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When it comes to running your own law firm, just being a good attorney is not enough. Small law firms live and die on the strength of their cash flow. A strong cash flow can nourish growth and enrich partners. A weak cash flow can be a crippling, and sometimes fatal, blow to a firm’s future. The good news is that strong cash flow is within reach for firms willing to take the time and effort to develop a cash flow management strategy that is tailored to the firm, its practice and its clients. Cash flow management is particularly important for newer firms. As firms mature, they are likely to see cycles in their business and can use those cycles to manage and smooth out cash flow. Twenty-six-attorney SulmeyerKupetz, for example, has been in business for more than 50 years, so its partners have a strong understanding of the firm’s business and cash flow cycles. “It is difficult for a new firm because it can take 12 to 18 months to get the business cycle going the first time,” says Alan Tippie, the firm’s president based in Los Angeles. “Those firms need adequate cash flow to keep going” until the flow of work and cash becomes steadier and more predictable. That is exactly why Kaplan & Gamble, a two-attorney entertainment law firm that opened its doors in New York City last year, started out with a cash reserve equal to six months of operating expenses invested in certificates of deposit. While that may seem like an extraordinarily large reserve, the two partners thought that it was prudent given the nature of their practice. “The entertainment business is a risky area of the law, so we’ve chosen to be conservative,” says Kristi Gamble, one of the firm’s partners. The firm works primarily with actors, writers, directors and producers, so its cash flow rises and falls with the fortunes of the entertainment industry and the individuals in it. Moreover, the firm does much of its work on a project basis rather than on retainer, so it frequently receives large lump sum payments from clients rather than a steady monthly flow of revenue. Adam Kaplan, one of the firm’s two partners, estimates that 30 percent to 50 percent of the firm’s annual revenue comes in lump sums. To deal with the nature of its cash flow, Kaplan & Gamble invests its unused cash carefully. The duration of the CDs varies depending on the amount to be invested and how much cash the firm already has. For example, if the firm’s cash reserves are healthy, the firm might invest more money in a longer-term CD at a higher interest rate, says Kaplan. So far, this cash flow management strategy has worked — the firm has not yet had to draw on its reserves. THE ROOTS OF GOOD CASH FLOW The cash flow management process does not begin when the firm sends out an invoice. It begins when an attorney forms a client relationship. Timothy Szuhaj (pronounced shoe-high), a partner with Shimberg & Szuhaj, a five-attorney firm in Westmont, N.J., contends that good client relationship management is the cornerstone to strong cash flow management. “If you do a good job for clients at a reasonable price, those clients will pay their bills more readily,” he says. “Clients who see the value of the work that you do for them tend to be current on their bills.” Firms can take this a step further by screening clients by the type of work they need the firm to do. For example, if a corporate client asks the firm to take on work that is peripheral to the client’s business, the firm should think twice before taking on that work. “If the case or work involved is critical to the client’s business operations, the firm has a better chance of being paid in a timely way,” says Jack Eigles, a regional president of Cash Management Solutions in St. Louis. Evaluating clients and assessing their level of credit risk is also an important part of cash flow management. Unfortunately, attorneys tend to shy away from these activities out of fear that asking for credit-related information will upset the client and cause them to go elsewhere. “Attorneys should view themselves as bankers,” says Eigles. Like banks, law firms need to develop a process and checklist for assessing a client’s credit-worthiness and ability to pay. By asking questions about past attorney relationships and whether there are still invoices outstanding with those firms and asking for references, firms can make better client choices — or at least eliminate surprises. Then, once the firm takes on the client, it is important to discuss money immediately. Even before beginning an engagement, both attorney and client should have a clear understanding of the payment terms for the fees involved. These terms can be customized by client but they should be clear to both parties. For example, a lengthy engagement might require a payment at certain pre-established milestones. “By agreeing to payment terms up front, the attorney is laying the foundation for the future payment,” says Mark Tennant, a senior vice president with REL Consultancy Group, a working capital consulting firm based in Purchase, N.Y. While this seems self-evident, many attorneys are not cash conscious. Instead, they are often more concerned with the client’s issues and building the relationship than with discussing the often uncomfortable subject of money. “Attorneys should take the position that they are providing something of value to clients and have a right to impose reasonable payment terms,” says Tennant. The types of clients a firm takes on can also affect future cash flow. “We find that a mix of institutional clients on the litigation and business side provides a steady, predictable, and diversified revenue stream and good cash flow for operating purposes,” says Szuhaj. “It allows us the flexibility to take cases on contingency and to provide a more flexible payment schedule for some clients when necessary.” Even so, the firm carefully considers whether to take a contingency case based on how long it is likely for the case to move through the system, whether it is likely to end up in arbitration, what the firm would be able to recover for the client, and how long that would take. SulmeyerKupetz works primarily with companies that are undergoing