When it comes to the valuation of an accounting practice, whether you are buying or selling, the issues are the same. However, different practitioners will have different assessments of risk and value.
The most common reasons for selling a practice, or merging practices, are:
- The reluctance to sign a new lease for premises
- Lifestyle changes, including burn out or health problems
The price you obtain for your practice when using a well planned exit strategy (i.e., a plan that looks five years ahead) is likely to be higher than the price you obtain when the purchaser, your staff and your clients are aware of your health problems or an imminent need to retire.
Rules of thumb for valuation purposes
There are rules of thumb as to how much is paid for an accounting practice. Often you will hear of 100 cents on the dollar, i.e., $200,000 of volume would sell for $200,000. However, a range of 80 cents to 120 cents on the dollar, or 80% to 120% of volume, may be more appropriate. As this article will illustrate, not all practices with $200,000 of volume are worth the same amount.
Due diligence steps for the buyer/practice price enhancers for the seller
★ Analyze the work
● Personal income tax returns: This type of work is not considered as valuable as it is often price sensitive and there is increasing competition from user-friendly software and Internet filings. This is not relevant if the personal income tax returns are more complicated.
● Bookkeeping: These engagements are also threatened by improvements in user-friendly software.
● Audits, reviews and compilations: Generally, audits are worth more than reviews and reviews are worth more than compilations. Audits and reviews require disclosure under GAAP require more expertise and therefore generate higher fees, while the learning curve for IFRS may be an incentive to retire/sell early.
● Opportunities in the volume: Depending on the skill of the vendor, there may be untapped work for specialists in the volume. There may be many unidentified consulting assignments, estate plans or corporate reorganizations. The purchaser may recognize that they can create more volume with the vendor’s client base than the vendor has done.
● Pitfalls in the volume: Again, depending on the skills of the vendor, perhaps the value-added work mentioned above has already been done and some of the volume is non-recurring.
● Analyze the client base: I would then look at the client base to determine the mix of the clients. Financially healthy clients, clients in growth industries and a diversified client base all add value to the practice. If the firm is recognized as having expertise in a particular industry, the higher fees would then indicate a higher value for the practice.
★ Analyze the staff
According to Mackay LLP, 90% of your goodwill goes down the elevator every night. These are some important questions to ask.
● What skill level does the staff have?
● How effectively are the personnel trained?
● How happy are they? How are they compensated?
★ Analyze the firm’s management practices
This is a big impact on value. The financial health of the firm will depend on what charge out rates are used, the chargeable hours worked per person (utilization), what billing variances exist and its bad debt experience.
Areas to look at would include:
● Aged work in process reports
● Aged accounts receivable listings
● Billing and collection practices
● Do invoices go out with the finished product?
Other important considerations
● Review the lease for premises
● Review equipment leases
● Ask the vendor for a copy of the Peer Review
● Review a sample of files and income tax returns