Most of the firms we work with on succession planning start off with a strong preference to remain independent, and not sell or merge in order to address the need to payoff and replace retiring owners. The common reasons we are given for this inclination are-
- Control-Most owners of small to mid-sized CPA firms like to control their work environment. They perceive a merger or a sale as giving up control to the successor firm. Some have told us “I have no desire to be the buyer’s clock punching employee.”
- Risk-Because the value of most external transactions is based on retention of clients post-closing, and many internal buyouts are fixed at the date of retirement, partners often feel more comfortable knowing what will transpire in an internal transaction.
- Legacy-When you sell or merge your firm it loses its identity to the successor firm. This outcome is given too much weight by many sellers. However, it is irrefutable that the legacy of your old firm is usually lost.
It is clear that in order to execute a plan to remain independent through the retirements of senior partners, a new generation of owners from your firm’s emerging leaders has to be developed to carry on. What is their perspective on this challenge facing their firm?
We have found that the next generation is usually highly motivated to be the firm’s succession bench. However, what surprises many senior partners is the next generation is often not willing to just assume whatever is proposed to them is acceptable without further evaluation. With today’s shortage of talent at a crisis level in some firms, senior partners sometimes fail to consider that emerging leaders have alternatives. It is important to make the shift in mindset from an employer/employee relationship to a partner to partner relationship in order to make sure the opportunity the firm is proposing is compelling. Senior partners sometimes see emerging leaders as “looking a gift horse in the mouth”. Emerging leaders’ objectives for their investment in the firm are no different than any buyer’s would be. The deal has to have upside almost from the outset. Further, uncertainty and vagueness within the underlying business plan causes the opportunity to be less desirable. We are seeing an increase in emerging leaders negotiating for better terms for their admission and in worst case scenarios rejecting the offer.
There are three things we often see get in the way of successfully attracting partner candidates to sign on as new owners:
- No commitment from senior partners of when they will retire or at least transition into buyout mode. This is usually the case in firms that don’t have a mandatory retirement age in their owner agreement.
- A financial arrangement that gives the impression the new partner’s compensation will be virtually flat or worse for the foreseeable future, net of the cost to buy-in.
- A lack of information about the firm’s performance and direction.
What should you do to make sure your firm is ready to successfully pass the torch to the next generation of leaders?
- Assess the status of your current owner group. Poll your partners and determine two things:
- How many will be retiring in the next ten years and specifically what is the target date for each?
- How will you replace each? Do you need to replace them with a new partner or is there already enough capacity in your existing owner group?
- Take an inventory of your succession bench. Will the people on your bench be ready in time to replace the partners that need to be replaced based on your assessment? If not, develop Plan B which likely requires you to find partner candidates that are ready made either through recruiting highly experienced professionals or through a merger. Keep in mind, finding young talent that is ready to plug in as a partner in a merger is a bit of a “needle in a haystack” type of endeavor and requires you to make a very compelling offer. Most of the firms seeking to be acquired in a merger are doing so to address their own succession issues. The firms with ready-made young talent willing to merger upstream are hot commodities that many firms are searching for.
- Be realistic about roles that need to be replaced. Do you have a strong candidate to replace your managing partner and other key partner roles? Do you have partners or candidates that can replace your prime rainmakers? Even if the body count works, i.e., one coming in for one going out, if you don’t replace key roles adequately, the firm will likely go into decline and undermine your long term objectives. No internal succession plan we have seen anticipates the firm contracting and remaining independent unless you are selling off part of the firm purposely.
- Be ready to let go of control to emerging leaders. One of the biggest fears the next generation has is watching senior partners fade away without retiring. This is especially the case if that partner is the managing partner. We see far too many firms with a managing partner everyone knows should be nearing retirement and the firm has not addressed who will replace him/her and when.
- Evaluate your owner agreement. Is the buyout of retiring owners self-funding from the compensation they will leave behind net of the cost to replace their labor? If it isn’t, the firm will either have to borrow to fund the buyout or the remaining owners will take a step back in compensation. Neither option will likely be attractive to the next generation.
- Assuming your analysis of your plan for replacing and buying out retiring partners passes muster, be prepared to share those details with new partner candidates. Without that information, the prospects of taking over and assuming the liability for retirement payments can seem overwhelming to them.
- Determine how attractive your new partner admission plan will be. Is the financial commitment new partners are required to make practical? Is there good upside potential in your owner compensation plan for them? We often hear the senior partner group say, “I’m not willing to make less so a new partner can make more.” However, if a new partner is truly worthy of promotion, they should be able to create growth that will more than pay for their additional compensation. If you can conclude that is a good possibility, make sure your partner compensation system is adequately based on performance so there is a reasonably direct connection between their contribution and their reward.
About the Author: Terrence Putney, CPA (email@example.com) is the President of CPA Consultants’ Alliance and CEO of Transition Advisors, LLC, www.transitionadvisors.com, which exclusively consults on succession and growth strategies for accounting practices nationally and ownership transition. He can be reached at firstname.lastname@example.org or 866-279-8550.