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Cash Is Tight Because.......

29.02.2012

At a Managing Partners’ conference earlier in February there was almost unanimity about the fact that, however well firms are doing, cash is very tight at the moment – a real cause for concern.

But what should be done?

The first thing managing partners should be doing is talking to their Head of Finance to establish the reasons why cash is so tight.

But it is a particularly difficult time to disentangle a range of underlying causes of cash flow issues. Is it because of issues specific to the firm, or more general economic factors – and if so, which?

Economists point to the long established pattern, that insolvencies peak at the end of a recession, when firms weakened by hard times find they cannot fund their recovery. On the one hand, an “intensive care” banker told me that he was extremely busy because of businesses losing the will to carry on – whilst on the other hand an Insolvency Practitioner said they were busy because of the “funding recovery” issue? So which is it – a weak economy or a recovering one?

At the firm’s level, one of the key issues in Financial Planning and Control is to have considered and robust Cash Flow plans broken down into (at least) monthly segments – and taking explicit account of recurring and predictable cycles.

The Bottom Line...

Unfortunately, many firms put their attention into setting annual Profit and Loss Account Budgets, and treat the monthly elements and translation of Profit to Cash Flow as a largely administrative exercise – often dividing the year into equal instalments. Not only is the P&L account not like that in real life, but Cash flow can swing violently.

Most firms can measure variance from budget in the P&L account but many struggle with Cash Variances – and it is the cash variances which are the key to correct diagnosis and treatment! And the possible causes include:

• Seasonal factors - The Christmas payroll, Quarterly Rent, the January Tax Bill and, of course, Partners’ School Fees. And possibly a VAT bill.

• A seasonal dip in income – most firms will be collecting December’s bills in January – and December is a short billing month for most.

• The LSC budget cycle. Government departments and agencies ration their payments to fit within annual budgetary limits – so processing slows down and queries proliferate, only to be resolved in the Spring.

• Whilst it is easy to blame the LSC, our analysis has repeatedly shown that firms can do far more to help themselves in eliminating the reasons for queries by complying exactly with the terms of the LSC contract – and having strict quality control on all LSC bills – before they go out – sadly, too many rejected claims have been self inflicted wounds.

All of these seasonal patterns are eminently predictable – and should come as no surprise to a well managed firm with sound Cash Flow Budgets and forecasts.

Cash, Profit and Lockup

The cash position will be of greater concern if it is accompanied by significant variances in the P&L account or in the Lockup days.

Lockup management (primarily debtors and WIP) is one of the earlier issues to address in any professional performance management programme. Clear targets (days and £) – based on departmental standards are essential and exceptions cannot be tolerated.

If the poor cash flow is as a result of poor billing performance and therefore reduced profitability, action has to be taken to correct the problem at source. A rapid assessment of future prospects is needed based on the value of the “order book”, or the value (not just number) of recent matters opened.

And finally – what if the variance is positive – growth (or rebound) in work levels leading to a growth in working capital requirements? Unless the Lockup cycle can be changed (always our first choice) additional funding will be needed – and here the world has just changed. Conventional sources of solicitor funding have become harder, but the advent of ABS creates a wide range of possibilities... 

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