What's Your Accounting Firm Worth?
Accountants all want to know, what’s their firm really worth? There’s no short answer to that question because every firm is different and the value of your practise will depend on a number of factors.
The good news is, if you are contemplating selling, it’s a vendor’s market. In Melbourne alone there are several hundred firms looking to acquire fees ranging from $100k to $5M in fees. Demand is at peak levels but supply is scarce as the baby boomer principals and partners ‘dig in’ and work well beyond the conventional retirement age. It is a very difficult market for these hundreds of frustrated buyers.
Before we launch into all the factors that influence the value of an accounting practise let’s calculate the actual level of fees you are selling. In essence, you are selling your ‘future maintainable fees’ from your client list. To arrive at this critical figure, let’s assume you invoiced $700k in the 2018 financial year and you now need to estimate your 2018/19 ‘future maintainable fees’. Last year’s fees are a great starting point but you need to subtract fees for:
- clients for whom you did work for in 2018 but have left the firm or died.
- clients whose circumstances have changed (i.e. they may have sold their business or retired so their fees will drop).
- disbursements like shelf company purchases or SMSF set ups because these are not recurring annual fees.
- one-off consulting assignments because they are not ‘maintainable’
- multi-year returns you completed last year and the maintainable fee is only one years fee.
Your $700k in fees might now be only $630k of future maintainable fees.
On the other side of the coin, you can add fees for:
- new clients who are on your lodgement programme and you can estimate their fees for next year.
- clients who are expanding – they may have bought a new business, set up another branch office or have a new SMSF in their structure.
- a small inflation factor added to last year’s fee base.
Your ‘future maintainable fees’ might now end up at $670k for 2018/19.
I’m specifically focused on valuations for smaller firms with fees of less than $1M and generally speaking, these firms are valued on a ‘cents in the dollar’ basis. For larger firms with fees in excess of the $1M mark, the valuation method could shift towards a multiple of EBIT (Earnings Before Interest and Tax) after allowing a notional salary for the Principal or Partners.
Let’s now explore some of the factors that add value to your firm as well as the issues that can have an adverse affect on prices.
- Fee Size
Let me say right up front, the size of the fees for sale will impact on the number of potential buyers. The sweet spot for most buyers is around the $500k mark and if you are a vendor in the south-eastern suburbs of Melbourne looking to sell around $500k of fees you would have a queue of buyers on your doorstep. If you were selling $1M in fees, the queue would be substantially shorter. At the $2M level you would only have a handful of buyers. The economics of supply and demand apply and a larger pool of buyers equates to higher prices.
- Breakdown of Fees
The split of fees between individuals, businesses and super funds also has a big bearing on price. Individual returns are not flavour of the month and if your firm was simply an ‘I Return Factory’ in the mould of H & R Block or an ITP franchise then the valuation would probably be about half of a more traditional accounting firm that predominantly services business clients with a sprinkling of individual returns. The demand for these I Return practices is very low.
Location also influences prices. The demand for fees is very strong on the eastern sea board of the country and particularly in the inner metropolitan areas. It falls away as you push towards the outer suburbs and there is simply not the same demand for accounting fees in regional towns. Again, economics 101 applies with the supply and demand equation. Having said that, nearly every accounting practice can be sold in this market.
- Client Base
Fundamentally, buyers are buying a list of clients on your lodgement programme. If you have an over reliance on two or three large clients then that poses a major risk for investors. Will these clients transition to the new owner? Will they see this change of ownership as an opportunity to change accountants?
If the buyer loses these clients in the handover the value of their investment diminishes overnight. The contract of sale will probably include a retention clause (e.g. 10% of price) to protect the buyer so if the fees don’t reach the ‘future maintainable fee’ level, you won’t receive the full retention amount 12 or 24 months after settlement. Buyers obviously want to minimise the risk so a price reduction or a higher retention amount could apply to this group of larger clients
The age of your client base is also a very important aspect of the valuation. Buyers will focus their due diligence on your top twenty fee paying clients and if a high percentage of them are aged over 55 then there will be concerns that the practice could evaporate in the next few years. Remember, they are buying future maintainable fees and clients moving into the twilight or pension years simply don’t attract the same value. You’ll also find ageing clients don’t refer new business like their 30 year old counterparts. They aren’t buying investment properties or starting businesses and these services have driven growth in smaller firms for decades.
If the majority of your top 30 clients are aged over 50 then you need to start planning your exit strategy now. Look at ways to rejuvenate your ageing client base and it might be time to start looking at digital marketing tactics that focus on attracting younger clients.
Selling your practice involves transitioning your client relationships AND your staff. It’s natural for staff to build great relationships with clients and your staff can be the glue that binds the sale together.
Buyers generally don’t want to ‘rock the boat’ in the early months after settlement and will want to retain productive staff or at least put them on a three month probation period. They also fear that staff might move on and take some clients with them so expect a grilling from a buyer about your staff before they make an offer to buy the business. They will focus on each employee’s loyalty and productivity. Top quality, high performing staff add value to the business.
If your fees are flatlining or in freefall, this will obviously impact buyer interest. Declining fees are a symptom and a warning sign of bigger issues. If the practice is leaking clients due to an ageing client base, poor service or below par work, the writing is on the wall and no one wants to go buy into a leaky boat. Most firms are buying fees to create growth and a leaky boat is not going to solve their own growth problem.
The declining practice is common and typically the vendor took their foot off the marketing pedal years ago. These firms are characterised by an outdated brand, electronic brochure style website and they are almost invisible on social media channels. In the digital and social age your marketing could be the difference between boom, doom and gloom.
Buyers are investors looking for a return on their investment and if your profitability is headed south then you have a problem. Technology and automation have decreased the value of many compliance based services, while the cost of running a firm continues to rise.
Buyers will benchmark your firm against theirs and others they are considering buying. If the numbers don’t stack up they will want a discounted price or walk away. For example, if you are only generating $100k per full time employee and they are doing $150k per full time employee then your fees could be too ‘cheap’ or the firm is unproductive. It makes sense, if a buyer is evaluating two practices with similar fees, the more profitable firm will win out in 99% of cases.
The keys to increasing profitability in your firm include:
- embrace technological advances in accounting as a way of saving time and money (i.e. create more efficiencies)
- provide value added and advisory services - premium priced services that deliver a higher return on your time
- Add on services that increase the fees and profit from each client (e.g. vehicle and equipment finance, audit insurance, mortgages, financial planning services.)
Technology has changed the accounting profession and as a bare minimum, buyers will expect your firm to be virtually paperless with all records kept electronically. Better still, they gravitate to firms who have moved their clients to the cloud.
If your offices are furnished with dual screens and modern hardware then you get a big tick because buyers don’t want to inherit archive boxes of files and dozens of filing cabinets. They waste space and archaic filing systems are inefficient. The storage requirements add to the cost of rent and drag down the firm’s profitability.
On the point of technology, software systems can also help get a sale over the line. If you use the same software (general ledger or SMSF) as the buyer this can create time savings when converting files. It won’t devalue your practice but it will make you more attractive to a buyer.
There are other factors at play when valuing an accounting practice but the important thing to
remember is, start preparing early. If you’re contemplating selling your accounting fees in the next few years, now is the time to
address all seven of the valuation factors described above. Of course, if you need any assistance please don’t hesitate to