeper has been with us for 20 years. We have a time and billing system, a separate bookkeeping system, and a separate database for clients, and something else for trust accounting. The other partners and myself do not know the name of the software that we are using, don't know how to access the software, and we have to ask the bookkeeper for any financial information that we require. We feel like "hostages". She gets offended when we ask questions. When we do receive information we don't know how to read or interpret much of the information. How can we get control of our firm back?

Response:

It is imperative that owners and partners in a law firm have access to financial information on a timely basis, understand the information, and use the information in a proactive way to manage the practice. We suggest:

The owner (or an appointed partner(s) in larger firms) obtain detailed training on the accounting software system(s) along side the bookkeeper when the system is implemented. In addition to general operation of the software, special training should also be obtained on intepretation and use of the management reports.

In your current situation – this may be a good time to consider upgrading your system and at that time obtain training on the new system, review the roles of all parties, and current procedures.

Insure that you have accounting controls in place and appropriate segregation of accounting duties.

Outline your expectations and requirements of the bookkeeper, meet with her/him, and communicate appropriately.

John W. Olmstead, MBA, Ph.D, CMC


 

  • Jun 23, 2010

    Law Firm Cost Cutting Strategies

    Question:

    Our firm is a 20 attorney defense firm in the Southwest. We are having a hard year and are looking for cost cutting ideas and strategies.

    Response:

    I am often asked to help law firms design and implement profitability improvement programs. In most of my engagements the real problem is insufficient gross income and lack of sufficient investment (spending and time) on marketing and initiatives designed to stimulate client and revenue growth. For most firms increasing revenues is the most effective way of impacting the bottom line. However, we do find that there is waste and unnecessary overhead that eats away at profits and a cost control program is also recommended and implemented. During recessionary times such as we are currently facing – drastic cost control are often the only option. Reducing overhead can immediately and effectively improve a firm’s bottom line.

     

    The first step in an expense control program is to identify those areas where potential savings exist. Review your profit and loss statement. Resist the temptation to arbitrarily cutting costs which could cut the muscle with the fat and result in revenue loss as well. You have to spend money to make money – so if cost cutting is the appropriate strategy – cut the right costs. Think strategically about cost reduction.

     

    After you have identified areas where savings can be made prioritize and develop specific strategies and implement action plans to achieve the savings.

    Here are a few ideas:

    STRATEGY #1:  Reduce Headcount

     

    This is the largest area for potential savings. Downsizing is a strategy that has been used by many firms this past year. However, it can have long term negative consequences for revenue and talent management. Consider all levels – non-productive partners, associates, paralegals, and staff. Be prudent and sensitive in implementation.

    STRATEGY #2:  Reduce Compensation

    Obviously one way is to cut salaries – a strategy to be used as a last resort. A better approach is to reduce fixed salary (paying people for showing up) and add a variable pay component which will allow employees to earn additional compensation in the form of bonus for results achieved. Another approach is to freeze salary increases.

    STRATEGY #3:  Benefits

    A major area for cost savings – especially health insurance. Determine which programs are most important to employees. Do your best to protect those and reduce or eliminate programs that are less important. Consider offering more than one health insurance plan. Pay the premium for the lowest cost plan and provide options for employees to “opt up” to the better plans by paying the additional premiums. Consider increasing deductibles and requiring employees to pay a portion of the base premiums.

    STRATEGY #4:  Outsource

    Examine potential for outsourcing – from copy services – IT management – to your legal team.

    STRATEGY #5:  Occupancy

    Review your lease invoices and question increases and escalators for which you have been charged. Consider renegotiating your lease and ask for a lower rate. Reduce excess space either through a renegotiated lease or through sub-leasing.

    STRATEGY #6:  Telephone Service

    Scrutinize your bills and examine rate tariffs as well as items that have been tagged to your bill by third parties. Negotiate and ask refunds for any discrepancies or abuse found. We have seen firms receive thousands of dollars in refunds.

    STRATEGY #7:  Virtual Office

    Do you need an office at all. Many solos are working out of virtual and home offices or a combination of same. Some larger firms are reducing the size of their primary expensive downtown offices by having some attorneys work from home offices or other locations.

    STRATEGY #8:  Marketing

    Many firms actually need to spend more money on marketing. However, this does not mean that it should be wasted on sacred cows. Review marketing investments, eliminate feel good items, and insure that they are producing results. Reallocate funds.

    STRATEGY #9:  Supplies and Other Purchases

    Eliminate waste and unnecessary expenses. Consolidate with fewer vendors and solicit discounts for exclusive relationships.

    STRATEGY #10:  Develop a Budget and Financial Plan

    If you don’t have one – develop a budget and financial plan and work the plan.

    Good luck!

     

    John W. Olmstead, MBA, Ph.D, CMC

    Dec 26, 2009

    Dialing For Dollars: Tips For Collecting From Your Clients

    Q.     These economic times have been challenging for our firm at best. A major problem for us is collecting our client receivables. Do you have any suggestions?  

     

    A.     Regardless of whether economic times are good or bad cash flow is always a matter of prime concern for law firms. With it taking in general 3-4 months to convert client work to cash anything the firm can do to speed up the collection cycle is always desirable. Here are a few ideas:      

      1. Do everything you can to keep receivables from going out to 90 days. Receivables aged one month are 93.2% collectable; three or more months are 72.3% collectable, and one year or more are 28.4% collectable. 
      2. Call – don't waste time with mailing follow-up letters. 
      3. Treat collection calls as an extension of client service. Calls should be treated as client service calls – not collection calls.
      4. Caller should be someone other than the attorney who did the work for the client, qualified staff member or outsourced Accounts Receivable Account Manager.
      5. Calls should be made by a trained Accounts Receivable Account Manager with client-friendly people skills.
      6. Calls should be made on each account as soon as it reaches the due date.
      7. Accept credit cards and offer it as a payment option.
      8. Discount bills when necessary if it will expedite payment and engineer payment plans.
      9. Diary, calendar, and follow-up.
      10. Consider outsourcing to an Accounts Receivable Account Manager – not a collection firm.

        Consider our firm for outsourcing this effort.

    John W. Olmstead, MBA, Ph.D, CMC


     

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