What’s Your Accounting Firm Worth?
All accountants are interested in finding out how much their company is now worth. There is no simple response to that question due to the fact that every company is unique, and the worth of your practice will vary depending on a variety of various aspects.
If you are considering making a sale, the good news is that the current market favours sellers. There are several hundred businesses just in Melbourne alone who are aiming to obtain fees ranging from $150,000 to $5,000,000 in total.
The amount of demand is at an all-time high, but supply is limited as a result of the fact that baby boomer principals and partners continue to “dig in” and work well past the typical retirement age.
These hundreds of dissatisfied buyers are contending with a market that is incredibly difficult.
Let’s assess the real quantity of fees you are selling before we get into all the other aspects that influence the worth of an accounting practice. In essence, you are selling your ‘future maintainable fees’ from your client list.
To get at this crucial number, let’s say that you sent out bills totalling $700,00 in the fiscal year 2020 and that you now need to make an estimate of your “future maintenance fees” for the fiscal year 2020-21. The fees from the previous year make a good place of departure, but you also need to deduct any payments made for the following:
- Clients for whom you conducted business in 2020 but who are no longer associated with the firm because they have moved on, retired or passed away.
- Clients whose situations have become more complicated (i.e. they may have sold their business so their fees will drop).
- Expenditures such as the purchase of shelf companies or the establishment of SMSFs because there are no recurrent annual costs associated with these activities.
- Individual consultancy projects since they are not “maintainable” in the long run (JobKeeper advice)
- The multi-year tax returns that you finished filing the previous year and the maintained fee are simply the fee for one year.
It’s possible that your $700,00 in fees will only translate into $630,000 in future sustainable costs.
On the other side, you can add additional costs for the following items:
- New customers who are participating in your lodgement programme, for whom you are able to provide an estimate of the costs that they will pay the next year
- Customers who are growing may have recently purchased an additional company, established a new branch office, or established a new self-managed super fund (SMSF) in their organisational structure.
- The fee base from the previous year had a minor inflation element applied to it.
It is possible that your ‘future maintenance fees’ will wind up being $670,000 for the 2020/21 fiscal year.
My primary area of concentration is on the valuations of smaller enterprises that have annual fees of one million dollars or less, and in general, these types of businesses are evaluated based on a “cents in the dollar” approach. After taking into account a notional wage for the company’s principals or partners, the valuation approach might be changed such that it is based on a multiple of EBIT (earnings before interest and tax), in the case of larger companies with fees that are greater than one million dollars.
Now, let’s take a look at a few of the elements that contribute to the overall value of an accounting firm.
Permit me to state right off the bat that the sum of the fees for sale will have some bearing on the total number of prospective purchasers. If you are a vendor in the south-eastern suburbs of Melbourne trying to sell roughly $500k of fees, you would have a queue of purchasers on your doorstep. This is because the sweet spot for most buyers is around the $500k level.
If you were selling $1,000,000 in fees, there would be a significant reduction in the length of the queue. At the $2 million price point, there would be a small pool of potential purchasers.
The laws of supply and demand dictate that prices will increase if there is a greater number of potential purchasers. This typically results in suburban businesses commanding greater costs than those found in regional regions.
Breakdown of Fees
The proportion of total costs paid by individuals, corporations, and pension funds also has a significant impact on overall costs. Individual returns are not the flavour of the month (or the decade), and if your firm was simply a “I Return Factory” in the mould of an H&R Block branch or an ITP franchise, then the valuation would probably be about half of what it would be for a more traditional accounting firm that primarily serves business clients with a sprinkling of individual returns. Individual returns are not the flavour of the month (or the decade).
There is a relatively little level of consumer interest in these return practices.
The prices are also affected by location. Demand for fees is strong in the eastern states, notably in the inner urban districts of the larger cities. It becomes less prevalent as one moves further away from the central suburbs, and regional towns just do not have the same level of demand for accounting services.
When it comes to the supply and demand relationship, Economics 101 comes into play once more. Having said that, almost any type of accounting practice is likely to find a buyer in this market.
