Building a successful ADR business means getting comfortable with the nuts and bolts of the business parts of the job. That includes the financial aspects, too. "You mean I really need to understand the difference between a budget and cash flow?" Well, no, but it’s a really good idea!
But I’m getting ahead of myself…
At the outset, one of the most pressing financial questions you’ll want to answer on the road to building your ADR business is, “How much can I earn? Am I being realistic in thinking I make a living at this?”
Fortunately, that question is fairly straightforward to answer, and I’m going to give you the concrete steps to doing so. In fact, I’m going to give you TWO sets of concrete steps, and you can choose which one you like best.
Both methods use the following inputs. You’ll be able to play with these to see how various changes affect your work-life balance.
A. How much you want to take home yourself before taxes. (Remember to set aside some of this to pay those taxes! Check with your CPA to see just how much.)
B. How much income you want to keep inside your business each month, to build a cushion.
C. Average monthly expenses. Make sure to average in the annual expenses like professional liability insurance, bar dues, etc.
The total of A through C is how much you have to actually earn in gross fee income each month.
D. How many workdays there are in the year, accounting for weekends and federal holidays. You can use the “NETWORKDAYS” function in Excel to get this number, but did you know you can also just Google “how many work days this year”? There are 261 workdays in 2016.
E. How many additional days off you want to take. Have fun with this — give yourself 60 days off and see what it looks like!
D minus E is how many actual workdays you expect to have that year.
The two methods:
I said I'll show you two methods. In one method, you’ll set your hourly rate up front and then find out how many hours you need to work each day. In the other method, you’ll decide how much you want to work and then find out how much you need to charge per hour. (If you charge flat fees, you probably still have a sense of what that translates into in terms of an effective hourly rate, so use that.)
Decide your hourly rate and find out how many hours you have to bill each day. (This is the one I use for my own planning.)
Daily Billable Hours = (Gross Fee Income x 12) / Workdays / Hourly Rate
Decide how much you want to work each day and find out the hourly rate needed to support that.
Hourly Rate = (Gross Fee Income x 12) / Workdays / Daily Billable Hours
Billable Hours vs. Working Hours
There’s a caveat here, and it’s an important one. When you’re just starting out, you wear a lot of different hats — everything from answering the phone to doing the actual billable work.
That means you’ll spend a lot of time at work not earning fees. You could easily spend a couple hours each day on marketing (make sure it’s marketing you enjoy, though! More on that later!) and 1-2 hours on administrative “stuff.” Then there’s lunch, checking Facebook (because we’re being totally honest here), etc. I would encourage you to be conservative and estimate that until you have help in the office, you’ll spend a good 4-5 hours each day NOT billing. So don’t decide that you’re going to set your daily billing goal at 8 hours, because that’s going to set you up to miss your targets. When you have enough business coming in, you can hire someone to help out (or set up some fancy automations) and bring that number up!
Here's an example...
Let’s consider a hypothetical professional named Jane. Here are Jane’s numbers:
- She wants to pay herself $10,000 each month before taxes.
- She wants to hold back $2,000 per month to build a cushion over time.
- She has $1,500 per month in average expenses (including rent, office supplies, software licenses, web hosting, the monthly average of professional dues, etc.).
- Jane’s monthly gross fee income needs to be $10,000 + $2,000 + 1,500 = $13,500.
- She wants to plan for 4 weeks (20 days) of days off each year (in addition to federal holidays). In 2016, that means 261-20 = 241 total workdays.
Method 1 – Find Jane’s Billable Hours GOAL:
Using this method, Jane starts by setting her hourly rate. Suppose Jane wants to charge $195/hour. Here’s how many hours she needs to bill each day, on average:
($13,500 x 12) / 241 / $195 = about 3.4 hours per day
First off, notice that’s a very manageable hourly target. If you add in another 4 hours of non-billable work, that’s 7.4 hours at work per day — totally manageable!
Method 2 — Find Jane’s Hourly Rate:
Using this method, Jane starts by deciding how many hours she expects to bill each workday. In this example, Jane wants to bill 3 hours per workday. So here’s how much she needs to charge per hour:
($13,500 x 12) / 241 / 3 = $224 per hour
That’s a bit more than Jane would have used in method 1, but in many areas, it’s still a very reasonable hourly rate for a lawyer or mediator.
Maybe you’re looking at these numbers and thinking, “Fine, but how do I bring in that work?” That’s a marketing question and we’ll get into that more — a LOT more! — later.
Or maybe you’re looking at these numbers and thinking, “My expenses are higher than that,” or “I want to bring home more than that.” For you, I’ve put together a free PDF calculator where you can enter in your numbers and figure out either (1) how much you need to bill each workday or (2) what hourly rate you need to charge, to support the lifestyle you want.
Go ahead — download it and play around!