Build, Buy (or Sell)?

It’s a seller’s market for CPA firms.

by John R. Ezell

EXECUTIVE SUMMARY

In managing a practice’s lifecycle, CPAs periodically face questions of how best to grow–to build the practice from within over time or to acquire an existing firm. They also must consider how best and when to sell their practice. The decision of how or when to build, buy or sell is often a personal one for the CPA. It depends on many factors, including the CPA’s individual goals for work, life, family, career and legacy. Buying a practice can accelerate a CPA’s business goals. It provides an instant track record, a seasoned practitioner’s guidance, immediate cash flow, employees in place, established clients, potential referrals and existing facilities. The buyer of a practice should obtain information about the client base of the acquisition to ensure it dovetails with his or her individual interests, goals and capabilities. Selling a practice is just as personal a decision. It can provide an opportunity to start over with a new business model. Besides financial rewards, most sellers want the satisfaction of finding a talented successor for their clients. A seller should be careful not to wait until the practice has stagnated or is in decline before selling. As in any important transaction, a buyer or seller should consider engaging a qualified intermediary, such as an experienced broker, to identify an interested and qualified party, guide the valuation determination, handle negotiations and help arrange terms for an amicable agreement. John R. Ezell, CPA, is president of Professional Horizons (www.prohorizons.com), a consulting and brokerage firm specializing in accounting and tax practices. He is the author of the book Successful Practice Sales: The Complete Guide to Buying, Selling or Merging Your Accounting, Consulting or Tax Practice. His e-mail address is john@prohorizons.com.

uying or selling a CPA practice is dramatically different today from 20 years ago, and it’s a seller’s market. In the ’80s an exiting owner was likely to sell to an interested younger CPA for a small percentage of fees over a five- or 10-year period. The current market is a lot more varied: Public companies and large firms swallow up small ones, independent firms merge to get big, and young professionals buy their first practices more often than build them. At the moment, that adds up to more potential buyers than owners interesting in selling.

For CPAs considering growth or succession options, this article examines:

The market now for potential buyers and sellers of CPA firms.
Points to consider about whether to build a practice or buy one.
Solid reasons to sell.

Readers will gain working knowledge of some of the considerations involved in establishing, developing and eventually realizing the full cash value of a public practice. Key factors for buyers and sellers include personal ambitions and preferences as well as business concerns. CPA case studies will illustrate how such decisions play out.

WHERE ARE THE SELLERS?
While it seems counterintuitive in this age of impending baby-boomer retirement, CPA firm buyers, brokers and several studies, including AICPA-published reports, confirm it’s a seller’s market. Possibly sellers are playing their cards close to the vest, but another reason for the tight market may be that a CPA can practice successfully into his or her 70s or 80s. (See “The Last Word,” JofA, Feb.07, page 104.) Many CPAs in practice feel they can find ways to handle more business and grow annual revenues indefinitely. Others just don’t want to give up the autonomy their practice provides.

WHO BUYS?
Buyers come in different forms. Financial buyers typically are national consolidators that acquire firms as investments or to expand their offerings or to gain market share. Synergistic or corporate strategic buyers are established partnerships or sole proprietors in a geographic market who acquire one or more local firms for economies of scale and business growth.

THE STARTER FIRM DECISION
In 1991, I established my first CPA practice in Arlington, Va., and encountered the build-buy-sell dilemma. I chose to build based on my large contact network and visibility as the vice chairman of the chamber of commerce. Although I picked up several clients, I had a year of low income, which expenses drained. I was stuck in the practice development conundrum: I needed to serve my clients and carry my business costs yet spend every available waking hour marketing to prospects.

In 1995, I chose to move to the San Francisco Bay area for personal and professional reasons. With a broker’s assistance, I sold my Virginia practice.

I also learned through this experience that the advantages of buying a practice included:

Acquiring an instant track record.
Seasoned guidance from the seller.
Immediate cash flow.
Trained employees in place.
Established clients and potential referrals.
Existing facilities and operations.

If you’re a CPA thinking about buying a practice for a change in lifestyle, more personal freedom or greater profitability, the most important due diligence you perform will be to obtain information about the client base of the acquisition you choose. It should match your individual interests, goals and capabilities as much as possible.

SMART TRANSITION
Many CPAs dream of building their own practice, but don’t know where to begin. A lot depends on where they are in their career. Cary Stover, a CPA in Santa Clara, Calif., made his midlife career change ultimately by buying a tax franchise and a small tax practice. He was a 54-year-old former CFO and supply chain director for more than 20 years when Silicon Valley’s 2000–2001 tech wreck thrust change upon him. After the dot-com meltdown, he took six months to evaluate his options.

“Then I dusted off my CPA and upgraded my skills with 80 hours of continuing education,” Stover says. “I decided to build a practice, so I networked with former colleagues, got referrals and walked into businesses cold.”

Success didn’t come easily—it seemed everyone already had an accountant. But with persistence Stover grew the business to 15 write-up clients, plus 65 tax return accounts. Still, in midlife, Stover needed to replace income. He took another plunge in April 2005 and bought a tax practice to accelerate his firm’s growth.

