Poor financial management puts practice on shaky footing

Concerned about cash-flow and with no helpful advice from his existing accountants
without incurring a large fee bill, the practice manager at this large nine-partner
practice recommended the appointment of AISMA accountant Foxley Kingham.
On preparing the first year’s accounts Foxley Kingham came across many
anomalies from the previous year’s accounts. These had led to an overstatement of
the previous year’s profits and had resulted in partners overdrawing. The PCT were
also deducting excessive superannuation payments based on the overstated profits
from the previous year.
Chris Howe, partner at Foxley Kingham who oversaw the untangling of the
practice’s financial affairs, says: “On suggesting to the practice manager that the
poor state of the accounts and other financial issues indicated that proper internal
financial management had been lacking for the last year or two, he admitted that
this was the case as the partner who used to manage the finances had left some
time ago.”
Unfortunately, the ongoing partners had assumed all was in hand since drawings
continued to be paid. They had not, however, taken account of the worsening
cash-flow position, which meant that the practice could not now pay its bills.
There were superannuation shortfalls too but confusion over who should pay.
Should the partners pay individually or should the practice pay and make relevant
accounting adjustments against each partner?
“Not surprisingly, the partners were shaken when presented with the full extent of
their financial problems and several were considering leaving or retiring” says Chris
Howe. “If they did the recruitment of new partners could prove difficult.”
To compound matters, the partners’ capital accounts were in a mess. Several years
previously, the practice had diversified into another medical venture via a separate
company. This venture had failed, and the assets of the company were transferred
at a book value of £50,000 to the practice accounts. Chris Howe comments: “On
questioning the practice on how much these assets were really worth we were told
that they had been trying to sell them without success. Our conclusion, therefore,
was that they were worthless. However the practice accounts showed them valued
at £50,000 and hence each partner’s practice capital account was overstated”. Chris
explains that this would have meant that any retiring partners would have expected
bigger payouts than they were actually due.
Finally, having reviewed the balances on the partners’ capital accounts, Foxley
Kingham noted that one partner was some £25,000 below the others. The practice
had not equalised partners’ accounts for many years and hence nobody could
remember why this difference had arisen. Should the other partners have to give
some of their balances away to make up the difference, or did the individual partner
concerned have to pay in a large amount of extra capital?
To resolve the position Chris Howe and his team at Foxley Kingham:

  • Prepared an accurate set of accounts, showing a poor result due to adjustments for previous errors.
  • Prepared cash-flow forecasts.
  • Recommended that partners take standard drawings with no quarterly bonus until the practice understood its cash-flow position
  • Contacted the PCT and asked them to significantly reduce superannuation deductions
  • Advised the practice to pay any superannuation shortfalls on behalf of partners
  • Projected an estimate of future years’ profits indicating that earnings would return to a good level thus providing positive signals to potential new partners
  • Reviewed 8 years of previous accounts to ascertain why one partner’s capital account was so low, and recommended annual equalisations of capital.
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