We are in January again. You’re likely catching up on your emails and backlog from the holidays; however, don’t over-look that calendar year law firms should be completing their December accounts and focusing on drafting year-end financial statements. These year-end financial documents are key for your law firm’s various year-end filings with various regulatory bodies.
More importantly, understanding your firm’s financials and metrics is critical to making informed business and resource allocation decisions.
This article discusses accounting and financial metrics lawyers should focus on during their preparation and review of their year-end financials to get a pulse on their yearly financial results. Remember, your law firm is a business, and you should know, understand and ask questions about your business’s performance. This is critical for the financial success of your law firm and for making business decisions that will steer the course of your law firm for years to come.
Before getting to the preparation of the financials, you need to ensure your financial books and records are accurately updated for the full year.
Here are some of the key accounting (and bookkeeping) areas to nail down:
- Are the different accounts—operating, trust and various business credit cards—properly reconciled up to December 31, 2019? Are outstanding uncleared items documented and signed-off?
- Is the income recorded/categorized correctly for each service offering and practice area? Any misclassification may have an impact on partner and staff compensation.
- Are all expenses properly accrued/recorded? Be sure to include bonuses, payroll, and any 2019 business expenses for which invoices have not yet been received.
- Did you record/report (if required to file quarterly or monthly) your excise tax (HST/GST/PST) obligations correctly? Make any adjustments required for the year-end balance.
- Are there any write-offs on receivables with collection issues? If so, ensure the write-off is done correctly.
- Did you purchase any capital assets and/or leasehold improvement costs? Are they correctly recorded?
- Are the unbilled dockets properly accounted for (i.e., changes in guidelines to Section 34 of the Income Tax Act)?
- Are the partners’ equity accounts correctly reconciled and reviewed? This includes having draws reflected, profit share allocated, and capital injection reflected (if any).
Generally, these issues are applicable irrespective of the type or size of law firm.
Now, moving to financial metrics – data-driven insight and decisions are things law firms are still catching up with. Your law firm processes should be designed to unlock your own data to understand your financial performance and to identify areas of improvement. I’d argue this is the area where lawyers should invest time (maybe a few hours a month and a bit more at the end of the year). Successful law firms prepare a periodic dashboard showing key financial metrics, and they leverage this dashboard to make informed business decisions.
Here are some questions to consider:
- What are the key performance indicators (KPI)s for the firm? How did the firm perform in those KPIs? These KPIs can be both financial and non-financial metrics.
- What are the main trends coming out year over year in P&L variance analyses? Understanding these trends will provide insight into the performance of the business (i.e., law firm).
- What’s the profitability per partner? What costs are included in this calculation? How’s the revenue allocated between servicing and referring partners?
- How much was the firm’s overhead (fixed and variable cost) in the past year? Has it changed compared to previous years? What’s the projection for the upcoming year?
- What’s the firm’s overall utilization for this past year (compared to the previous year)? Split utilization across staff levels and practice areas.
These are only some items to consider. It’s imperative to note that these metrics and key questions will vary based on the size of the firm and the type of law it practices.
The point is, every law firm should determine how it intends to measure its performance and then set up appropriate metrics that should be reviewed at least once a year. In fact, I recommend reviews occur monthly – normally, a few hours a month is necessary to get the accurate health status of your business (i.e., your law firm).
Written by Mayur Gadhia, CPA, CA, Founder of CloudAct CPA Professional Corporation.