Law Firm Financial Management – Practical Tips & Suggestions – Part III

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

Managing the firm’s finances is one of the most important management roles in a law firm. Effective financial management is a critical success factor and determines whether a law firm is financially successful. General partners, managing partners, firm administrators, and firm accounting managers or bookkeepers must do all they can to stay abreast of law firm financial management best practices that are being used in the legal industry.

This is part three of a multi-part series of practice tips and suggestions that will be published from time to time.

Creating a Budget the First Time

I am surprised at how many law firms do not have a budget. Since we are approaching a new year this might be a good time to consider developing one. You will want to consider two budgets. The first will be an operating budget which is a revenue and expense budget that will contain the income and expense accounts that are listed in a profit and loss or income statement. The second will be a capital budget which will be a budget for capital expenditures that are typically listed as assets on a balance sheet such as furniture and equipment.

Here is a process that you might want to use.

Operating Budget

 

  1. Print out a general ledger chart of accounts list and profit and loss statement
  2. Using the chart of accounts list (income and expense accounts only) and setup an Excel spreadsheet with the following columns. (Note: Your general ledger software might provide a worksheet that can be used for this purpose)

Account Number

Account Name

Prior year actual year to date

Proposed upcoming year budget

Final upcoming year budget

Planning notes

  1. Account number and account name columns. List all of the accounts from the profit and loss statement in the account number and account name columns.
  2. Prior year actual year to date column. Enter figures for the prior year in the prior year actual year to date column for revenue/income and expenses.
  3. Proposed upcoming year budget. Start with revenue. However, in the budget worksheet have a revenue account for each revenue producer (attorney and paralegal) – not necessarily in the general ledger but on your budget worksheet and project their billable hours/collections expected. Better yet, require all partners to provide you with a revenue commitment for the upcoming year. If you are a contingency fee practice this will require an analysis of cases in process and estimated case outcomes and timing. This is a good place to get commitment and establish realistic revenue goals for the year. You may want to have a discussion concerning this in a firm meeting. I believe that the revenue goals are the most important part of the budget and where most firms need to focus.
  4. Proposed upcoming year budget. Enter proposed expenses. You can start by examining last year’s actual figures. Give consideration to any growth (typically lawyer and staff headcount) for the upcoming year and any anticipated changes in expenses. Develop a payroll spreadsheet listing each attorney and staff members receiving W-2 pages, their compensation last year, an anticipated salary and bonus for the upcoming year, with columns for calculation of appropriate payroll taxes. Anticipate new hires during the year. Then enter into the proposed upcoming year account columns.
  5. Planning notes. As you develop the budget note your assumptions, etc. in the planning notes section.
  6. Submit for discussion and approval. Submit the budget worksheet to your managing partner, executive committee, partnership, etc. for discussion and approval.
  7. Enter approved budget in the Final Upcoming Year Budget Column. 
  8. Enter approved budget into the General Ledger System, QuickBooks, etc. You can now enter the approved budget into your accounting system and simply include budget on your profit or loss statement for systems that provide this function or in QuickBooks print a Budget v Actual Report with your monthly reports. When you enter the approved budget into your system you can take the quick and dirty way and enter the annual amount for each account and have the system allocate the budget equally to each month or you can allocate to each month where you anticipate the expense – for example an insurance premium for the entire year might be allocated to the specific month when the policy will come up for renewal rather than equally to each month.

Capital Budget

 

This is often just a simple list in a spreadsheet and manually tracked. Many of the general ledger systems only allow budgets for income and expense accounts.

Financial Red Flags

Law firm managing partners and administrators responsible for the general financial oversight of the firm often ask us to provide them with an outline or list of the financial warning signs that they should be aware. Here is a short list that I call financial red flags that we provide these firms:

Associate Attorney Productivity When Client Work is Slow

Many of our client law firms have billable hour expectations of 1500-1800+ only to find that their associates are not even close to reaching these expectations. Some are not even reaching 1200 hours. This seems to be a common issue. Failure to attain billable hour goals can be caused by any one or a combination of the following:

Firms should access and observe the number of worked hours associates are putting in. Are they putting in the hours? Observe and review their time reports – billable and non-billable time. If you don’t track non-billable time start doing so. Then review and discuss with them their time management and time keeping/recording habits. Questions to ask include:

Review and discuss workload levels of each associate and determine if lack of work is an issue.

I have found that often the cause of the problem is a combination of some or all four of the above listed causes. Lack of work is often one of the causes. My question is then:

The firm should have an established protocol for assignment of work to associates and to whom the associate advises that he or she needs more work. When billable work is slow and not available the associate should be assigned non-billable firm or business development projects  such as developing document templates, writing articles, etc.

If the problem is work ethic appropriate consequences and disciplinary measures may be required. If the problem is time management – time keeping training and habit building will be required.

Law Firm Effective Rate Improvement

While many law firms are satisfied with billing rates they are charging their clients they are often surprised at their effective or realization rates which are much lower than their target or standard rates. The most direct way to improve rate performance is to simply increase rates (or fees for flat fee matters) at an amount at least equal to inflation and to do so often (at least once a year). However, law firms must remain competitive and with client pressure on rates and prices for legal services this is not always possible. Other techniques include:

Managing the client intake processes is probably the most important technique for improving rate performance. Intake management means:

Here are some ways to accomplish this:

  1. Effective pre-acceptance client intake interviews
  2. Credit checking or prior payment history review
  3. Up-front discussions and arrangements
  4. Liberal use of retainers for fees and advances for costs
  5. Early conflict of interest checks
  6. Use engagement letters; and
  7. Review of significant new clients or matters except accepted.

Until next time.

John W. Olmstead, MBA, Ph.D., CMC, is a Certified Management Consultant and the president of Olmstead & Associates, Legal Management Consultants, based in St. Louis, Missouri. The firm helps law and other professional service firms improve the operations and management of their practices and the lives of their practitioners. The firm, founded in 1984 serves clients across the Globe assisting them with implementing change and improving operational and financial performance, management, leadership, client development and marketing.

John’s assignments have covered the spectrum of management issues. However, in recent years most of his time has been focused on engagements helping firms in areas:

John is the author of a recently published book, The Lawyers Guide of Succession Planning: A Project Management Approach for Successful Transitions and Exits.  Published by the American Bar Association, John served as the Editor-in-Chief of “The Lawyers Competitive Edge: The Journal of Law Office Economics and Management,” published by Thomson Reuters for 24 years. He is currently serving as Past Chair, Illinois State Bar Association Standing Committee on Law Office Management and Economics, Associate member of the American Bar Association, member of the Institute of Management Consultants, and past member on the Legal Marketing Association (LMA) Research Committee. John may be contacted via e-mail at

jolmstead@olmsteadassoc.com.  Additional articles and information is available at the firm’s web site: www.olmsteadassoc.com and blog www.olmsteadassoc.com/blog

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