Transition Advisors LLC

A view from 30,000 feet:

The trends and strategies shaping the

CPA Firm of the 21st century and why

merger-mania will continue

May 13, 2015

Bill Carlino

Transition Advisors, LLC

National consulting firm working exclusively with

accounting firms on issues related to ownership

transition

Today’s Agenda

The Profession by the Numbers

What’s In and What’s Out?

Business Development in the 21st century

How to Build Your Firm’s “Bench”

Succession Challenges – internal vs. external

The 4C’s critical to any merger and typical roadblocks

Ensuring client retention/brand loyal vs. partner loyal

Accounting Profession At-A-Glance

Revenue … $94.3B

No. Firms … 109,000 (est.)

Employment (public accounting

518,000

2014 – CPA firms hired 40,350 new

accounting graduates!

Top 100 Firms- Revenue/Growth

2014 U.S. Net Revenue … $58.23B

(+8.43%)

Big Six … $46.3B (+7.96%)

Firms over $100M … $8.34B (+10.94%)

Firms under $100M … $3.6B (+8.8%)

AccountingToday Top 100

Top 100 Firms

Deloitte $14.9B

PwC $ 11.7.5B

E&Y $ 9.9B

KPMG $ 6.9B

McGladrey $ 1.5B

GT $ 1.4B

Top 100 Fee Splits

Audit and Attest: $16.2B (37% of revenue)

Tax: $11.6B (27.83%)

Consulting: $16.9B (33%)

Other: $1.5B (2.17%)

Top 100 Leaders in Growth

Elliot Davis Decosimo 70.8%

Baker Tilly 57.80%

Montgomery Greilich 27.79%

Gallina 25.86%

Citrin Cooperman 22.38%

Bonadio Group 21.52%

Top Client Niche Services

Attest

M&A

State and Local Taxes

Industry Specialization

International Tax

Business Valuations

Litigation Support

Non-profits

Estate/Trust/Gift Tax

Forensics/Fraud

Top Client Categories

Manufacturing

Midsized businesses

Real Estate

Technology

Construction

Non-profit Organizations

Individuals

Professional Services

Large Businesses

Pension Plans

Income per Equity Partner

Firms over $10M in fees: $492,838

Firms under $10M in fees: $349,000

16.4 percent of all equity partners

were female

55 percent of firms have a non-equity

partner role Rosenberg MAP (survey of 382 firms from $2

million to $20 million in fees)

What’s In?

Value/Pricing/Billing

Career Management

M&A

The

Cloud/Technology

Virtual Firms

Alternative Partner

Tracks

Newsmakers

Affordable Care Act - large employers mandated to file the 1094-C and the corresponding 1095-C employee statement. The 1095-C must be provided to full-time employees Applicable large employers with 50 to 99 full-time employees and full-time equivalent employees may qualify for transition relief from employer shared responsibility penalty assessments until 2016.

Newsmakers

SSARS 21 - AICPA getting ready to roll out update of comp and review standards – clarifies and revises standards for those who perform reviews, compilations and engagements to prepare financial statements.

Taxing of online sales: The Marketplace Fairness Act passed the Senate in May 2013, which would have allowed states to collect sales tax on purchases made by state residents regardless of seller location. The bill died in the 2014 lame duck session of Congress, but was re-introduced in the Senate.

Newsmakers

Reorganized Audit Standards– The PCAOB approves a reorganization of its

auditing standards to make navigation easier –

specifically:

• General Auditing Standards

• Audit Procedures

• Audit Reporting

• Other matters associated in conjunction

with an audit

Subject to SEC approval will be implemented

by December 31, 2016.

CPA Mobility

Allows CPAs to practice across state lines

without notification

Movement endorsed by AICPA and NASBA

Currently 49 states + District of Columbia have

passed mobility laws and are in the

implementation and navigation phases

In progress: Hawaii, Guam, Virgin Islands,

Puerto Rico, Mariana Islands

Top CPA Technologies

Mobile devices/tablets

Cloud-based apps

Virtual servers

“Virtual” firms

Staff management & training

Top CPA Technology Initiatives

Secure IT environment

Data retention

Managing IT Risks and

Compliance

Ensuring Privacy

Systems Implementation

Computer Fraud

Analytics

IT Investments

Emerging Technologies

Managing Vendors/Providers

What mobile apps are CPAs using?

