Most professional partnerships are not limited companies, but are owned solely by the partners within the company. If you want to be admitted to the partnership you will typically be asked to cough up a capital sum, to qualify for a slice of the firm’s equity. This capital injection could be as little as £30k or potentially more than a million pounds. Like any financial investment of this level, it makes fiscal sense to understand how ‘precarious’ or ‘solid’ are your potential investment’s finances. One of the ways of assessing this is to see how your firm is currently funded and to what level it is (or isn’t) in debt. Common sources of funding for a firm, both for working capital and investment in the firm’s future include:
Capital introduced by partners: Typically this happens at the start-up of a firm or when a new partner is admitted to the partnership. Sometimes if the partnership is facing a hole in their finances, there may be a ‘cash call’ to the partners, where they all contribute additional capital to the firm.
Bank loans: These are normally paid back over the long-term and used to fund capital items (e.g. IT equipment, office refits) and to ensure that there is sufficient working capital to keep the practice going.
Long-term overdrafts: Overdrafts are typically used to smooth cashflow fluctuations in the business, such as unpaid bills. The interest charged on a long-term overdraft is normally significantly higher than a bank loan.
Retained profits: Only part of the firm profits is paid to partners. The remaining profits are retained and used to meet the costs of maintaining and developing the practice. Usually profits are retained because they have not yet been converted into cash because they are “invested” in lock-up.
Before you commit to sign on the dotted line, do ask questions about the levels of funding, debt and potential financial risk in your firm!