In essence, buyers are purchasing a list of customers who are participating in your lodgement service.
If you require help with your bookkeeping, you can give us a call on (03) 8568 3606 or email us on [email protected].
Having a disproportionate amount of your business come from only two or three very large customers is a significant threat to investors. Will this new owner continue to serve these existing customers? Will they take advantage of this opportunity to switch accountants given the recent change in ownership?
The value of the buyer’s investment will drop dramatically overnight if they are unable to retain these customers after the handover.
If the fees don’t reach the level of ‘future maintainable fee,’ you won’t receive the full retention amount 12 or 24 months after the settlement because the contract of sale will probably include a retention clause (such as 10 per cent of the price) to protect the buyer. In this case, you won’t receive the full retention amount.
Buyers certainly desire to reduce the risk, which is why a price cut or a higher retention amount could be applicable to this category of larger customers.
The age of your customer base is another extremely important factor that goes into the valuation of your company.
Buyers will focus their due diligence on your top twenty or thirty fee-paying clients, and if a large number of those clients are above the age of 55, then there will be concerns that the business could disappear over the next few years.
Keep in mind that they are purchasing future maintainable fees, and customers who are entering their twilight or retirement years simply do not draw the same value.
You’ll also notice that clients in their later years do not refer new company clients like their colleagues in their 30s do.
They aren’t founding businesses or purchasing investment properties, and these services have been the driving force behind the expansion of smaller companies for decades.
If the majority of your top 30 customers are above the age of 50, you should begin formulating an exit strategy as soon as possible. Consider ways to revitalise your ageing customer base, and it may be time to start looking at digital marketing strategies that are geared towards recruiting younger customers.
Transitioning not only your client connections but also your personnel is required when selling your firm. It is only natural for the team to develop wonderful relationships with the customers, and your personnel has the potential to act as the glue that holds the transaction together.
In general, purchasers don’t want to “rock the boat” in the first few months after the settlement. Instead, they want to keep their productive staff members or place them on a three-month probationary period.
They are also concerned that employees may leave the company and take clients with them, so be prepared for a buyer to question you extensively about your employees before making an offer to purchase your company.
They will focus on each employee’s loyalty and productivity. The company benefits from having staff members of high quality and performance.
This will have an impact on buyer interest, particularly if your fees are levelling off or falling precipitously. Fee reductions are both a symptom and an early warning indication of more systemic problems.
The writing is on the wall if the practice is losing customers because of an ageing customer base, bad service, or below-average work, and nobody wants to get on board a boat that’s leaking water.
The majority of buyers are looking to expand their business, and an inadequate solution is not going to help them.
The practice of declining is widespread, and in most cases, the vendor removed their foot from the marketing pedal many years ago.
These companies are easily identifiable by their antiquated brand names, websites that function solely as “electronic brochures,” and virtually nonexistent presence on social media platforms. In this day and age, when everything is digital and social, the success or failure of your marketing could make all the difference.
Buyers are typically investors who are looking for a return on their investment; therefore, if the profitability of your business is declining, you have a problem on your hands.
While the value of many compliance-based services has declined as a result of technological advancements and automation, the cost of operating a business has continued to climb.
Buyers will compare your company’s performance to that of their own and that of other companies they are considering purchasing.
If the figures don’t add up, they will ask for a price reduction or they will withdraw their interest.
For instance, if the firm only generates $100,000 per full-time employee but is doing $150,000 per full-time employee, this could indicate that the firm’s fees are too “cheap” or that the firm is not productive.
It stands to reason that if a buyer is comparing two practices that charge comparable fees, the buyer will choose to acquire the more profitable business in 99 out of 100 instances.
Some of the following are the keys to increasing profitability in your company:
- Embrace the technological breakthroughs that have been made in accounting as a method to save both time and money (i.e. create more efficiencies)
- Provide value-added and advisory services, which are services with premium pricing that deliver a larger return on your time investment.