financial restructuring or are in bankruptcy, so it has to manage its cash flow carefully. “We don’t send out statements to clients,” says Tippie. “All professional fees for these clients have to be approved by the court and it can take months or years to get paid in full.” To compensate for this, the law firm tries to negotiate upfront retainers to carry it through some period of time. “If we can’t get something up front, we usually don’t take the case unless we have a firm belief that we will get paid and there are assets that will be liquidated,” he says. The firm also sets a maximum allowable credit limit for all clients. This way, the firm can be sure that its attorneys are not accruing time that isn’t being paid for. This credit limit could be $100,000 to $200,000 in a reorganization case because there is often a built-in lag time for payments. In most mainstream cases, the limit would be about $10,000. GETTING THE HOUSE IN ORDER Once the client relationship is established, a firm’s cash flow will be determined by how the firm manages the collections process, from the point where the firm creates the invoice to when it cashes the client’s check. While it might seem that much of this process is out of the firm’s hands, in reality firms can influence this process at many points. For one thing, a firm needs an ongoing process for sending accurate and timely invoices. Invoices delayed within the firm by incomplete billing data or expense records needlessly slow down cash flow. Although many firms may require attorneys to submit expense reports only once a month, it is a better idea to do it every two weeks rather than building up a backlog of expenses. If attorneys do not have the time or expertise to do their own billing, it is imperative that they hire someone who does. This is why Kaplan & Gamble hired a part-time office administrator to handle billing and other administrative functions even though the firm wanted to minimize the cost- structure during its start up. With the firm’s reimbursable expenses running about $400 a month (a significant sum for a small firm), this administrative support is critical to ensuring that all expenses, such as postage, telephone calls and courier/express mail services, are charged back to the client in a timely way. This kind of dedicated staff support can also reduce incomplete and incorrect invoices, which are a major drag on cash flow. In addition to double checking invoices, firms should also carefully track what each client wants included on invoices, including back-up information and receipts necessary for expense reimbursement, so that missing information does not delay payment. Although most clients pay their bills on time with no protest or problem, most firms will encounter some that are habitual late payers. “These tend to be the same clients, so it is important to recognize and anticipate those delays in order to manage the collection process,” says Tennant. In some cases, offering the client a discount for payment received within a certain amount of time, say 30 days, can be an effective way to address the problem. In other cases, firms will have no choice but to track these payments carefully and continually follow up with the client to ensure the payment process is moving forward. In many instances, there are reasons why the client is not paying its bill. The key is to find out those reasons and address the root cause. For example, if the client finds the firm’s invoices confusing and difficult to reconcile, the firm may need to rethink how it structures its invoices. It is also a good idea to find out when a client processes invoices and cuts checks and then schedule invoices for the client to coincide with that cycle. If an invoice arrives at the client the day after its last payment cycle, the firm will have lost a lot of time while its invoice waits for the next payment cycle. KNOW WHO OWES All of this assumes, of course, that firms know exactly how much each client owes and how long they have owed it. Effective cash flow management requires that firms track the amount and age of their accounts receivable weekly and make plans for collecting those fees. Ideally, no accounts receivable should be more than 60 days old. Once accounts receivable become more than 90 days old, the chance of collecting those funds drops considerably. “In many cases, it is appropriate to just ask for the money in a nice way,” says Rich Russakoff, president of Bottom Line Consultants in Richmond, Va., “Just be up front about it.” SulmeyerKupetz has an accounts receivable committee that meets monthly and includes Tippie, the firm’s executive director, the head of the commercial collection department and the controller. In addition, the supervising attorneys in charge of individual accounts get involved when any of their accounts exceed a stated credit limit. These supervising attorneys also receive weekly reports on the payment and credit status of each of their accounts. Because most litigators are more concerned about the trial than about cash flow, this committee handles the administration of accounts receivable and makes sure the attorneys are doing the necessary paperwork to ensure the firm’s cash flow, particularly for the firm’s corporate reorganization and bankruptcy work. Finally, it is also a good idea for a firm to establish a bank line of credit that can help to smooth over cash flow bumps. However, firms should work to establish banking relationships and credit before they need it. For firms that do a lot of work on contingency or that are having difficulty obtaining bank credit, some finance companies specialize in lending to law firms, usually based on a firm’s pending settlements and inventory of cases — usually at an interest rate that is significantly higher than the firm would pay to a bank. Nevertheless, this could be an option for a firm that needs an advance on the payment of a settled matter. In the end, firms need to recognize that maintaining adequate cash flow is critical to its continued prosperity. “You always have to keep the machine moving to survive,” says Tippie. Read cash management tips from small firm attorneys.

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