ADP Mobile Payroll

Bill.com Mobile

BNA Mobile

CCH Mobile

Mobile CS

Mobile Devices in the Workplace

Typical U.S. teenager

Sends/receives 3,500 texts/month

Makes/receives 700 calls/month (A.C. Nielsen)

CPAs

90% use a smartphone for business (intuit)

60% own a tablet (intuit)

40% spend 5+ hr./wk. out-of-office

Top CPA VARS

Columbus IT Partners

$162.1M

McGladrey: Dynamics GP,

AX, Intacct, Netsuite -

$131M

TriBridge IT - $118M

Crowe Horwath: Dynamics

GP-$70M

Armanino: Dynamics, Intacct

- $56.7M

More Tech Trends

Remember BYOB? Now it’s BYOD – Bring Your

Own Device. More companies allowing personal

smartphones and tablets to be connected to

corporate resources. (WSB).

“Big Data” management: being able to

analyze and interpret operational and

financial data for clients.

Creates a market for SOC – service

organization control on 3rd party cyber- risk

assessment.

E-mail Marketing on the Rise

In 2014 accounting firms sent over 25 million e-

mail newsletters and e-mail “radars” (e-blasts).

Average open rate – for CPA firms 23.3 percent.

One regional CPA firm had open rate of over 35

percent.

Drawbacks: More than 60 percent delete e-mail

marketing from their mobile devices if they

have trouble reading it.

Social Media and Accounting Blogs

400-Plus Accounting Blogs

More Firms Increase Use of Social Media,

Facebook, Twitter, LinkedIn

75% of Top 200 Firms have Facebook and

LinkedIn presence. No more corporate

“blocks”

Facebook now has 1.35 billion users

Social Media cont’d

If Facebook were a country, it would be

3rd largest … after China and India

3.5x the size of United States (roughly)

LinkedIn user base

300-plusM users

$90k median income

Pinterest

Fast-growing social media site – 70 million

users

70% users are women

Women w/annual incomes of $100k (estimated)

Tech Affiliations

Avalara – Kansas Society of CPAs

Agreement allows KSCPA members access to SUT

portal with educational aids and resources.

CCH Small Firm Services and eFileCabinet

teaming to offer PortalSafe – online portal

allowing for document storage and transmission.

Microsoft entering the ERP fray to establish a

BPO program for CPA firms to promote

Dynamics and NAV offerings.

Challenging Intacct and NetSuite

More Tech Affiliations

Pwc-Microsoft – formed strategic alliance whereby

PwC consultants provide advice and

implementation assistance to clients who opt for

MS Dynamics and other MS Technologies.

Enterprise-level pact allows PwC to build its

business transformation projects biz on MS

Dynamics EX ERP and Dynamics CRM as well as its

BI products.

MS and other vendors reportedly negotiating with

other national and super-regional firms.

Growing Niches: Wealth Management/Biz Valuations

Currently, 100k-+ CPAs perform some type of

financial planning for clients

Natural cross-sell

PlanteMoran $8.0B

McGladrey. $4.03B

Business Valuation – part of a $7 billion industry – 60

percent greater profit margin than traditional Type 1

work

Many clients are considering retiring and selling their

businesses – or expand their company.

Payroll Makes a Comeback

Pain or Profit Center?

Usually referred to a bureau – but technology is

changing that. Some firms growing payroll at

20-30 percent.

Increase in client demand

A convergence of benefits and payroll

Competition

Rise in cloud computing apps

Shift in regulatory arena re: ACA– small biz

reluctant to deal with tougher regs.

Accounting Employment

CPA Firms

Employed 518,000

Unemployment rate for senior accountants and finance people – 4.1 percent.