- Include additional services, such as vehicle and equipment financing, audit insurance, mortgages, and financial planning services, in order to maximise the fees and profits generated from each client.
Because of how much technology has altered the accounting profession, buyers will at the very least anticipate that your company will be virtually paperless and that all of its documents will be kept online.
Even better, customers are drawn to businesses that have already shifted their client bookkeeping operations onto the cloud.
Purchasers don’t want to inherit archive boxes of files and hundreds of filing cabinets, therefore if your offices are furnished with twin screens and current hardware, then you earn a large tick because buyers don’t want to inherit those things.
They are a waste of space, and the file systems they use are antiquated and inefficient. The need for storage contributes to an increase in the monthly rent, which has a negative impact on the company’s profitability.
With regard to the topic of technology, it is also possible for software systems to assist in closing a deal. When migrating client files, you may see a reduction in the amount of time needed to complete the process if you and the buyer utilise the same software (general ledger or SMSF). Your practice’s worth won’t go down as a result, but you’ll become more appealing to potential buyers.
Websites are increasingly being recognised as valuable digital assets that can contribute to increasing the value of an accounting business. If the website of your company is nothing more than an electronic brochure that describes the who, what, and where of the company, then it does not provide any genuine value.
These websites are nothing more than billboards in the middle of nowhere, and they do nothing to bring in new customers.
On the other side, websites that reliably produce leads and new business even when they are not actively being visited are extremely valuable.
When it comes to determining the value of an accounting practise, there are a number of additional aspects that come into play; nevertheless, the most important thing to keep in mind is to begin preparing as soon as possible. Now is the time to address all eight of the valuation variables that were discussed earlier in the article if you are thinking about selling your accounting business in the next few years.
7 Reasons Why Buyers Won’t Buy Your Practice
The Deal Breakers
We all learned about supply and demand in Economics 101 in college, and we all know that supply and demand affect pricing. However, when selling your accounting practice, other price variables are taken into consideration; in some instances, these factors are referred to as “deal breakers” by prospective buyers.
At the moment, there is a record level of demand for accounting practices and fees. In Victoria, we have more than 250 registered purchasers, so once an approach is put up for sale, there is a mad rush to purchase it. The refusal of baby boomers to put their homes up for sale is stifling the free market.
In some cases, they are selling within the company or going “off-market” and conducting business with friends or coworkers whom they have known for a number of years through their discussion group, their time spent in university, or with whom they have previously worked at another accounting firm.
The imbalance between supply and demand is keeping prices stable, but I’ve noticed that even purchasers with a strong appetite are hesitating to make purchases at some companies. I have outlined some of the reasons why sellers cannot afford to get complacent below, and this serves as a warning for baby boomers who are looking to sell within the next few years.
This is especially true when there is a gradual rise in the available supply.
What, then, are some of the aspects of a practice that turn off potential buyers?
Age of the Client Base
Their customer base is getting older as baby boomers live longer than expected. Buyers typically concentrate their attention on the top 20 or 30 fee-paying clients of the business. If all of these clients are aged 55 or older, buyers worry that as much as 40 per cent of the practice will disappear within a few years.
This worry becomes much more pressing in the event that the top three customers account for a sizeable portion of overall fees. In addition to the fact that age is not a factor, the fact that the buyer is dependent on these top customers makes the risk even greater for them, which means they may wish to negotiate a lower price, a higher retention amount, or an extension of the retention period.
If your costs are staying the same or going down, that should set off alarm bells for potential buyers.
Who in their right mind would pay top cash for a practice that is declining and losing customers? These businesses frequently serve an ageing clientele (as was discussed above), and the principal of the company is frequently a baby boomer who, in their later years, has developed a certain degree of apathy.
The practice has been operating in cruise mode for many years, and it is frequently characterised by the absence of any marketing, website, or financial planning services. In many instances, the term “compliance sweatshop” is the aptest way to refer to what they do.
You might think that I’m being cruel by using these terms, but in the next few years, buyers will gravitate away from these firms. This is because the target market for most buyers is clients in the Gen X and Gen Y demographics, but these firms have very few clients in those demographics. Consequently, buyers will steer clear of these firms.