The seller wanted a gentle transition into retirement. Stover was amenable, and during 2005 and 2006 he worked with her, meeting her clients. In January 2006 they sent a jointly written letter to the seller’s clients, explaining that Stover was acquiring the firm.

Stover closed his office and encouraged his clients to drive the six miles to the new office, previously the seller’s. “Although those six miles haven’t been a problem for me, don’t expect 100% retention,” he says. Stover retained about 85% of both client bases.

The two worked comfortably together as the seller pitched in during tax season. Stover processed 243 tax returns the year he acquired the new practice, compared with 65 the year before. He had the talent, desire and capital to succeed—and a plan to serve the volume produced by combining practices.

TECHNOLOGY FORGES NEW PATHS
Or consider John Lau, a CPA and CFP in San Mateo, Calif., who illustrates how technology is making new business models possible. Lau, who had earned his CPA in 1978, has started two practices, sold one and bought several others. In 1991, with three offices and 13 full-time staff in the San Francisco Bay area, he sold his tax practice to consolidator American Express.

“I was burned out after the 1991 tax season and drowning in accounts receivable,” Lau says.

Yet after a few months, Lau began to reconsider. He decided to research how he could do things differently to have a balanced life, a prosperous practice and add value for clients. “I’d do clients’ taxes, offer financial planning services and be in the game,” he says. He concluded he could have a practice that made better use of technology to render his workload more manageable.

With paperless technology, a cell phone and laptop, Lau can do business from anywhere. He now operates from three offices, all Internet linked, which permits him to access client files from any location. Going to a paperless work process let him acquire firms based on clients and staff rather than geographic convenience. His confidence in a new business model paid off, and his multi-office full-service practice is thriving.

PROFESSIONAL HELP
The experience of Gael Knight, a CPA and third-generation accounting and tax professional, illustrates how a buyer may need to adjust expectations in the present market. Knight started looking for a firm in January 2004 to augment the practice operated by his father and aunt. Finding something suitable via networking was slow, and sellers’ emotional investment in their firms stymied smooth negotiations. He didn’t get to the contract stage on anything until May 2005—and then the deal fell apart. Knight recognized that a go-between could smooth the introduction and negotiation of parties who are ready to make a deal, and he decided to bring in a broker—ProHorizons, of which I’m president—that specializes in tax and accounting firms.

We found a family firm—husband-and-wife partners in their 40s, who were also third-generation tax professionals—that was ready to sell. After a 2005 busy season in which the couple had worked 120 hours a week churning out 1,400 tax returns, they wanted out. We were able to handle the strong personalities on both sides of the bargaining table. We counseled Knight on the offer and helped negotiate a price and terms both parties considered fair. (Knight paid 1.2 times first year’s billings.)

Merging the practices in a smooth transition took planning and execution. Knight kept both his Los Altos, Calif., office and the sellers’ San Jose office. He redeployed personnel and upgraded the technology systems so client records could be accessed at both sites. By the end of the 2006 tax season, the expanded Knight & Co. was thriving, its client base had let the firm add estate and tax planning services, and it was in a position to consider a fee increase.

FAQs: Buying or Selling an Accounting or Tax Practice How do I determine the value of a practice? Location, profitability, gross annual billings and client mix are important. Ultimately, price is determined by supply and demand of practices for sale and the buyers looking. What are normal terms? For bank-financed transactions, the seller can expect to receive 60% to 100% at the closing. For seller-financed deals, 25% to 50% cash down, with the balance paid over two to five years, is not uncommon. Can I get financing? Yes. A good credit history should enable you to finance 70% to 90% of the purchase price from a bank or commercial lender. Is equipment included? It is usually included at fair market value. What’s a reasonable transition period? It varies. Most sellers provide nearly full-time transition assistance for the first two months, but you can negotiate longer periods. Are there any guarantees the clients will stay with me? Sometimes there is a one-year guarantee of billings. At the end of one year, any differences are adjusted to the balance owed to the seller.

GET THE RIGHT MIX
Wise buyers in this market are open to a wide range of criteria. Stover and Lau didn’t agonize over whether a potential practice was the perfect fit. Instead, they engaged sellers actively, negotiated relatively straightforward terms, closed deals quickly and focused on creating a smooth transition.

But even though buyers outnumber sellers at the moment, buying an existing practice can be more efficient and profitable than building one from scratch over time. Acquiring involves less stress and reduces the risk of failure, and it gives you a track record, client base and immediate cash flow.

Sellers, of course, have different motivations. Besides financial rewards, most want the satisfaction of finding a talented successor for their clients. (See also “Have a Fallback Plan,” JofA, Sep.03, page 57.) However, sellers should be careful not to wait until the practice has stagnated or is in decline before taking steps to sell. It can undercut their negotiating position and the price and cause them to risk missing the best opportunity of their lives. The key is knowing when and how to exit gracefully and on optimal terms.

Wherever you are in this process—deciding to buy, sell, build or merge a tax or accounting practice—these examples should provide valuable insights. (For more information on building, see “Structuring for Growth.”) When you know your business goals, you can communicate them clearly to the party on the other side of the table and, working together, achieve an outcome that satisfies everyone.