Historically, in India Chartered Accountants
have practised as proprietary concerns or partnership firms. But since the
introduction of the Limited Liability Partnership Act (LLP) and the permission
of the ICAI for Chartered Accountants to practise as LLPs, many members of the
Institute in practice have either formed LLPs or have converted their
partnership firms into LLPs. Most of the Chartered Accountant practising units
(the firms) were small or of medium size and their working capital needs were
fully taken care of by funding from the partners and the retained profits.
As the size of many of these firms grew and
the number of partners increased, they started needing more space to operate.
Given that the investment for purchase of office premises, especially in
metropolitan cities, was high, many firms started using rented premises.
Furnishing of these offices was carried out using partners’ capital and
borrowing from banks and other lenders. In many cases, the purchase of vehicles
was also done by borrowing from banks or from Non-Banking Finance Companies
(NBFCs). Most of the firms hardly needed to borrow for their working capital as
their income was in the nature of service income being generated from a number
of clients and spread uniformly. Borrowing for office premises, furniture,
equipment or vehicles was common but if a firm borrowed for working capital
needs, it could have been an indication that either the proprietor or one or
more of the partners had overdrawn their capital.
REVENUE CYCLE TURNS
CYCLICAL: With the mandate to compulsorily follow
the fiscal year by the government, the revenue cycle of Chartered Accountant
firms also became somewhat cyclical. The major part of the work is required to
be performed between April and November and the major billing starts happening
between May and December every year. This has resulted in a majority of the annual
cash inflow of the firms coming in during the second and third quarter of a
financial year. Generally, the months of February, March and April are ‘dry’
with regard to billing and recovery of funds. This results in low liquidity in
firms after the payment of advance taxes in March, which lasts till the end of
May / June, depending on the practice areas of the firms. However, the firms
are conscious about this unevenness of the fund flow and they accumulate the
required cash during the peak work season to pay for taxes as well as expenses
in the lean months. This discipline keeps most of the firms away from borrowing
for working capital.
However, Covid-19 has changed the scenario
for firms and even the individual practices of professionals. The lockdown,
starting from 25th March, 2020, potentially has serious
repercussions on the working capital of firms. Most of the firms are cushioned
until the month of May as they have provided for low recoveries in the
beginning of the year as usual. However, due to postponement of the due date of
completion of audits, tax audits and filing of various returns, the billings
are getting postponed by at least two to three months. Further, most of the
clients may not be able to pay the expected fees promptly due to the squeeze on
their working capital and profitability on account of the prolonged lockdown.
Small businesses are suffering due to temporary closures and a steep fall in
demand. The competition from online suppliers and from certain larger
suppliers, who can manage the logistics of home delivery, has further eroded
their business.
FATE OF SMALL-SCALE
MANUFACTURERS: The fate of small-scale
manufacturers is no different. This has substantially affected the capacity of
small clients to pay fees to their chartered accountants, though generally
their fees are cleared promptly. The larger businesses in key sectors have also
suffered due to the lockdown and this may result in delay in payment of the
bills of the firms. The clients will use their funds primarily for their
business priorities before allocating them to payments for services such as
those of chartered accountants. This is likely to result in delayed recovery of
fees, and in some cases even bad debts. It is likely that as in many other
businesses or professions, the F.Y. 2020-21 is likely to be tough for chartered
accountants in practice.
The delay in recovery of fees and some
recoveries turning doubtful can cause strain not only on the profitability of
the firms but also on their working capital. The laws have not reduced any
compliances or any complications but many due dates are deferred due to the
lockdown. Therefore, the same volume of services needs to be delivered by the
firms to the client, though with extended deadlines. This scenario will keep
the expenditure of the firms at the same level as that of the earlier years, as
they will not be able to get their work done with fewer man-hours or overheads,
unless well-directed efforts are made in that direction. However, income for
the firms may come down and be likely to be recovered late. This may result in
a major working capital gap for the firms, especially between the months of
June and December.
It appears for now that the need of working
capital will be temporary in nature. The squeeze may last the current financial
year with the possibility of spilling over to the next year. Generally, the
need of working capital augmentation should be around 50% of the annual
expenditure of the firm, though in many cases depending upon the size and
practice areas, an amount equal to 25-30% of such expenditure should allow the
firm to sail through smoothly. This is so mainly because the lag of billing and
recovery is likely to be around three to four months but in
case of some firms it can extend to six months. The working capital of firms
can be augmented from the following sources:
BORROWING FROM THE
PARTNERS: This is the simplest way of raising
working capital if one or more partners are willing to contribute the required
amount. Interest can be paid to such contributing partners based on the
partnership agreement, or based on the prevailing bank rate, or as mutually
agreed by the partners. It may also be possible to borrow against the fixed
deposits of the partners from banks if facilitated by one or more partners.
Such an arrangement can result in low interest cost and it may prevent
disturbing the personal finances of the partners. The partners may also agree
to bring deposits from their family members or even from friends which may be
interest-bearing or interest-free, based on the mutual agreement between the
partners.
BORROWING FROM
BANKS: Most of the banks are willing to extend
working capital facility to Chartered Accountant firms but the question of
security may crop up. Banks are not happy to grant such loans without any
security and it may not be easy for the firm to provide such security because
the firm may not have such acceptable assets and it may not be desirable to
request one or some of the partners to give security of their personal assets.
These borrowings can come under MSME loans and in that case may be subject to a
charge of reduced rate of interest. If the firm already has existing loans
taken for its premises or its furniture and fixtures, it may be possible to
take a top-up loan on the said loan, with accelerated equal monthly
instalments, or by increasing the term of the loan. In such a case, the
security remains the same and the documentation can be quick and easy. While
borrowing from banks it is essential to keep in mind that the borrowing should
be done just in time to reduce the interest liability. The working capital need
is not going to be front-loaded and it will be consumed month after month for
monthly expenses. Therefore, a staggered drawing of the loan amount would be
more desirable as against securing an upfront term loan.
