Many moons ago, we had a dispute with our (then) international association. We decided to leave them and find a new home. We eventually found that home as the Melbourne representatives of Grant Thornton (see footnote). But in the course of finding Grant Thornton, we had an interesting experience with another potential merger partner.
Our merger suitor seemed well run, had a very well-known brand and their partners always busy with high profile clients and matters. On the surface, all looked great.
But we raised concerns about their new merger partner’s balance sheet. Massive work-in-progress, unbilled jobs and uncollected debts in a couple of big teams.
Indeed, the lock-up (combined debtors and WIP) in one of these teams, exceeded their annual fees. Staggering. A showstopper for us.
Unconcerned and dismissive about the concerns we raised; the merger talks soon collapsed. Six months later, we heard that the potential merger partner was now in chaos. Apparently, massive write-offs of debtors and WIP led to the resignations everywhere … including the once dismissive Managing Partner.
Surely it would be unique for a major accounting and advisory firm to ignore their lock-up? Well… no.
There was a reason why we understood lock-up
Some years before this merger, we employed our first Debtors Clerk. Frankly, at the time, I couldn’t see why we needed one. Surely that was a waste of money?
Turns out we had two collection problems.
The first problem we knew about. The partners in our practice were supposed to bill their clients based on whatever time had been spent on the client’s affairs by the various members of their team. Partners didn’t like billing… so that task was delayed as much as possible. They didn’t like it because very often, the clients received a big surprise for all the work that was done on their behalf.
So, those annoyed clients often didn’t pay.
The unpaid bill sat there getting older and older. Time continued to elapse and eventually, the client (and the partner) didn’t really remember what work was actually done. Even if the work could be justified, it was now way too remote.
This was at the heart of our collection problem.
The first (initially huge) task for our Debtors Clerk was to take stock of all outstanding issues and set about resolving the problems, one by one.
The second task was to stop that problem list ever growing again. Our new debtors’ clerk was very experienced. She had worked for a finance company. At her previous job, 14 day terms meant 14 days. She would call them on the 15th day. She would very politely ask for payment. She was very good at it.
But a call on the 15th day? Could we do this too? After all, we were Chartered Accountants, not some finance company. But she insisted.
What happened?
It was amazing. And the outcome was not what we expected.
Yes, clients accepted that they had to pay on time, after all, the terms were stated on the invoice. But the real magic was for those clients who had received invoices that they were not expecting. Our Clerk would take the matter straight to the Partner (yes, on day 15). She would set a program for resolution and insist that within a few days the matter would be fully resolved.
As it was. And invariably paid soon after. Both parties were happier.
But here is the thing.
Eventually the partners worked out that the best way to avoid the query from the client would be to talk to them before they send the invoice. In time, they worked out to talk to the client before they did the work. The clients felt far more in control and their needs were met in a much better way.
We had happier clients, our debtors’ problems disappeared, and I learned a valuable lesson. Thanks Carol.
Managing debtors requires a two-pronged approach. Firstly, don’t be distracted by only managing the problem debtors. Secondly, be methodical and insistent about your credit terms. 14 days means 14 days. Call them on day 15. Nicely.
WIP
Work in Progress takes many forms, such as; jobs in process in the factory, construction projects awaiting the next progress invoice or simply the time spent on a professional services matter that is yet to be billed. Valuable work has been done.
The ability for a business to bill for incomplete work will depend on the industry, the relationship and terms of the contract with the customer or client. Clearly, the tighter the contract, the greater the ability to minimise the unbilled amount.
Unfortunately, many businesses do not track WIP in the financial reports, even if tracked through separate job or time recording systems. And what is not in the accounts becomes easy to forget and easy to ignore. And easy to write off.
And just like Debtors, the older a balance becomes, the likelihood of billing and collection shrinks. The link between the work (especially variations … see footnote) and billing become too distant and the justification gets harder. There is a greater and greater chance that more and more of that WIP will get written off.
Good business hygiene requires business owners to treat WIP as potential Cash.
It needs to be carefully measured and properly controlled. Aging analysis of balances and comparing to benchmarks can help identify problem accounts, jobs, matters, teams or fee earners. Some professional firms go so far as to hold back income of practitioners for amounts of WIP (and Debtor) balances over agreed benchmarks. That usually gets action from the persons responsible.
Properly managed and controlled, WIP can turn into invoices, and then into cash. But if neglected, it is like setting fire to money.
These lock-up items of Debtors and WIP (along with Stock … see previous article) represent the unavoidable working capital requirements of most businesses. They also represent a key area where the diligence of the owner in the hygiene factors of their business are most critical.
Which is why we (regularly) say:
Growth is vanity
Profit is sanity, but
Cash is king
Chris Alp
Business Specialist Partner
Footnote 1:
Our firm became Grant Thornton in Melbourne for another 11 years. But in time we were again facing the same challenge. We saw our direction differently to our international colleagues. We were not in charge of our destiny, our name nor our brand.
So again, we left a very comfy home. But lesson learned, we vowed to never again adopt a brand that we could not control or keep.
Footnote 2:
Variations can be poison or gold.
Business owners who do not properly track, price and bill variations can be literally throwing money away. Your clients often insist on changes to projects yet if not properly tracked and billed, these value-added services are simply lost and the overall margin on jobs falls away fast.
It’s a very common problem and where it exists, it represents a fabulous opportunity to deliver a big improvement in business profit.
I remember a client from the past who would always quote huge jobs at ‘break-even.’ Being a margin junkie, I was always challenging him.
But he would tell me that the money was in the variations. He kept meticulous records of everything that led to a variation, re-negotiated terms at the eleventh hour, justify prices at the highest margins, insist on progress payments and of course, always finished the jobs with a healthy profit.
He turned lead into gold.