Why Should I Worry?
When it comes to profit many firms are complacent. So long as the bills are being paid and I draw a reasonable sum each month why should I worry? That raises a most interesting question just how much is enough?
I frequently ask principals/partners in workshops to write down on a piece of paper just what they think their profit should be? Invariably there is a very diverse range of opinion and there should at least be some attempt by partners to come to agreement on a suitable amount. But the point I wish to make is that a large sum is inevitably left on the table. Complacency breeds complacency and as long as partners are reasonably satisfied a serious effort to change is unlikely. Yet most professional firms invest so little in areas like innovation, staff training, the latest technology, professional marketing, systems and procedures improvement, furniture and equipment, office presentation, and much more. If there is cash in the bank at the end of the month then a suitable drawing is on the cards!
So few firms complete a budgeting exercise that drives the firm. Ideally the overall firm budget for the year/s ahead should have a number of budgets branching off and supporting it where a serious drilling down is evident. I refer to the Personnel Budget, the Work-in-Progress and Debtors Budgets, the Capital Expenditure Budget that itemizes future investment in equipment especially information technology, the Training Budget that links into the skills audits and individualizes or tailors the training needs, the Marketing Budget, the Cash Flow Budget as distinct from the accruals Profit and Loss Budget, the Balance Sheet Budget, the Drawings Budget, and all of these should link in so that what if scenarios may be considered up front. The DuPont analysis is also an outstanding tool for assisting in these projections.
Detailed Drilling Down
Now I did say ideally and the reality is that this sort of detailed drilling down enables decisions to be made in advance and not on the run. For example, what percentage of our revenue should we outlay on training? What is realistic to enable us to grow our people and skills to reach the vision we have already determined in our Business Plan and strategies? In light of our growth projection what is a reasonable percentage to spend on marketing in order to achieve that growth. This should lead to what I refer to as laser beam focused marketing rather than the scattergun marketing that most professionals engage in (if any marketing at all!).
Rule of Thumb
Most professional firms work on the rule of thumb of 1/3rd, 1/3rd, 1/3rd, i.e. 1/3rd of revenue is taken up in overhead, 1/3rd of revenue is absorbed in wage costs and 1/3rd remains for profit suggesting that professional firms should earn 331/3 % net profit but this is where the illusion of profit comes in. Because no adjustment is made for realistic commercial salaries for principals, or interest on capital and current accounts this simple formula can lead to complacency. And note that the interest is calculated at commercial rates and after regular, realistic revaluation of Balance Sheet items especially Goodwill, Intellectual Property and other intangibles. my book, “Earn Your True Worth” I explain in greater detail the options for calculating commercial salary.
A Reasonable Return ?
Where these adjustments are made in a commercial manner invariably I have found that Net Profit (before tax) drops dramatically to around 5% pa or less. Losses are not uncommon. In my experience listed corporations on the stock exchange generally seek a return in the order of 15-20% pa or more and they are punished in their share prices if they don’t, so accountability is very strong. It seems to me that this is a reasonable minimal guide for professional firms. Return on investment should also be examined (allowing for revaluation of the intangibles). Is the firm receiving a reasonable return on their investment after the above adjustments?
A True Costing System
So where is the net profit we should be earning? Waste is a big factor and time sheet recording for many professionals has made us lazy. There is a strong move to value pricing, i.e., a more serious examination of the value to the client and negotiation and management of expectations with the client. I am not advocating cessation of the time sheet system; I am simply advocating a return to the use of time sheets as a costing system that is a reference point only (as originally intended), not the means of calculating the bill. As already explained when professional firms have such low productivity there is something seriously amiss.
The Practice Cannot Run Itself!
You simply must take the management of your professional practice at least as seriously as you do when attending to the needs of your largest client. My book will provide you with an approach to truly earning what you are worth but you must be willing to take action, apply resources and make decisions. The practice cannot run itself! And avoid being misled by the illusion of strong profit.
David Connell, Co-Founder, ATL Network.