Accounting salaries projected to grow 3.5 percent in 2015. (Robert Half).

Accountants versed in technology – 5.7 percent.

Hottest commodity: CPA with 3-6 years in public accounting and a book of business. “The Holy Grail”

Accounting Employment

How will firms attract talent – and more important retain talent?

Sustainability- a big attraction to the Millennial. Triple bottom line – people, planet profit. Many firms wading into “green accounting” services.

Paperless office.

Enviro-friendly atmosphere – low-flow plumbing, no bottled water during meetings

Bike-to-work incentives

Community Projects

What’s Important to Retaining Talent?

Salary

Growth opportunities

Paid personal/vacation time

Open-door management

Challenging projects and work

Comfortable office atmosphere

Firm’s reputation/prestige

Flexible work schedule

Retirement savings plans/benefits

Frequent client contact

Top Accounting Schools

Brigham Young (Marriott)

Notre Dame (Mendoza)

UC Berkeley (Haas)

Cornell (Dyson)

Illinois – Urbana-Champaign

Tulsa (Collins)

U of Richmond (Robins)

Southern Methodist (Cox)

Wake Forest (Calloway)

Tulane (Freeman)

BusinessWeek

Starting Salaries

2014- Average starting salaries for accounting grads is $54,000 – vs. $49,700 in 2013.

Overall college graduates starting salaries were $44,928 – up 5.3 percent from prior year

2014 – CPA firms hired 40,350 new accounting graduates

CPA firms adding staff at an annualized rate of 2.3 percent.

National Association of College Employers

Top Non-Accounting Skills

2,100 CFOs and firm partners were surveyed on what they consider the most important non-accounting skills.

33 percent responded – general business knowledge

25 percent said – IT expertise

14 percent – communications skills

13 percent leadership abilities.

Job Satisfaction

Recent survey by CPACA (800 respondents, most were partners-shareholders in small-to-midsized firms)

Majority indicated they would continue in public accounting. However 22 percent were thinking of leaving before the end of the year. Why?

Reasons? Too much job pressure, not enough life outside the office.

Salary and benefits not commensurate with experience.

What’s Keeping CPAs Up At Night?

Firms facing fee pressure from existing clients

Need to expand beyond traditional services to stay competitive

Clients demanding more interaction and personal services from their CPA

Recent AICPA survey: 36% of business clients state they are considering switching firms

#1 reason is they feel their CPA does not provide enough attention. Unintended consequence of technology.

Leadership Development

Millennials not going to work 2,800 hours

toward partner track.

Assign senior partner as mentor and coach

Stress areas such as delegation and

supervisory skills.

Partner with firm associations and

networks for partner training programs.

Going to an outside training consultant.

.

Guidelines for Future Leaders

No formal written requirements –

subjective criteria (71%)

Documented requirements (29%).

Firm has non-equity partner track to

ensure good “fit” prior to ownership (27%)

Minimum “Book of Business” requirement

to partnership (13%)

A new business development requirement

to partnership (9%).

.

Firm of the Future

Value Pricing “we sell time” is becoming obsolete.

About 10-15 percent of CPA firms now use VP/VB

models. Kennedy & Coe; Corbett Duncan.

Specialization/new niches/boutique firms – no more

Costco firms.

Emphasis On Marketing and Biz Development

More IT Spending per FTE – Greater Mobile

Technologies. $10K per FTE to integrate systems

post-merger.

Firm of the Future cont’d

Virtual Firms (Deep Sky, BMRG, aBizinaBox, Azran

Financial) – about 10 percent of all start-up firms are

virtual.

Real-time management accounting (dashboards)

More remote workers – 1995 there were 9.5 million

remote workers – 13.5 million in 2012 and now some 30-

plus million people work remotely at once a week.

Alternate partner trax – part-time – partner “Emeritus”

“One firm one client” philosophy -

More niche specialists

Firm of the Future cont’d

Outsourced CFO

Serving as weekly or daily advisor to clients

Outsourcing financial and accounting

functions to hit $28B this year.

