Best Practice: How is it possible that income statement shows firm operating at a loss?
Asked and Answered
By John W. Olmstead, MBA, Ph.D, CMC
Q. I am a new partner in our law firm of six attorneys. I was an associate for seven years and was just made an equity partner and just received a copy of this month's income statement. The income statement shows the firm operating at a loss. I was startled and took a look at past years' statements as well. All are showing a small loss. Am I looking at these correctly? How can a firm operate at a loss for seven years in a row and still be in business. I would appreciate your comments.
A. My guess is that the firm is running all or a portion of equity partner compensation though as expense on the income statement. Other personal items may also be run through the firm as well. Check with the firm's bookkeeper or outside accountant to see if this is the case. If this is the case add the total paid to equity partners back to the net income or loss on the income statement. This will give a better picture of the actual "pie".
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John W. Olmstead, MBA, Ph.D, CMC,(www.olmsteadassoc.com) is a past chair and member of the ISBA Standing Committee on Law Office Management and Economics. For more information on law office management please direct questions to the ISBA listserver, which John and other committee members review, or view archived copies of The Bottom Line Newsletters. Contact John at jolmstead@olmsteadassoc.com.
Member Comments (1)
If you are wondering how the math works if a firm has continuous losses but still is operating, it is probably debt. Do a simple example. Practice has $10,000 in income but $11,000 in expenses. How does the practice exist? It either has outside finances (e.g., a bank loan) to fill the deficit and/or it owes suppliers (accounts payable) and/or it owes the owners (shareholder or partner debt).
What kind of debt could it owe its owners? It could be something as simple as that a partner has a pending lawsuit that will be collected after the year end, but the partner continues to collect weekly paychecks. The real world and the fiscal year rarely are on the same cycle. But you are wise to question this if it happens constantly. Seven years seems odd. There are some lawsuits that overly optimistic attorneys extend too much credit to instead of ending the relation.