Income less Expenditure = Profit. So, you have 2 options: increase income or cut expenditure. Increasing income is always more fun and what people often focus on. Indeed, people will often look at turnover (another way of referring to income in this scenario) or ‘billing’ as the primary Key Performance Indicator (KPI). Whilst it might be important for some members of staff, I would suggest that it is only one of the KPIs more senior management should be following. I have seen in businesses that, where people have been promoted, they will often carry with them an over-focus on increasing income to the exclusion of all else – including monitoring profit.
I have heard it said that Profit is a question of opinion. An eye-catching phrase that has quite a lot of truth in it. I don’t propose to discuss here the ‘dark arts’ practiced by some accountants and indeed some multi-nationals who seem to find ways to pay no or very little tax. We should pay what is due. As my accountant tells me: ‘It’s a good thing that you’re paying tax – as it means that you’re making profit’. Also, it’s part of our civic duty for the civilised society we all want. What I would suggest, is that you have your definition of ‘profit’ defines as clearly and logically as possible. Whatever you decide the definition is for your business will affect how you run your business. Any change, I would suggest, should have a clear business reason. Everything should link back to the core aims of the business (if you haven’t worked out what they are yet then I would strongly recommend you do - give me a shout if you want some help). Beware of sudden changes in the way that profit is defined. That could be the preparation for political manoeuvrings.
So, I’ve talked about Profit and a little about increasing this by increasing income. You increase income by increasing sales/billing/invoicing – whatever you like to call it – AND getting the cash in on the sale! CASH is KING. Either increasing volume or the unit price – ideally both. Sadly, that is not always possible. Also, as mentioned above, that is only part of the story. There is a cost to making each sale. In most industry that is more readily seen because there is a Sales Department, which is an overhead. In a Law Firm it might be extra ‘opportunity generation’ time (which is non-billable but of great value to the business), such as networking, blogging, entertaining and other forms of relationship building and maintenance etc. Some areas will indeed engage in advertising. All of these have a value and a cost. I would suggest each should be measured and given a value to be added into the KPIs.
When I first became a partner, I asked the Finance Director if we had a calculation for measuring profit for each £ generated by practice area, member of staff etc. I was used to this level of data from when I worked in industry. I was told this was too complicated. I didn’t agree then and still do not now. In many areas of industry a 8% profit margin is a good margin. In Law that would be unacceptable and cause one to close the department. Lawyers are accustomed to big profit margins and so this level of analysis may not have been deemed necessary. I would suggest that times are here where it would be a good idea. Corporate clients are increasingly demanding a fixed price for the work – as they get from other service providers. Naturally they want to have predictable risk and cost. In litigation the monitoring of legal costs is forever getting tighter. So, the scope for increasing the income through higher charges per job is diminishing.
The other big area where one may increase profit is by focusing on what I call the ‘Costs of Production’. Maybe that comes from my manufacturing experience. Anyway, I find it a helpful term. There is a cost to doing the work. This is distinct from the cost of acquiring the work, which I mentioned above. Costs of production is everything from providing the facilities and equipment to do the work (rent, electricity, the water cooler, computers, computer software and hardware etc) to salaries, debt collection, interest on overdraft due to late payment (credit given to your clients – debtor days), the cost of other borrowings etc. All of that may be necessary but chews up profit.
I would suggest that clear data on the costs of acquisition and production is essential for your business. This can then inform your decisions on how to make adjustments to increase profit. Remember, each decision you make will have knock on consequences – some of which will be unintended and may impact negatively on other areas of the business. There is so much I could write on this subject, but it really is a topic for practical application, rather than intellectual discourse. Rolling up your sleeves to get on. I’ve spent many years working on this: halving debtor days, working and reworking on process improvement, restructuring and retraining staff, looking at supplier performance, monitoring costs of acquisition, weaving in regulatory compliance to make it automatic but unobtrusive wherever possible. You need to constantly measure performance so that you can see the effectiveness or otherwise of what is being done.
One last thing I would add: Communication – it is essential to have good levels of communication with your senior colleagues so their agreement and buy-in (a subject for another article) and with staff. Indeed, my experience is that once you think you have communicated enough, start communicating again. And the larger the organisation, the more you have to work at communication. Also, as a leader, you need to give your staff a narrative or story line which they can follow, buy-in to and where they can see the purpose of what is going on and where they fit (again aligned to your core goals). That will help getting them to work with you rather than against you.
I’d welcome your thoughts, observations and stories from your experience. If this has thrown up some issues you would like to discuss further feel free to email, ring or message me.