Greater use of continuous auditing – dashboards.

Virtualization of servers and desktops

Greater systems integration

Enabling info to mobile devices will be easier.

More Pressure on Growth and Client Retention

Firms facing fee pressure from existing clients

Need to expand beyond traditional services to

stay competitive (boutique offerings and other

“distinguishing” services)

Clients demanding more interaction and personal

service from their CPA. Especially partner-loyal

clients.

One-third of business clients state they are

considering switching firms.

#1 reason is they feel their CPA does not provide

enough attention.

Top Concern? Bringing in New Clients

AICPA polled nearly 600 firms in 5 size classes …

• Sole Practitioners

• 2–5 professionals

• 6–10 professionals

• 11-20 professionals

• 21+ professionals

Bringing in new clients ranked as the #1 concern in

3 of the 5 firm size classes and no lower than 3rd.

Evolution of Client Services

• CPAs moving away from “services-driven to

“strategy-driven” approach

• Driving their business where they want in lieu of

businesses taking them where they don’t want

to be – decision-making is becoming faster

• The role of CPA firm managing partner is slowly

morphing into more of a CEO role. The “Imperial

MP.”

Trends of the Future

Increasingly complex rules and standards

Continuing economic uncertainty

Ongoing adoption of new technologies

Increased competition (global)

Knowledge transfer

Specialization – “green

accounting/sustainability” and international

tax for mid-market.

Trends of the Future (cont’d)

Firms moving to “one-partner/one-firm” concept rather

than individual books of business.

Especially among “partner-loyal” firms vs. “brand-loyal”

practices

Helps the transition process – especially with retiring

partners.

Eliminates the “Lone Ranger” mentality and frees

partners for higher-level duties such as management and

leadership.

Trends of the Future (cont’d)

More firms developing stronger “bench” as

war for talent heats up.

More firms move away from traditional

“top-down structures – flatter

organizations.

Compensation systems tailored toward

“reward” and entrepreneurship.

Tax and audit (type 1 work) handled more

by para-professionals.

Trends of the Future (cont’d)

“Social Listening” – follow client’s tweets, blogs

and Facebook posts. You’ll learn about special

occasions, (birthdays, anniversary, promotions) as

well as what’s keeping them up at night.

Greater use of the “Partner Emeritus.”

More seeing retirement as optional. Firms finding

transitional roles for the gray hairs – biz

development, mentors or client consultants.

Current Profession Demographics

Over half of all CPA graduates are

women

25 percent of all CPA graduates are non-

white

13 percent of “high potentials” are non-

white

5 percent of partners are non-white

NextGen Consulting

Demographics of the Future (2030)

Over one-third of partners will be

women

50 percent of CPA staffs will be non-

white

45 percent of “high-potentials” will be

non-white

35 percent of partners will be non-white

NextGen Consulting

CPA Firm Challenges of the Future

Succession Planning

Career Development (Millennial)

Alternate partner tracks – income, contract,

part time. More non-partners encouraged to

remain on in other areas – marketing, biz

development.

Client communication

PART II

What’s Driving

Merger-Mania

and Why it Will

Continue

Three Ways To Grow

One Client at a Time: Organic Growth – but

economy and competition has made that harder.

Develop Marketable Niches

Merge or Acquire Another Firm

Merger-Mania

500+ recorded mergers over the past four years

(and hundreds more that went unreported)

In 2011 55 of Top 100 reported completing at

least one merger, 35 in 2012, 32 in 2013

KPMG – Rothstein Kass

Baker Tilly – SS&G

CohnReznick-Watkins Meegan

Elliott Davis – Joseph Decosimo

Merger-Mania

Multi-disciplinary M&A transactions

Ernst & Young: Acquired assets of Parthenon Group – a consulting

firm

PwC – Booz & Co.- a global advisory firm

KPMG – acquired BBK, a restructuring and advisory firm

Marcum- Horton International – executive search firm.

