How to double the value of an accounting firm.

I have spent the past few years speaking with accounting firms about the services they provide to their clients and, having come from an investment banking background, I've been amazed by how few of them provide ongoing strategic advisory services.

In fact, other than tax and compliance services, most accounting firms currently either don't provide meaningful business advisory services, or provide almost exclusively transaction-based business advisory services. And it's costing them millions in lost opportunities, and significantly limiting the value of their firms.

Initially, I presumed this was an issue facing only smaller, less sophisticated accounting firms, but I've since discovered that it's endemic across the entire accounting industry, from suburban bookkeepers right up to the world's largest firms.

Simple mathematics

Traditional accounting firms are often valued at around 1x revenue, based predominantly on their long-standing bookkeeping, tax and compliance client base. From what I've seen, these businesses often achieve profit margins of 10% - 20%, meaning that a $5m turnover accounting firm is often worth around $5m and generates $0.5m - $1m of net profit before tax (NPBT).

Business advisory services - which include ongoing services such as budgeting, planning and cash flow forecasting - often achieve profit margins of 20% - 40%. Unlike bookkeeping, tax and compliance services, which are seen by clients as costs to be minimized, business advisory services are value-add services which can be priced accordingly.

Clients are also happy to spend more on business advisory services, because these services are likely to significantly increase the value of their businesses. From my experience, most clients are willing to spend at least twice as much on business advisory services each year than they are on bookkeeping, tax and compliance services.

So, putting all this together, here's how to double the value of an accounting firm that's providing only bookkeeping, tax and compliance services:

1. Upskill and/or hire staff with the skills and tools required to provide key ongoing business advisory services.
2. Market these services to your existing client base.
3. Provide these services to at least one quarter of your existing client base.

To demonstrate this, consider an accounting firm that provides almost exclusively bookkeeping, tax and compliance services to its clients and turns over $5m per year, achieving a NPBT of $1m at a profit margin of 20%. If one quarter of this firm's client base become business advisory clients, each spending twice what they spend on bookkeeping, tax and compliance services, total revenues will increase to $7.5m. Furthermore, this additional $2.5m in revenue would result in an additional $1m of NPBT at a higher profit margin of 40%, doubling the firm's NPBT to $2m per year.

In this way, a $5m traditional accounting firm valued at a 1x revenue multiple with 20% profit margins can evolve into a $10m business advisory-inclusive accounting firm valued at 1.33x revenue with 26.7% profit margins - i.e. it can double its value. The increase in value comes from both the additional revenue and increased profitability driving a higher valuation revenue multiple.

Proof of concept

As an investment banker who left to start a financial modeling business, I have never been interested in, nor qualified to provide, bookkeeping, tax and compliance services. When I co-founded BPM in 2002, our first few clients were companies we worked with in investment banking, and most of our work was transaction-based financial modeling. Back then, one or two large mandates would provide 50% of our revenue for the year, and it was a precarious position to be in.

Fast forward to 2017, and over 90% of BPM's revenue is from building financial models for clients as a part of their ongoing budgeting, planning and strategic decision-making processes. And we have a much larger client base, with no major dependency on any one client or mandate.

Above all else, BPM has proved to be an extremely profitable business, consistently achieving profit margins of around 40%, allowing us to reward staff and invest in other initiatives like the Spreadsheet Standards Review Board and Modano without external funding.

Why do I care about accounting firms?

From very early in my career, I've had the ambition of helping businesses succeed. There's nothing I love more than working with growing companies and watching them turn their dreams into viable, long-term businesses that are revered by their customers and competitors alike.

When we initially founded BPM, we named it BPM Analytical Empowerment, and I recall telling everyone that would listen that we were going to empower businesses with the ability to make better strategic decisions without needing to rely upon expensive, and often conflicted, investment banks.

While BPM has been successful, it's also made it very clear to us that there are millions of businesses around the world lacking day-to-day strategic clarity and control. It's also become clear that the natural provider of this clarity and control is their accounting firms, because the required services are a future-focused extension of existing historically-focused bookkeeping, tax and compliance services.

For this reason, BPM started providing financial modeling training services, and invested in financial modeling technology, which has now become Modano. Unlike BPM, which has at times competed with accounting firms to win business advisory mandates, Modano is partnering with accounting firms to provide them with the skills and tools they need to provide these services to their clients.

So, put simply, my success is now directly related to my ability to empower accounting firms with business advisory services capabilities.

Where do we start?

Something else I've learned from speaking with accountants over the past few years is that they're very risk averse, and are obsessive about their time. This is great when helping clients with tax and compliance work, but often results in insufficient time being allocated to trying new technologies and learning new skills. But if you're interested in growing your firm this has to change.

I'm going to follow up this article with a series of articles expanding on these steps, but as a starting point here's what I'd recommend:

1. Call, or have a coffee with, a few of your largest corporate clients and ask them whether they'd be interested in having you provide them with business advisory services - such as driver-based budgeting and planning, cash flow forecasting and scenario analysis - if you were to start offering these services.
2. If the outcome of these catch ups is positive, or you already know that they’re in need of these services, either partner with Modano to do a pilot project with one of your clients or upskill some of your most talented staff to provide these services. The core skill your firm will need to acquire is financial modeling, as this skill forms the foundation of most business advisory services.
3. If necessary, use Modano's pay-as-you-go support system to access expert help along the way.

This action plan will allow you to start growing the size and profitability of your accounting firm with minimal risk and time investment, and it's an approach that's proving very successful for many accounting firms around the world.

Many of the accounting firms I spoke with during 2016 are yet to act on these initiatives, and continue to plod along with limited revenue growth and diminishing margins. Others are wholeheartedly diving into new technologies, skills and services and quickly seeing the benefits on their top and bottom lines. Perhaps it’s time you decided which type of firm you want your firm to be.

Onwards.

Michael Hutchens