Succession planning: The challenge of what’s next

CPA firm owners say succession planning is important, and a growing number of firms have formal plans in place. Still, many firms and sole proprietors have a great deal of succession planning work ahead of them. Among the challenging statistics that emerged from a recent AICPA survey on the topic: Slightly more than half of multiowner firms don’t have a signed, documented succession plan in place.

“We know that demographically in our profession, we have to start to do that,” said Thomas Broderick, CPA, managing partner at Broderick Phillippi Wright & Comunas in Albuquerque, N.M. “And we have to start thinking about how that succession plan is going to work in order to ensure that … our practices survive and that those that are retiring get maximum value for their investment that they’ve made over all these years.”

Broderick knows firsthand about succession planning. He took over the firm when his father retired about 11 years ago, and, after a merger with another firm in August 2011, several partners at BPW&C are on track to retire soon.

“I think succession planning is one of the greatest challenges facing the profession,” Broderick said.

While fewer than half of multiowner practices have succession plans ready, 79% of firm owners say succession planning will be a significant issue for their firm within the next 10 years, the new AICPA research shows.

Forty-four percent of multiowner firms either are discussing a merger, acquisition, or sale or are planning to do so in the next two years, according to the 2012 PCPS Succession Survey, a joint project of the AICPA Private Companies Practice Section (PCPS) and Succession Institute LLC. Among sole proprietors, only 6% have practice continuation agreements (PCAs), the first step in succession planning, in place.

The survey, released in October, is broken into separate reports for multiowner firms and sole proprietorships, which include single-owner practices with employees as well as sole practitioners. It is based on responses from more than 500 multiowner firms and more than 400 sole proprietorships.

In general, the bigger the firm, the more likely that firm has a succession plan in place. One-fourth of multiowner firms with three to seven full-time employees had succession plans, but 86% of firms with 101 to 200 employees did. One such large example is Keiter, a firm of about 120 employees in Glen Allen, Va. Managing partner Lewis Hall, CPA/ABV, said Keiter’s succession plan is already in process with a number of retirement-age partners.

“We think about it pretty much every day; it’s a big deal,” Hall said. “I am almost constantly monitoring what we’re doing as far as succession. We have one partner that is retiring this year, and we have retired three in the last three years. We’re looking at developing new partners, and we’re looking at transitioning clients. It’s a lot of effort and planning.”

SUCCESSION PLANS OFTEN CONCEPTUAL

Most firms understand the importance of succession planning, but the actual application sometimes loses out to more immediate concerns. That’s understandable in lean economic times: When trying to survive with fewer employees, today’s work matters more than tomorrow’s plan.

“Succession planning is a lot like preparing to sell your house—it’s not a good idea to notice your roof needs work or there are cracks in your foundation once your home is listed,” said Mark Koziel, CPA, CGMA, vice president–Firm Services & Global Alliances at the AICPA. “For CPAs, it pays to have an orderly plan in place that accounts for all contingencies and includes steps to maintain or increase the market value of your firm.”

The survey suggests that most firms are missing out on one key aspect of succession planning by not having formal written requirements for new owners; 71% said they didn’t have such admission-to-partnership guidelines. While 60% of senior partners say they are training for specific competencies in leadership-targeted staff, just 15% of practices have identified specific leadership requirements. So some respondents in that training majority appear to be unclear on the competencies themselves.

Forty-six percent say they have written, approved succession plans in place. That’s up from the 2008 survey, when 35% of firms had formal plans.

Forty-seven percent of multiowner firms listed informal coaching by an assigned partner as a development strategy, a drop from 56% who were coaching in 2008. Part of multiowner firms’ hesitance could be a concern over the replacements. Forty-two percent of senior partners cite a lack of confidence in the leadership ability of emerging partners as the single biggest challenge to succession planning. Firm owners should think of their firms the same way they think about their retirement plans.

“It’s about investing in your own firm,” said Dom Cingoranelli, CPA, CGMA, the Succession Institute’s executive vice president. “If it’s going to be worth something when I get out, I’d better build it. … Build the kind of practice that somebody would want to buy.”

HESITANCE ON GROOMING SUCCESSORS

Among sole proprietors, most owners say they don’t have a PCA in place to cover unforeseen events such as death or disability. When sole proprietors with employees were asked what they were doing to develop future leaders, 52% answered, “Nothing.” However, many of those sole proprietors have one or two employees, and those employees may not be CPAs, leaving the owner without a potential successor within the firm to develop. 

Cingoranelli said many sole proprietors simply can’t find the time to think about the future. So the results of the survey don’t surprise him.

“It says that a lot of them are probably so busy doing their work, taking care of client needs, that they’re not minding the store,” he said. “They’re not taking care of the firm. They’re just up against the wall, with continuing changes in regulations and laws. It is a real challenge for them.”

However, sole proprietors are thinking about exit options. Twenty-two percent of them plan to merge with another practice two to four years before retirement, and 19% plan to reduce their hours until they’re ready to leave. Seventeen percent plan to sell clients to another practice, and 42% are considering all three options: merge, reduce hours, or sell.

“A question that [sole proprietors] probably should be asking is, ‘How do I find somebody to take me over?’ ” Cingoranelli said. “I think that they really need to be looking at their relationships with larger firms. Surely, many of them have some sort of referral arrangement with one or more firms they could talk with.”