Friedman LLP – Executive Sounding Board. Turnaround firm

Reasons for M&A

Geography / New Markets

New niches/biz val/lit support

Competition – above and below

Lack of Formal Succession Plan

75% of AICPA 340,000 membership

eligible to retire by 2020

One person turns 65 every 8 seconds!

750 more 65th birthdays when we finish this afternoon.

Succession Planning

• 80 percent of multi-owner firms expect succession

planning to be the most important issues over the next

10 years!

• 61 percent of firm partners are over 50.

46 percent of multi-owner firms have a have a formal

succession plan in place!

Firms with less than 15 employees, 70 percent DO NOT

have a succession plan in place!

Less than 6 percent of sole pracs have a PCA.

AICPA 2012 PCPS

When Do You Begin The Process?

• How many more tax seasons do you want to

work full time?

• Do you have the talent on your bench?

Or do you have to go outside?

Holy Grail: a young CPA with a good book of

business!

Ideally, succession should begin 5-7 years out.

Succession issues abound

32 percent of small to midsized firms in

AICPA/PCPS survey will face succession

challenges over the next 6-10 years.

28 percent face succession issues over the

next 3-5 years.

22 percent say they have succession issues

right now!

That’s more than 80 percent of survey

respondents.

.

Issues Impacting Succession Strategy

Younger firm members not ready for

leadership posts (42%).

Firm does not have approved owner

agreement (28%).

No penalty for senior partners who

improperly transition clients (25%)

No mandatory retirement age (19%)

Retiring partners unwilling to transition

clients (16%).

.

Succession: Gearing Up – To Wind Down

When Should We Start?

You can never start too soon, but you can

easily start too late.

Again - How Many More Tax Seasons Do You

Want To Work – Full Time?

Evaluate Client “Face Time.”

For most, 3 years is 3 client visits.

.

Is Your Successor Ready?

Looking Internally or Externally?

Who’s on your bench? Staffing, excess

capacity.

If external succession, do you know why

the other firm wants to merge?

Evaluate current technology and lease

situations.

Financial strength of suitor

Remember, bigger is not always better.

Better is better!

.

Is Your Successor Ready?

Size of the successor/retention rates and

excess capacity

Billing rates/profession credentials.

Location(s)

Culture: Includes “brand” loyal vs.

“partner” loyal clients.

Changes: front door and back door.

.

Dangers of Succession Procrastination

Firms that wait too long to begin planning for succession usually wind up with two options – A hastily arranged merger with unfavorable terms…or… Turning out the lights and locking the doors Firms that are not proactive will surely create client and real estate opportunities for those practices that are!

.

The High Price of Waiting Too Long

A sole practitioner in the Northeast put off finding a

successor – in the interim several things happened: 1. A key employee resigned. 2. One of his large growing clients suddenly became

“at risk” because they needed services the sole practitioner didn’t offer.

His aging IT infrastructure needed a comprehensive and expensive upgrade.

Now, the owner is open to any offer that comes along instead of managing the process in an orderly fashion.

.

Annual Succession Checklist

1. Have any of the partners’ career or retirement

goals changed over the past year? 2. Do we have any partners who want to reduce

their time commitment over the next five years? Do we have any critical staff closing in on

retirement? And if so, do we have the capacity to replace them?

Have any new partners been admitted to, or left the firm?

Do any of the above require changes to our current succession plan?

.

Succession Checklist Part II

1. Addition or closing of a client service niche 2. Adding another location 3. Gain (or loss) of a large client 4. A significant change in revenues 5. A downturn (or upturn) in the economy or local market. 6. Sudden loss of partners or staff (resignation or death/disability.

.

How to Select Your Successor

Identify what they should look like

Start with the Big Four (C’s that is) A) Culture B) Chemistry C) Continuity D) Capacity

Specialties Technical skills Size

.

