Associates Need Financial Savvy: Ten Concepts Managing Partners Wish Associates Knew Better

A solid grasp of financial and accounting fundamentals can enormously enhance the value of a young attorney's work product. I often saw evidence of this in my previous legal administrator role for a 50-attorney Denver law firm. In my current CPA practice, in which I serve more than 20 law firms on an ongoing basis, I see the same pattern in working closely with attorneys on tax planning and compliance, financial reporting, fraud investigations, forensic accounting, and business appraisals.

When I recently visited a law firm that retained me as an expert witness regarding a complex accounting matter, an associate attorney gave me an overview of several boxes of accounting records. These records included several thousand pages of tax returns, audited financial statements, general ledger detail schedules, and related documents. I would have to review these documents so that I could render an affidavit that the records produced by the underlying business client were satisfactory and sufficiently complete to allow a determination of a key issue in the litigated matter. The fact that this young attorney had a better than average grasp of the nuances of accounting and finance made my work much easier and resulted in a better result for the law firm's client.

A Top Ten List

While many areas of financial and accounting knowledge can enhance an attorney's ability to serve his or her clients, associates who study the following ten topics will find recurring opportunities to apply them:

1) Cost/benefit principles

In the world of finance, almost every decision involves some degree of consideration of the costs of implementation versus benefits to be obtained. Whether it be a major renovation or expansion of a project or facility, or something as simple as redesigning the chart of accounts underlying a set of financial statements, it is critical to always keep an eye on the benefits expected to be derived in relation to the costs anticipated to be incurred. Often the ability to make the required cost/benefit assessment requires subjective estimations of such future costs and benefits. Making such estimates requires a strong grounding in financial theory along with common sense.

2) Time value of money concepts

Often key financial decisions hinge on the proper application of present value concepts, whereby an appropriate discount rate is applied to an anticipated future economic benefit to derive the equivalent current benefit. For example, attorneys often need to help clients assess the impact of changing interest rates on debt instruments used in business transactions.

3) Valuation concepts

The need to determine the value of closely held securities can occur in many areas of the law, including estate planning, litigation, bankruptcy, taxation, and various forms of commercial transactions. The same valuation concepts also apply to the valuation of intangible assets such as intellectual property rights. While the rendering of a competent valuation opinion is best left to a qualified specialist, an attorney's ability to understand and properly apply valuation methodologies can yield substantial benefits to the client.

4) Tax-related matters

Tax burdens ' whether income, estate, excise, property, or severance taxes ' can have a profound effect on a wide range of matters and transactions that involve legal services. To complicate matters further, many jurisdictions have substantial differences in how taxes are levied, which requires the legal practitioner to keep abreast of such differences. Knowledge of tax laws and regulations can greatly facilitate planning.

5) Economic principles

In addition to the time value of money and valuation principles, a number of other fundamental economic concepts enhance a legal practitioner's ability to counsel clients. For example, the principles of supply and demand are often at play with various forms of feasibility assessments and related business transactions. An attorney's ability to recognize and assess what constitutes an economic benefit ' e.g., knowing when to obtain patent or trademark protection, a non-compete agreement, or the like ' can be paramount to the overall value proposition in the attorney's relationship with the client.

6) Statistical analysis concepts

Every legal practitioner should know the difference between a mean and median, and what is measured by a coefficient of variation and standard deviation.

In complex litigation, a thorough understanding of statistical analysis theory and concepts can be the difference between winning and losing. Winning a case may depend, for example, on being able to attack or defend the application of regression analysis in a particular matter. Recent applications of statistical measurements involve mathematically sophisticated tools like Black-Scholes and related option models for determining the probability of future outcomes.

7) Auditing rules and concepts

With Sarbanes-Oxley and other recent legislative mandates to improve audit services, legal practitioners can benefit their clients by knowing the differences between an audit, a financial statement review, and a compilation. When using financial information, it's also critical to know the difference between financial statements prepared in conformity with Generally Accepted Accounting Principles ('GAAP') and those prepared on another recognized basis of accounting, such as the income tax basis.

8) Understanding the linkage between a balance sheet and an income statement

The two primary financial statements that any business enterprise will render are a balance sheet and an income statement. The balance sheet conveys the financial position of the enterprise as of a specific date, following the fundamental balance sheet equation of Assets = Liabilities + Equity. The income statement conveys the revenue and expense activity of an enterprise over time and is considered by many to be the most important source of information for financial decision making. To comprehend the economic activity of an enterprise, an attorney needs to understand how the net difference between revenues and expenses on the income statement is captured in the change to the retained earnings line of the balance sheet.

9) Payroll and benefits matters

Any business that relies on employees must attend to the complexities of human resource management issues, including payroll and employee benefits. Whether the issue at hand is a labor dispute, a retirement plan, a feasibility analysis, or the like, having a good understanding of payroll and benefit compliance requirements can greatly enhance an attorney's ability to counsel.

10) How financial information is stored and maintained

As illustrated by the example in the opening section of this article, the ability to comprehend how financial data and records are stored and maintained, both electronically and physically, can greatly facilitate the practitioner's ability to understand what data are available and where to find them for whatever decision-making needs are required.

Conclusion

Obviously, each of these areas has a large degree of breadth and depth in terms of the knowledge needed to fully comprehend it. But a legal practitioner who gains at least a basic sense of what underlies each area will greatly enhance his or her ability to be responsive to a wide variety of situations that arise in legal practice.

Ronald L. Seigneur is a partner in Seigneur Gustafson Knight LLP in Lakewood, CO. He has more than 20 years of experience working with law firms on a wide range of practice management issues, valuation, economic damages, and litigation support matters. He also teaches financial, management, and leadership courses at the University of Denver College of Law. He may be contacted at [email protected] or 303-980-1111.

