sellers, how do you compare?
by marc rosenberg
the rosenberg practice management library
many years ago, i was overjoyed that the managing partner of one of chicago’s largest local firms (long since merged out of existence) called me in for a meeting. today, i would have asked what the guy wanted to discuss before shlepping to his office. but 20 years ago, i was just happy he called me.
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the managing partner proceeded to tell me that his firm was looking for smaller firms to merge in. i asked him what the parameters were for his search.
he said: (1) the firm’s revenue must be under $5 million (in today’s dollars), (2) the firm must have fees per partner of $1.5 million (this is back when typical local firms had fees per partner of about $500,000 to $750,000) and (3) the firm must have a strong niche or specialty, preferably one that matches the larger firm’s six specialties. i somewhat sarcastically replied, “and i’ll throw in a 4th parameter – they must want to merge with your firm.” (this was back in a time when there were few mergers; baby boomers were in their prime and had yet to age.) after which i summarized: “mr. mp, you’ve just eliminated 99 percent of all the local firms in chicago.” needless to say, i was unable to bring a firm to him.
small firms may not be aware of this, but for the most part, the cpa industry merger market has changed dramatically over the past five years. it has gone from a sellers’ to a buyers’ market. this means something that was fairly automatic and easy – finding a buyer – is now quite difficult. smaller firms that currently are or shortly will be seeking upward mergers need to understand what buyers want and what turns them off. armed with this information, they can embark upon a journey to make their firms more marketable. the changes that will be needed may take several years to fully implement, so they should start today. read on and take notes.
what buyers want
the features below should be considered buyers’ strong preferences; they are certainly not absolute requirements of all buyers. in other words, firms that don’t meet the features below shouldn’t automatically assume that no buyer will want them.
- talent, especially young talent. we all know that the cpa profession has been plagued with a severe labor shortage. acquiring staff via merger is much easier than recruiting them. we’ve had a few buyers decline interest in excellent small firms because they didn’t have the capacity at the partner and staff levels to absorb the revenue. the larger the buyer, the more likely that acquiring talent will be as important if not more so than adding revenue.
- a niche or specialized expertise, especially consulting. this is where the sizzle is with buyers. the growth potential for consulting and specialties is stronger than a&a and tax, so buyers are very interested in ancillary services. plus, the profitability of consulting and specialties is higher than compliance work. roughly a third of acquisitions by top 100 firms are consulting practices. larger firms are way more strategic in their management than smaller firms, which means they only want to merge in firms that fit their business model
- business clients vs. large standalone 1040 and write-up practices. buyers quite rightly feel there is more revenue growth potential with business clients than with 1040/write-up clients. buyers, with a more diverse service portfolio, are eager for opportunities to provide additional services to sellers’ clients who may have been underserved. also, business clients are more profitable than 1040/write-up practices. an exception to this preference for business clients is a practice that has a high volume of high-net-worth clients, which remains attractive to buyers.
- partners who have a team orientation toward client service. buyers like to see seller partners who delegate staff-level work to staff and create multiple contacts (touchpoints) with their clients. evidence of this is the partner billable hour metric of the seller: billable hours for seller partners of under 1,200 is good; 1,500+ usually is a bad sign. another bad omen is when partners manage their clients like control freaks who are overly attached to partners. this causes buyers to be skeptical of the ability to transition clients to successor personnel.
what tends to (but not always) turn buyers off
- sellers who want to work forever. partners at smaller firms often wish to work well past 65, perhaps into their early 70s. they love their work, covet the money and don’t know what they would do with themselves if they retired because they have no hobbies. this is often in conflict with sophisticated buyers who have mandatory retirement policies. these policies are designed to provide for an orderly succession of the firm and to ensure that younger personnel have opportunities to grow that will not be stifled by aging partners who won’t let go. so, if you are a seller who wants to work forever, you may have a tough time finding a buyer. caveat: many buyers will waive their mandatory retirement policy for a limited number of years in the case of mergers, especially if their required retirement age is less than 65.
a worst-case scenario i have seen many times is when a buyer merges in small firm partners (who thankfully are not equity partners in the buyer), who are almost always 65 or older and allows the acquired partners to continue their airtight control over clients, makes no effort to transition the clients to younger firm personnel and fails to address the question of when these people will retire. in many of these cases, the firm has completed paying for the practices or is close to doing so. the result: the buyer has paid a lot of money for assets they don’t control.
- sellers who seek unrealistic sales terms, especially maintaining their income levels. many small firm partners earn income that cannot be matched at larger firms. this occurs because larger firms make much larger investments in people, training, technology, marketing, facilities and other areas. smaller practices tend to spend much less on these costs, essentially sucking every dollar they can out of their firms. for these reasons, many buyers are unwilling to match the compensation sellers earned before the merger. another unrealistic term that some sellers demand is high down payments, which is a dealbreaker for most buyers.
- sellers whose clients are overly attached and tightly controlled by their partners. this is the antithesis of #4 in the earlier section, “what buyers want.” this is a red flag to buyers who will only acquire firms if they feel there is a high probability of retaining the seller’s clients.
- small practices that are mostly standalone 1040s and write-up firms. another antithesis. these practices are often less profitable and have less client revenue growth potential than firms whose clients are mostly businesses, therefore decidedly less attractive.
- firms with insufficient and/or marginal staff. once again, the cpa industry is plagued with a horrific shortage of labor. we can’t say it enough that buyers often can’t absorb a practice that doesn’t come along with competent personnel to do the work.
if you’re looking to sell your practice, what are you doing in these areas to be more attractive to a buyer?