Structuring the Transition Through an External Sale

1. Straight sale 2. Buy in to a Buy-Out

•Buyer opts in an interest into the firm •Buyer may or may not bring clients into the

newly combined entity 3. Merger or Buy-Out 4. Carving or culling out clients 5. Two stage deals

•Sell equity but stay on • Less exposure for Seller than #2 and #3

The Two-Stage Deal

Stage One:

•Calculate the owner’s net •Calculate the labor the owner uses • to achieve the net •In multi partner firms, the focus • shifts from labor to chargeable hours •Focus on how long the owner intends to devote similar time, have a back date!

The Two-Stage Deal

Stage One: (external sale) • Successor takes on all costs of operations: Labor, rent, etc… •Seller paid on percentage of gross collections from original clients

The Two-Stage Deal

Advantages to seller in stage one

•PCA agreement on steroids •Mitigates loss of client fees •Free additional back up and support •Work less since administration and other items passed onto successor thus more time to transition, develop new clients and enjoy life. •Higher client retention = more $

The Two-Stage Deal

Stage One advantages to buyer Synergies

Labor Rent Software Malpractice insurance Better transition

The Two-Stage Deal

• Stage Two

– When does stage one end and stage two begin? – Retention period commences if applicable – How do we pay seller for a part time continuing role? – What about new business developed in

stage one or stage two? – Buyout terms: what is the multiple?

Other Thoughts

• General “chemistry” between the parties

• Continuity/Culture of relationships will help

retain clients

• Capacity to take over the roles being diminished

• A good deal is a fair deal

• Remember, it’s the package, not the individual

variables

Practice Information

Billing Information • Accounts Receivables

• Age analysis of Cash Flow

• Time and Billing vs Retainers

• Value Billing

• Billings in dollars (larger practices, lower

multiples)

• How do we pay the retired partner for

ongoing role?

• What about for new business?

Do Your Homework- Due Diligence

• History and background of the firm

• Client retention rates

• Billings vs. Collections, billing rates

• Compensation packages of all firm members

• Employee manual, employee contracts

• Furniture, equipment, assets and leases

• Pricing, billing and collections

• Profitability

Do Your Homework- Due Diligence

Clients

• Who does the work?

• Where is the work completed?

• How many clients require face time?

• Fees

• Industries served

• Services for clients

• Collections age analysis of A/R and cash flow (per

month)

Time – the biggest roadblock

1. TIME – kills all deals – the NO. 1 reason.

Adversarial Positions Is it your No. 1 priority? It should be. Messages you send when you are not timely Slows momentum The 13th time you read the agreement Unexpected competition.

Why Some Mergers Go South

1. Poor Deal Structure: At the 11th hour, we uncovered a buyout term situation where the cost of acquiring partners’ equity by the successor firm plus the cost of replacing them was greater than their comp – thus the successor firm would be in negative cash flow for many years during the buyout.

2. Business Plan Execution: Not getting complete partner buy-in with regard to cross-selling opportunities.

3. Differences in overhead and profitability: Larger firms tend to have a higher investment in IT, HR and more layers of QC and review – thus higher overhead and lower profit margins.

4. Equity: Firm A has three equity partners – 50, 45 and 5 percent, respectively, merging into a 10 partner firm. Firm B is not going

to give the 5 percent shareholder an equity stake in the firm.

Best Practices

Minimum of three years for seamless transition

– ideally 5-7 years.

How do you see your firm in three years? Five

years?

Factors: Client transition (how and when?)

Future leaders: types of training – in house or

outside?

How do I make my firm beautiful? – creating a

stronger and more valuable business.

Written action plans and specific metrics.

.

Key Takeaways

1. To effectively compete in today’s marketplace that is public accounting your firm must embrace the changes that are impacting the profession and instill them as part of their culture. 2. Firms that are not proactive with regard to succession and long-term growth will no doubt create takeover or real estate opportunities for those that are. 3. Know what’s involved in a merger – it’s the biggest career decision most people will ever make – make sure you know the pros and cons. Don’t do it because “everyone else is.”

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Transition Advisors LLC

QUESTIONS?

DISCUSSION?

wcarlino@transitionadvisors.com

(914)-273-4327 (office)

(914) 275-1336 (mobile)