BORROWING FROM
NBFCs: Non-Banking Finance Companies can be a good
source of borrowing for the short-term working capital needs of a firm. A loan
from an NBFC is generally more expensive than that from a bank, but it can be
procured faster with fewer formalities. Similarly, partners can negotiate and
combine their individual unsecured borrowing limits into the borrowing limit of
the firm, but such a loan will attract personal guarantees of all the partners.
Borrowing against security of assets can be much easier if a firm or its
partners can offer the same. Such an arrangement can be made with an
appropriate understanding between the partners. As the expected working capital
requirement is for a short term, in case of insistence of security by the
lender, it is advisable to grant security of moveable properties, which can be
pledged faster and at less cost as compared to an immoveable property.
USE OF CREDIT
CARDS: A firm can use credit cards of the firm or
those of its partners for making various payments for utilities, telephone
bills, stationeries, books, etc. Though these expenses do not make up the major
working capital needs of a firm, they can partially mitigate the working
capital gap. When the working capital cycle improves, the firm can repay the
credit outstanding along with interest. It should be kept in mind that funding
from credit cards is the easiest, but it is one of the most expensive avenues.
Further, credit card liability would have to be paid in instalments as per the
terms of the credit card and delays can attract substantial penal charges and
can also affect the CIBIL rating of the card-holder.
REDUCING,
STAGGERING OR POSTPONING WITHDRAWALS BY PARTNERS:
In most of the firms, partners draw fixed amounts every month to meet their
normal expenses. The excess credit balance in their capital account is drawn
either towards the end of the year or at the beginning of the following year.
Though it is difficult to get back the money paid earlier to the partners as
such amount may be invested, committed or spent, the partners can agree to not
draw their normal drawings for a few months, or draw lower amounts for those
months so as to conserve the working capital of the firm. Such an arrangement
does not change the profit share of the partners but it does postpone the
outflow of funds from the firm. This arrangement can help the firm to partly
cover its working capital gap.
POSTPONING PART
SALARIES OF SENIOR STAFF: The partners of a firm
can also make arrangements with senior staff of the firm who are drawing
salaries above a certain threshold, to defer a part of the salary payments for
a certain period to overcome the working capital gap. The arrangement can be different
from employee to employee. They should take appropriate care of the minimum
monthly needs of the employees, including their respective loan instalments. In
the current times of lockdown and gradual unlocking, the actual expenditure of
many people has reduced because there are fewer avenues for meaningful
spending. People are also in the mood to save as the future remains uncertain.
Therefore, this type of arrangement may not be out of place. Further, in case
of specific needs of an employee, some flexibility or modifications in the
payment schedule can be made by the partners of the firm.
DEFERMENT OF BONUS
FOR THE YEAR: Many firms give an annual bonus at
the time of Diwali. It is possible that the financials of the firms at this
year’s Diwali may not be strong enough to pay out a large amount as annual
bonus. This difficulty can be overcome by partly or fully deferring the bonus
payment till the end of the financial year, by which time the finances of the
firms are likely to improve. Such a deferment can only give partial relief to
the firm by reducing its working capital gap at a crucial time.
RECEIVING FEES IN
ADVANCE FROM SOME CLIENTS: A firm can also request
a few large net worth clients or companies to pay their fees in advance, or
grant an advance against future billings. The long-standing clients of a firm
with good liquidity may be able and willing to oblige. However, such advances
should be avoided from audit clients – and the provisions of the Companies Act
and the Code of Ethics of the ICAI should be properly observed. While taking
such advances, GST repercussions may also be considered.
The Covid-19 pandemic has raised several
issues related not only to the physical and mental well-being of people, but
also related to the financial stability of individuals, businesses, companies
and even the government. The financial planning of many individuals and
families has suffered a serious setback and nobody has a clear answer as to
when things will improve. In the current situation, the Chartered Accountant
professionals are comparatively more protected as the major part of their
revenue is earned out of statutory compliances that have not been done away
with.
Medical professionals are working very hard
and they can expect their finances to remain steady as their services are in
high demand. However, other professionals providing legal, architectural,
engineering, designing services, etc. may have much more serious working
capital problems as compared to a firm of chartered accountants. Their mismatch
of working capital may not get resolved by the end of the current financial
year and it may take longer to get back on track. Such professionals and their
firms will need to secure long-term working capital arrangements from banks or
NBFCs to tide over their needs, unless the partners can make up the deficit in
the working capital by capital induction or otherwise.
Undoubtedly, Covid-19 has caused and is
going to cause even further disruption in our professional activities. It may
cause a turnover of the staff as many may prefer to work at places as near as
possible to their homes. Senior staff may be ready to take temporary reductions
in their take-home salaries. Clients are likely to feel the pinch in their
businesses and requests for reduction in fees are going to be very common. The
work volume may not be reduced at least during F.Y. 2020-21 as most of us will
be working on the transactions of the clients entered into in F.Y. 2019-20,
which were at normal levels. The request for lower fees may continue for one
more year as the turnover and activities of F.Y. 2020-21 are likely to be on
the lower side as compared to the previous year. So the pain is likely to last
for a couple of years for our profession. In the given circumstances, our
profession needs to rationalise and control costs and stand by our clients
gracefully, accepting reduction of fees in deserving cases. This will result in
a lower bottom line for the profession, but the gesture may go a long way with
the client.
The times are
unprecedented, tough and full of uncertainties. In such times, innovation,
caution and thrift will go a long way to take the professionals out of the
crisis, physically, mentally and financially, without much damage.
