Cash is King

Our brains may do most of our work but without blood they would not function. To any business, cash is like blood. Without enough of it, and even if healthy in every other respect, it can so easily die.
Working capital is, quite simply, the amount of money you have tied up in your firm to enable it to function – to pay the salaries, rent, suppliers and so on while your fee earners work on bringing in the cash. The main elements in this are work in progress and debtors and they are perhaps best understood in terms of Lock Up.

The term is often used but not always understood. It is the amount of money you have tied up in work in progress and in debtors but expressed in days rather than cash. Suppose the turnover of your firm is £1.5 million. That represents £1,500,000/365 = £4,110 per day. If you then had, say, £180,000 in debtors and £900,000 in WIP, a total of £1,080,000 you could divide this by the £4,110 and show that you have 263 days of normal revenues “locked up” in your firm.

That £1 million plus is tied up and doing nothing other than oiling the wheels of your business. If it could be reduced there would be cash freed up for investment in the firm (or even distribution among partners - try not to tell them or they'll grab it!). It is “dead” money and to keep a close eye on it and to try constantly to reduce it is vital. By keeping the pressure on fee earners to complete and bill matters as quickly as is reasonable you should begin to drag this total down. Make it public in your firm – tell fee earners and look with them at their own individual figures, encouraging them to reduce as far as possible. And we all know that most fee earners could be much better at interim billing and/or closing and billing matters promptly (see Finance - Billing).
Debtor Days are just the same but cover only debtor totals. In the example above, we have just under 44 days – not bad as these things go. BUT – if your firm has a big proportion of conveyancing work, for example, for which you get settlement as the bill is prepared and so zero debtor days, this figure could mean that perhaps your litigators are actually averaging perhaps 90 days. That would not be so acceptable.

The Partners
Any partnership depends to a significant extent on the credit status of its partners. Consequently, partnership agreements should reflect the need not only for sound finances in the firm but also for the same discipline among the partners. See Structure - Partnership for more on this.