About half of sole proprietors considering a sale of their firm expect to receive 100% of each dollar of client revenue as their payout. However, the report cautions that a buyer’s market is likely to drive down valuations and that owners, either sole proprietors or those with multiowner firms, should expect some client attrition when a firm changes hands.

“As a result, selling CPAs can expect their actual realization to be lower than $1 for $1 of revenue,” the report says. “In our experience, even when the seller helps the buyer retain clients, the total payments made to the seller approximate about 70 cents on the dollar for the entire book sold, and could easily be as low as 60 cents on the dollar.”

TIPS TO CARRY OUT YOUR PLAN

The survey offers steps that CPA firms can take to keep succession planning on track. Here are a few highlights for multiowner firms:

Write a three-year plan. This plan should include details on client transition, training for future leaders, and projections for the firm’s selling price. Depending on the age and number of partners, the plan could cover a time period of well beyond three years. Cingoranelli said a three-year plan should be focused on both the partners’ exit strategy and the development of future partners. One key aspect is client transition, which the managing partner should track with quarterly progress updates. The client transition part of the plan should outline steps needed to gradually and effectively move that relationship to the employee taking over the client. “You can’t just put a plan in place and say it’s done; it needs to be monitored by the managing partner,” Cingoranelli said.

Know your exit strategies. Depending on the firm’s makeup, the path to retirement can vary. Research your options, set exit rules for partners, and seek an expert adviser. At Keiter, for example, equity partners have mandatory retirement at age 65. “It just puts the firm in the driver’s seat as far as what’s in the best interest of the firm,” Hall said.

Develop your staff. It’s difficult to have an inside successor or successors if that talent isn’t given proper training. Allow your firm’s stars to take on more responsibility. David Jentho, CPA, a partner at Ratliff & Jentho CPAs in Baytown, Texas, said a critical part of his firm’s succession plan was “developing our staff and trying to put them in a position to where we can begin to pass the responsibility for clients onto them and help them build the same type of personal relationships that we have with those clients.”

Evaluate your rates and clients. Your PCA will be easier to implement if your practice is in line with the firm that could take over. Now is a good time to examine your client list and what you’re charging. Many smaller firms “have not maintained market billing rates,” Cingoranelli said. “It’s going to make it difficult to transition clients to another firm with higher rates. … That’s going to be some real sticker shock for their clients.”

The survey offered the following succession planning tips for sole proprietors:

Implement a PCA. It’s best to immediately ensure a smooth transition if faced with unforeseen circumstances. Even if you’re not ready to relinquish control of your business or retire and dissolve the firm, you should be in discussions with another firm to learn more about your options. Part of the hesitance to create a PCA, Cingoranelli said, is that people don’t want to deal with their own mortality. “For some folks, really, all they know is work,” he said. “This is not meant in a bad way, but they’ve devoted their life to their work or their profession. What are they going to retire to? What are they going to do with their time?”

Leverage technology. Now is the time, if you haven’t already, to let a computer take over low-value, routine functions. This can free up the sole proprietor to devote more time to clients as well as other aspects of succession planning.

Include an opt-out clause. Though you’re certain to perform due diligence when considering a merger or acquisition, insist on a one-year opt-out clause to make sure the relationship is working the way you expected.

Strengthen client relationships. Focus more attention on top clients. Don’t be afraid to shed marginal clients (e.g., the ones who regularly pay late) or recommend another firm for them.

EXECUTIVE SUMMARY

CPA firm owners understand the importance of succession plans, but about half have not instituted a formal plan. Mainly, sole proprietors and smaller multiowner firms are the ones who have not installed a succession plan, according to a recent survey.

Smaller firms should be in communication with larger firms about transferring clients and should be developing existing employees to take over. Like investing in a 401(k), the firm’s value won’t grow if it’s not developed for a number of years.

If succession has not yet been addressed, put together a three-year plan. The plan should focus on partners’ exit strategy, client transition, and the development of future partners. The plan’s progress should be monitored by the managing partner.

Sole proprietors in particular should implement a practice continuation agreement (PCA) in case of unforeseen events. This will also provide an opportune time for sole proprietors to identify key clients and adjust billing rates as needed.

Neil Amato is a JofA senior editor. To comment on this article or to suggest an idea for another article, contact him at namato@aicpa.org or 919-402-2187.

AICPA RESOURCES

JofA article

“Developing Your Personal Brand Equity,” July 2010, page 42

Insider articles

• “Eight Tips for Succession Planning,” Wealth Management Insider, June 21, 2012
• “Succession Planning … Why Bother?” Wealth Management Insider, June 21, 2012

Sign up for the AICPA’s Insider e-newsletters and view back issues at cpa2biz.com/newsletters.

Publications

• ESOPs: Savvy Strategy for Tax Management, Succession, and Continuity (#PMA1205P, paperback; #PMA1205E, ebook)
• Securing the Future: Building a Succession Plan for Your Firm (#090520, Volume 1; #090521, Volume 2; #090523HI, two-book set)

For more information or to make a purchase, go to cpa2biz.com or call the Institute at 888-777-7077.

Websites

• “3 Myths of Succession Planning,” AICPA Insights blog, Oct. 11, 2012
• 2012 multiowner succession survey
• 2012 sole proprietor succession survey
• PCPS Succession Planning Resource Center (some content available to PCPS members only)