Hal Pomeranz, Deer Run Associates

Money matters seem to be uppermost in people’s minds when they ask me about consulting. Mostly they want to talk about how quickly and how high they can crank up their billing rate.  But before we even get to that information I need to teach you one very basic, yet very important thing you need to know about managing your cash-flow as a consultant.

Part of the contract you agree on with your client will spell out the terms under which you invoice and get paid.  For example, “bi-weekly, net 30” would mean that you invoice every two weeks (“bi-weekly”) and the client has 30 days from receipt of your invoice to cut the check (“net 30”).  Sounds fine to you, especially because you’re mentally calculating all of the cash that your amazing hourly rate will bring in, so you sign on the dotted line.

30 days later you’re behind on rent and starving.  And you won’t get paid for at least two more weeks. What just happened?  You made one of the classic consulting blunders that all newbies make.  You forgot to anticipate the lag-time between the start of the contract and your first income.

Let’s project our “bi-weekly, net 30” example to its inevitable conclusion. Say the start of your contract is “Day 1”.  You don’t even get to submit your first invoice until the end of Day 12– and it really hits the Accounts Payable department at your client on Day 15 at the earliest.  From there, they have 30 days before they actually have to cut you the check.  So you’re a minimum of 45 days out before you get your first payment.

And even if the client is on time cutting that first check, there are inevitable delays.  It will likely be mailed to you, so figure in 3-5 days for the USPS to jack around with it.  Then when you present it at your bank, they may put a hold on the funds for up to a week.  Now you’re looking at maybe 8 full weeks before you can actually start spending that money.

And let me tell you from personal experience, the first check is never on time.  What happens in the real world is that your invoice goes through the Accounts Payable system, and gets approvals from the people in the company who you’re doing the work for to authorize the funds.  But then when Accounts Payable gets around to actually triggering the payment they realize that (a) you’re a new vendor and you have to jump through a whole bunch of paperwork hoops for their system to pay you, or (b) they mistake you for another vendor and send your check to the other guy (true story, it actually happened to me), or (c) some other arcane craziness in their processing ensues.  Suddenly that 45 day goal for getting your first check cut seems like wishful thinking.

How are you going to live for the 45-60+ days it may take before you can spend that first check?  Remember what I said in Part 1 of this series about having six months worth of expenses in the bank?  Well this cash-flow issue when starting new contracts is one of the reasons why that six month “float” is so vital.  You may have to dip into those savings while you’re waiting for the money to start rolling in.  And by the way, when the money does start rolling in, you want to “pay back” those savings as quickly as possible so they’ll be intact for future emergencies.

Now the good news is that once the first check gets kicked out of the system, clients are usually good about paying other invoices on time.  And when the contract is over, you’re still going to have 30 days worth of outstanding invoices that will be catching up with you.  So if you can arrange for your next contract to start right after the one you just finished, then the outstanding invoices from your previous assignment will carry you over the inevitable payment start-up problems with your next client.  It’s gaps between contracts that are a problem.

So hint #1 for managing your cash-flow is to starting looking for your next contract before the current one ends.  This is a delicate balancing act.  First, it might not be clear exactly when your current contract is going to end.  Second, your next client isn’t going to wait forever, so you can’t start looking around too early.  I find that 30 days before the end of my current gig is the earliest reasonable date that I can start talking to people about my next engagement.

Hint #2 is to carefully manage your payment terms.  Even if the client wants you to bill bi-weekly, see if they’ll let you submit your first invoice after a week– “just to flush out any issues with Accounts Payable,” you say.  Also see if they’ll agree to shorter payment terms.  At this point, I’m insisting on “net 15” with most clients (they’ll still be late on the first check, but at least you find the problems quicker).  If it’s a fixed-price contract, I insist on a chunk of the money up front before I begin work.

Hint #3 is to be pro-active.  If possible, hand-deliver your first invoice to Accounts Payable.  Be friendly.  Introduce yourself as a new vendor and ask if there’s any special paperwork they need to enter you into their system.  A week before your first check is due to be cut, send them a note asking if there’s anything further they need in order to process the payment, referencing your company name, invoice number, and the responsible management in the company you’re working for.  And if they actually pay you on time, send them a nice thank you note (I’ve even sent flowers).

Hint #4 is to not be afraid to be the bad cop.  In addition to payment terms, have your contract spell out penalties for late payment.  I normally charge credit card level interest on late payments– around 1.5% per month, compounded.  And if your client is more than a month delinquent on their first payment (remember this means you’ll have been working there for two months without getting paid), tell them you’re going to stop work until they pay you the outstanding invoices.  This will usually light a fire under the management of the team you’re working for and get any Accounts Payable logjams broken up.

Normally you have to live through some huge payment SNAFUs like I have in order to be hard-hearted about getting paid on time.  But you’re doing your best work for your client, and you deserve to be paid according to the agreed upon terms.  If you follow my advice here, hopefully any issues you have will be taken care of quickly.  And they won’t impact your quality of life, because you’ll have enough float to carry you over the rough spots.

Meditate on this advice.  In the next installment we’ll talk about how to figure out your billing rate.

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Hal Pomeranz, Deer Run Associates

Introduction

January 2012 will mark the 15th anniversary of the founding of the consulting business I run with my wife.  Lately I’ve had a number of people asking me questions about consulting– how to get started, how it works, pitfalls, etc.  I’m more than happy to answer these sorts of questions because I’m still “paying it forward” for all of the great advice I received when I was just starting out.