A solid grasp of financial and accounting fundamentals can enormously enhance the value of a young attorney's work product. I often saw evidence of this in my previous legal administrator role for a 50-attorney Denver law firm. In my current CPA practice, in which I serve more than 20 law firms on an ongoing basis, I see the same pattern in working closely with attorneys on tax planning and compliance, financial reporting, fraud investigations, forensic accounting, and business appraisals.

When I recently visited a law firm that retained me as an expert witness regarding a complex accounting matter, an associate attorney gave me an overview of several boxes of accounting records. These records included several thousand pages of tax returns, audited financial statements, general ledger detail schedules, and related documents. I would have to review these documents so that I could render an affidavit that the records produced by the underlying business client were satisfactory and sufficiently complete to allow a determination of a key issue in the litigated matter. The fact that this young attorney had a better than average grasp of the nuances of accounting and finance made my work much easier and resulted in a better result for the law firm's client.

A Top Ten List

While many areas of financial and accounting knowledge can enhance an attorney's ability to serve his or her clients, associates who study the following ten topics will find recurring opportunities to apply them:

1) Cost/benefit principles

In the world of finance, almost every decision involves some degree of consideration of the costs of implementation versus benefits to be obtained. Whether it be a major renovation or expansion of a project or facility, or something as simple as redesigning the chart of accounts underlying a set of financial statements, it is critical to always keep an eye on the benefits expected to be derived in relation to the costs anticipated to be incurred. Often the ability to make the required cost/benefit assessment requires subjective estimations of such future costs and benefits. Making such estimates requires a strong grounding in financial theory along with common sense.

2) Time value of money concepts

Often key financial decisions hinge on the proper application of present value concepts, whereby an appropriate discount rate is applied to an anticipated future economic benefit to derive the equivalent current benefit. For example, attorneys often need to help clients assess the impact of changing interest rates on debt instruments used in business transactions.

3) Valuation concepts

The need to determine the value of closely held securities can occur in many areas of the law, including estate planning, litigation, bankruptcy, taxation, and various forms of commercial transactions. The same valuation concepts also apply to the valuation of intangible assets such as intellectual property rights. While the rendering of a competent valuation opinion is best left to a qualified specialist, an attorney's ability to understand and properly apply valuation methodologies can yield substantial benefits to the client.

4) Tax-related matters

Tax burdens ' whether income, estate, excise, property, or severance taxes ' can have a profound effect on a wide range of matters and transactions that involve legal services. To complicate matters further, many jurisdictions have substantial differences in how taxes are levied, which requires the legal practitioner to keep abreast of such differences. Knowledge of tax laws and regulations can greatly facilitate planning.

5) Economic principles

In addition to the time value of money and valuation principles, a number of other fundamental economic concepts enhance a legal practitioner's ability to counsel clients. For example, the principles of supply and demand are often at play with various forms of feasibility assessments and related business transactions. An attorney's ability to recognize and assess what constitutes an economic benefit ' e.g., knowing when to obtain patent or trademark protection, a non-compete agreement, or the like ' can be paramount to the overall value proposition in the attorney's relationship with the client.

6) Statistical analysis concepts

Every legal practitioner should know the difference between a mean and median, and what is measured by a coefficient of variation and standard deviation.

In complex litigation, a thorough understanding of statistical analysis theory and concepts can be the difference between winning and losing. Winning a case may depend, for example, on being able to attack or defend the application of regression analysis in a particular matter. Recent applications of statistical measurements involve mathematically sophisticated tools like Black-Scholes and related option models for determining the probability of future outcomes.

7) Auditing rules and concepts

With Sarbanes-Oxley and other recent legislative mandates to improve audit services, legal practitioners can benefit their clients by knowing the differences between an audit, a financial statement review, and a compilation. When using financial information, it's also critical to know the difference between financial statements prepared in conformity with Generally Accepted Accounting Principles ('GAAP') and those prepared on another recognized basis of accounting, such as the income tax basis.

8) Understanding the linkage between a balance sheet and an income statement

The two primary financial statements that any business enterprise will render are a balance sheet and an income statement. The balance sheet conveys the financial position of the enterprise as of a specific date, following the fundamental balance sheet equation of Assets = Liabilities + Equity. The income statement conveys the revenue and expense activity of an enterprise over time and is considered by many to be the most important source of information for financial decision making. To comprehend the economic activity of an enterprise, an attorney needs to understand how the net difference between revenues and expenses on the income statement is captured in the change to the retained earnings line of the balance sheet.

9) Payroll and benefits matters

Any business that relies on employees must attend to the complexities of human resource management issues, including payroll and employee benefits. Whether the issue at hand is a labor dispute, a retirement plan, a feasibility analysis, or the like, having a good understanding of payroll and benefit compliance requirements can greatly enhance an attorney's ability to counsel.

10) How financial information is stored and maintained

As illustrated by the example in the opening section of this article, the ability to comprehend how financial data and records are stored and maintained, both electronically and physically, can greatly facilitate the practitioner's ability to understand what data are available and where to find them for whatever decision-making needs are required.

Conclusion

Obviously, each of these areas has a large degree of breadth and depth in terms of the knowledge needed to fully comprehend it. But a legal practitioner who gains at least a basic sense of what underlies each area will greatly enhance his or her ability to be responsive to a wide variety of situations that arise in legal practice.

Ronald L. Seigneur is a partner in Seigneur Gustafson Knight LLP in Lakewood, CO. He has more than 20 years of experience working with law firms on a wide range of practice management issues, valuation, economic damages, and litigation support matters. He also teaches financial, management, and leadership courses at the University of Denver College of Law. He may be contacted at [email protected] or 303-980-1111.