Balance Sheet Metrics

December 13th, 2007 by Jim Cotterman

Tis the season for getting the fiscal house in order. Many firms push on getting bills out in November and then make an even greater push for getting paid in December. Balance sheets tend to be in their best condition by year-end — lines of credit are at $0; accounts payable are probably around 1 month; Unbilled time and accounts receivable each represent about 2.0 to 2.5 months of revenue.

The question I get most when talking about capitalization is how much and in what form? I have two precepts. Owners should contribute meaningfully at buy-in and provide the majority of capital needs to their firms. Clearly law firms should expect meaningful financial investment from each owner. Having a seat at the table is serious business. Taking cash out of your pocket and putting it into the law firm’s is also serious business. Making a financial committment is one of the attributes of fully contributing owners.

Second, the firm should have significant liquidity. My test is probably much more severe than most. For most firms there should be sufficient cash at year end to pay out earnings, fund the retirement obligation and all payables plus two weeks of cash flow. As you might imagine, there is a fair amount of push back on these items. But a look at the profession suggests that law firms are closer than they believe to doing this. The attached chart, Balance Sheet Metrics, provides some key metrics for all firms and for the 25% most profitable firms. There are some clear differences in how the most profitable firms manage their balance sheet.

This entry was posted on Thursday, December 13th, 2007 at 3:21 pm and is filed under Economics, Capital. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.

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