However, in an effort to reach a larger audience and to not have to repeat myself as much, I’ve decided to devote some blog space to the basic advice that I cover in my usual consulting talks.  This is a huge topic area, and I’m expecting to write several posts to cover just the foundational stuff.  I’ll crank them out as time allows.  If there’s anything you’re particularly curious about, be sure to leave a comment and I’ll try to address questions as the series rolls along.

In this first installment, I wanted to talk about some of the basic pro/con arguments you hear about being a consultant, and give you the view from where I sit.  Let’s call this installment…

The Case for Consulting

Pro: Consultants Make a Lot of Money

This is definitely one of the first items that piques people’s interest in becoming a consultant.  You hear about consultants making hundreds of dollars per hour, divide your annual salary by 2000 hrs/yr, and start thinking the grass is greener on the consulting side of the fence.

Yes, top consultants bill at hundreds of dollars per hour.  But guess what?  We don’t get to bill 2000 hours per year.  There are all sorts of unbillable “overhead” tasks that take away from our billable time:

  • Marketing, finding new clients
  • Invoicing, collections, time and expense reporting
  • Taxes and other official paperwork
  • Arranging insurance and other benefits
  • Continuing education, training

The list goes on, but the point is that when you become a consultant you’re really working two jobs: the work you’re doing for your client that you get paid for, and the work you do to keep your own business running which you do as “overhead”.

Also, there are costs that you pay when you’re on your own that you never see as a full-time employee (FTE, for short).  Normally your employer covers a portion of your healthcare and other benefits and sometimes contributes to a retirement account on your behalf, as well as paying the employer’s share of taxes.  If you talk to your employer, you’ll find that they typically figure these costs as being 50-100% of the employees’ base salary (you’ll hear this referred to as an employee’s “loaded salary”).  So you have to factor in these costs when trying to figure the net take home pay as a consultant.

The compensation discussion is a huge topic in itself, and will be covered in detail in a later post in this series.  Yes, if you have financial discipline and a clear understanding of your costs, you can make a lot of money as a consultant.  But be wary of straight “apples to apples” comparisons between full-time employees and consultants, because things are never that simple.

Con: Consulting is “Risky”

People ask me all the time if I’m worried about where my next job is coming from.  In fifteen years, I’ve lived through two major downturns.  Yes, there have been times when consulting work has been scarce.  This is another reason that consultants bill at such high hourly rates– we’re factoring the inevitable cost of being out of work.  Sometimes this is just a brief period while were transitioning from one contract to the next, and sometimes there’s a protracted drought.

The difference between a successful consultant and somebody who’s going hungry is an understanding that downturns happen and preparing for them.  The best advice I ever got when I was first starting out what to make sure I had six months of expenses (rent/mortgage, utilities, car/insurance payments, food, medical, etc) in the bank before I started my consulting business.  I’m going to come back to this point over and over because it’s important in lots of ways, but at its most basic your “six months in the bank” is shelter against bad times.

What fascinates me, however, is the belief that a lot of people seem to have that as a FTE they somehow have more job security than your average consultant.  In practice, I believe these people couldn’t be more wrong.  At least here in the United States, most people are “at will” employees and they can be let go at any time at the complete discretion of their employers and with little or no notice.  So really we’re all what the HR types like to refer to as “contingent employees”.  Why shouldn’t you be compensated like one?

I know that many people can understand this argument intellectually and still have a hard time with the notion of going out their own.  Sometimes our gut overrules our brain and makes the consulting lifestyle untenable.  But even if you don’t end up as a consultant, I recommend you think about putting some money away for the rainy day when you might be out of work.

Pro: Consultants Have “Freedom”

I usually hear this one from folks who are unhappy with their current job duties and are envious of my ability to “pick and choose” the work that I take on.  During good economic times, I do have a certain amount of leeway on the jobs I decide to take on and can optimize for more interesting assignments.  But during the bad times, you take whatever you can get.

Also, having taken on an assignment, you have to see it through to the end.  As an independent consultant, I have a limited of “bandwidth” and can typically only support one or two major clients at a time.  If a really interesting project comes along when I’m busy with other work, I have to let it go by or risk alienating my current clients.  In this business your reputation is the key to your success.  Doing a bad or incomplete job because you let yourself be distracted by the new, shiny contract is a sure path to the end of your consulting career.

Another consulting freedom that I hear FTEs envy is the ability for consultants to take time off “whenever they feel like it”.  Sure, if a client is not expecting me on-site and I don’t have any pressing deadlines, I can take time off whenever I feel like it.  It’s definitely a benefit of my lifestyle.

But you have to understand that I don’t get paid during this time.  Vacation, medical leave, and all other periods of “downtime” that are necessary to ensure your health/sanity and prevent burn-out are all part of that unbillable “overhead” I talked about earlier.  So a better way to talk about this freedom is to say consultants can take time off whenever they can afford to.

One more consulting freedom I wanted to mention is the freedom from a certain amount of organizational politics.  Normally, by the time an organization has made the choice to hire a high-priced expert, they’ve already realized that they have a significant problem and have “cleared the decks” of the typical political impediments to making the problem go away.  This is a wonderful thing.

In Summation

I love the consulting lifestyle, but recognize that it’s not for everybody.  There is substantial risk and you spend a lot of time working on mundane aspects of running your business.  But you can earn good money and enjoy substantial freedoms unavailable to FTEs.  I hope you’ll join me for future articles in this series when I drill down on specific details like figuring your billing rate and managing your cash flow, finding and managing clients, and classic blunders that all new consultants commit.