At times, numbers will mislead. Bigger doesn’t always mean more. More doesn’t always translate to better.
A recent new client engagement reminded me of how tricky numbers can be; and why it is important for law firm leaders to rely on basic financial modeling at critical junctures.
A firm’s revenue can be one of the most deceiving numbers of all. Often, as a law firm’s revenues begin to grow there is a tendency to commit additional capacity in support of the growth. Typically this means more space, attorneys, staff and other overhead.
When these commitments are made without modeling their long-term impact, the numbers reflecting that revenue growth may be leading a firm down a destructive path.
The recent engagement noted above is a perfect example. After investing in what the firm interpreted as opportunity, they realized that the bottom line (net profit) has not grown much, if at all.
The result is unnecessary pressure on owner’s compensation, and in the worst case, this pressure evolves into a threat to firm survival.
Prudent growth includes forecasting the economic impact associated with long-term commitments — to people, space and other forms of overhead.
If we look only at revenue numbers, growth can lead to a series of decisions that result in a decline in profit.
Effective modeling tells a more complete story, including the inevitable fluctuation in future revenue.
A firm may still decide to invest in the opportunities that generated the initial growth in revenue; but it will be a decision that comes with realistic expectations.
Does your firm routinely utilize financial modeling when planning for growth?