Since outsourcing is becoming increasingly popular, bookkeeping is rapidly evolving into a commodity; hence, these customers are not interested in paying premium prices for bookkeeping services. They want to utilise and trust systems that are hosted on the cloud, and they want an accountant who does more than just keep the score.
Let’s face it: purchasers are looking for some kind of return on their investment. If your fees are staying the same or going down while other expenses like as rent, employees, and software subscriptions are going up, then your profits are going to go down.
The majority of sole proprietors report annual revenue of between $400,000 and $500,000 from their practices. If a potential purchaser is deciding between two fee pieces that are otherwise identical, but one of the parcels has a nett profit of $225,000 and the other has a nett profit of $130,000, the choice is a “no brainer.”
Staffing levels are currently at an all-time low, which means that this factor is more important than ever before. When you have staff who bring in three times their annual income in additional fees, then you have a magnet on your hands. A buyer will interrogate a vendor about their personnel, want to know everything about the vendor’s products, and want to know whether or not the seller will continue working with them.
Sometimes the team is the glue that ties the sale and the customers together, but obviously, a 63-year-old worker is not as tempting as a “young gun” who is 28 years old.
Are you utilising the newest software and technology available, as well as going paperless and making use of dual screens? If a buyer needs to deal with paper, this almost definitely indicates that they will inherit boxes of files and filing cabinets, which can lead to storage difficulties as well as additional expenses for scanning records.
My son, who is now a teenager, may say something to the effect of “Get with the programme, dad.” Do not put things off and believe that the buyer will have to deal with technology issues when I sell my business in a few years. Instead, do not put things off and believe that the buyer will have to deal with technological issues. This complacency leads to some of the problems I outlined before, including a decrease in profitability, and it leads to these problems quickly.
Even while there will surely be costs associated with the purchase of new technology, doing so can be viewed as an investment in the long-term value of the organisation. The primary objective of technological progress is to boost productivity and efficiency, which, in turn, leads to a rise in profit margins.
Some of the proprietors of the practices that were mentioned earlier in this article anticipate that they will be able to sell their businesses for higher than average prices. Prices will keep steady so long as the supply and demand relationship is out of whack, but this situation won’t endure forever.
The majority of suburban businesses with gross payments of less than $800,000 sell between 80 cents and a dollar for every dollar in payments received. On the other hand, solitary I returns are not worth that much, and you should anticipate a big markdown if I returns make up more than 30 per cent of your practice.
You are also selling future sustainable fees from your client list.
As a result, you need to take a look at the gross costs from the previous year, take out any disbursements and charges for company incorporations, SMSF and trust set-up fees, fees charged for multi-year returns, and take out fees for clients who have moved on to another accountant, sold their business, or had one-time consulting engagements.
Keep in mind that you are selling the maintenance expenses for one year derived from a customer list.
Also, you should not believe that the used furniture you have is worth anything. There is a possibility that it could be valuable to a start-up or an internal successor; however, the majority of buyers have established businesses that are incorporating your fees into their practice, and these buyers do not want the 18-month-old server that you believe is worth $20,000 in the market.
They simply want the data handed over to their system, and e-Bay claims that the market for used furniture is worth very little money.
A vendor who only wants to take a “few” clients home or a parcel of self-managed super funds will be met with reluctance by potential buyers. In other words, they are planning to retire but will continue to be involved in the tax game in some capacity.
This is not the way to go about things since it gives off the wrong impression, and you can’t have your cake and eat it too. Reconsider your decision to take on a few family members as clients on the basis that they have never paid any fees. Handing them on as a sign of goodwill and adding a notional value to the future sustainable costs of the practise is one way to ensure that you receive some form of reimbursement for the many years during which you performed their work at “mates’ rates.”
It is common knowledge that accountants have a greater propensity for making “comebacks” than John Farnham, and buyers are growing more adamant that they receive a copy of your tax agent licence.