Business Management Articles
Rewarding Year-End Financial Strategies
Stephen Meek
November 2008
The Lawyers Weekly
For many lawyers, the year 2008 may not end up being the most profitable. An economic downturn does however, present an opportunity to take stock of how your firm is faring and position it to maneuver successfully through market upheaval. Following are some financial and tax strategies that promise significant rewards for the effort.
Monitor your firm’s financial health; review the:
- cash flow statement to monitor the balance of cash inflow and outflow;
- income statement to track changes in revenue, fee variations, salaries, other expenses, and net income/loss; and
- balance sheet to identify any shifts in receivables, work-in-process, unbilled disbursements, liabilities or net worth.
If you notice any significant changes, don’t wait; seek help from your accountant immediately.
Focus on profitability. Review your firm’s gross and net revenue and look for opportunities to strengthen the profitability drivers in your firm: billing rates, realization, and utilization.
Track liquidity. It’s vital that your firm is able to cover liabilities if new work slows, receivable collections lag, work-in-process increases or payables lengthen. This is especially important if you have loan covenants that require your firm to maintain a certain level of working capital. Know your cash balance at all times. Also, benchmark and track the following financial metrics to ensure that your practice is sufficiently capitalized:
- working capital: current assets – current liabilities,
- operating cash flow: cash flow /liabilities,
- current ratio: current assets / current liabilities, and
- work-in-process and unbilled disbursements.
Reassess reliance on debt. If your firm has loans or capital leases, initiate a review of how the firm is financed. You might also consider meeting your lenders to fix or increase credit lines and negotiate extended repayment schedules or reduce interest charges. If you absolutely require capital assets additions such as equipment, furniture or leaseholds, purchase them before year-end to obtain an immediate deduction for capital cost allowance and to reduce taxable income.
Accelerate receivables. Increase the frequency of billing, if possible, to improve cash flow. Deposit cheques immediately upon receipt. Monitor your average collection period (accounts receivable / [annual sales/365]) and follow up with late-paying clients every week. Consider offering a discount for immediate payment of receivables more than 90 days old. To protect against over-extended clients precipitating a cash flow crisis for your firm, review credit and collection policies and procedures and identify areas that need reinforcing.
Reduce spending. Review budgets to assess what is essential for achieving the firm’s goals. Look at every expense – especially rent for any surplus space, staffing, and supplier and consultant contracts – and identify those that don’t directly add value. Avoid non-essential new expenditures, especially those requiring a long-term commitment.
Strengthen efficiency. Review operations with an eye for where productivity improvements can be made. Evaluate staff performance; for example, are the most appropriate people working on each engagement? Can you reassign underproductive staff or lawyers? Alternatively, if your firm is missing strengths in certain areas, this could be a good time to hire professionals who will strengthen valuable specialty areas. Consider contracts, part-time or temporary arrangements to maintain flexibility and minimize overhead.
Strengthen client relationships. Assess the profitability and vulnerability of your client base and direct business development efforts toward niches that are less sensitive to a weakening economy. Focus on reinforcing relationships with key clients and secure retainers whenever possible.
Optimize year-end tax strategies. If your firm has a management company or service vehicle partnership, there are a number of year-end strategies that can reduce your taxes payable for 2008. If your spouse or adult children are shareholders of the company, for example, check to see whether paying a dividend before December 31 will reduce overall family income taxes. As well, the management company or professional corporation may be able to pay an “eligible dividend” if it has business income above the amount eligible for the federal small business limit. Eligible dividends are taxed at a lower rate than regular dividends but require that the dividend be identified as an eligible dividend in advance of payment.
If your practice is not incorporated as a professional corporation, consider doing so now to create tax savings and tax deferral benefits for next year.
If it is incorporated and you draw funds from the company throughout the year, determine the amounts to characterize as salary or dividends. You want to benefit from the dividend tax credit and also have sufficient salary to maximize your 2009 RRSP contribution and your family’s child care deductions. You need at least $116,667 of earned income this year to maximize to contribute the maximum RRSP amount of $21,000.
As the global marketplace rises and falls, implementing small changes can protect your practice from the adverse effects of fluctuating economic conditions – and can often yield considerable savings and efficiencies. Moreover, legal firms that are productive, lean and well capitalized are in a good place to focus on building business for the future.
Stephen Meek is a partner of BDO Dunwoody LLP (www.bdo.ca). One of Canada’s leading accounting firms, BDO helps professionals, entrepreneurs and family businesses succeed. You can reach Stephen in the Markham office at (905) 946-1066 or smeek@bdo.ca.
