Notwithstanding the absence of bank debt, a large law firm can still collapse under a structure of extreme financial leverage. The message “We have no debt” is not the same as “We have no financial risk,” though that is how the message is normally received, and probably meant to be received.

The debt/equity entries on the right side of the balance sheet match up to the assets on the left side. Understanding how those simple elements interrelate leads to questions, and the answers can reveal significant insights to firm financial strength and stability.

(Reprinted with permission of The Daily Journal Corp (2012)