Accounting firm principals typically consider partial sales to address three common capacity problems.
The first is caused by the growth of new clients without an increase to the capacity of the firm. The firm can’t do all the work with the existing staff and the labor market is too tight to hire.
The second is generally margin related. The firm may be carrying higher maintenance clients with low ROI and the clients are not returning the required margin. For this reason, the seller decides to sell a portion of their clients to another firm.
The third reason principals consider partial sales are when there is a desired mix change. Often firms find themselves with too much 1040 business and desire a change in the mix of clientele.
So, should you sell some clients to address capacity issues? It seems, at first glance to be an efficient way to lower workload and/or improve the margin of the firm. In some specific cases, it may be an option, but there are some hidden problems within these assumptions and better options.
Issue number one: Buyer prejudice
The most potent roadblock in the way of a partial sale is buyer prejudice. Buyers know that partial sales tend to contain the least desirable clients in a firm’s book. Because of this, it is difficult to get a sale completed at a reasonable price since the buyer’s intuition tells them that something is wrong with these clients. A practice doesn’t generally sell off its best clients, so there is a lot of truth to these buyer assumptions. For this reason, many partial sales warrant a lower sale price than the seller may consider fair or there may be little cash up front in the deal. Another problem is the seller stays in business after the sale. While they are prepared to sign non-solicit agreements on those clients, partial sellers are going to remain in business and generally will not sign a full non-compete. Many times, buyers will require the selling principal to sign a full non-compete to eliminate the risk of clients returning to the seller over time. In both cases above, buyers are hesitant to move forward in partial sale scenarios.
Issue number two: Client retention
Another issue that arises in the case of a partial sale is of Client retention. During a partial sale, an accountant must contact the clients to inform them. This is what the client hears. “I won’t be able to handle your return any more. I’m not retiring, I just don’t want your business anymore. However, I want you to move on with this other firm so that I can make some money from selling your return.” While that is never what the seller is actually telling clients, it is what the clients hear. That conversation never goes well because clients can see through any flowery language. This can cause a significant exodus of clients, further devaluing the partial sale. It’s not unreasonable to expect less than half of the clients to stay on with the new firm. Buyers know this, which means that your partial sale will only command pennies on the dollar compared to the client’s theoretical book value.
Prime Solution: Right size your firm by raising rates
The overall best alternative to a partial sale is right sizing the practice through rate increases. This is done by increasing rates until less valuable clients leave. If 1040 clients are bogging down your margins and your time, then it is time to raise the rates so that any 1040 clients that remain are generating enough revenue to be worth your time. For example, say that a firm charges $200 for a 1040 client but the ROI of that labor is only half of what it would be for an S-corporation relationship. To equalize the value of their time, the firm can double the price for a 1040 client to $400, which will drive away some clients but optimize the value of the ones who remain. If 50% of the firm’s 1040 clients leave, then the firm is still making the same amount of money for less work. This will raise margins, make the principal’s time more valuable and help to hold on to key employees doing the work. The key advantage of right-sizing a firm is that it increases the efficiency of the business and the ROI, making it more desirable. If only the prime clients remain while less profitable clients leave, the ratio of revenue to labor will rise, making your business highly efficient and giving you more time to focus on the clients making you the most money. Buyers are looking for streamlined books with high-value clients that will generate revenue without adding much labor cost. Operating a right-sized firm with fully optimized pricing will provide this.
Partial Sales can be helpful in specific circumstances. In most cases, however, right-sizing the firm through price will be a superior option. If you are preparing to complete a partial sale in order to address capacity, margin or mix issues within your book of business, you should consider contacting an experienced business broker in your industry.
Berkshire Business Sales and Acquisitions are experts at personalizing exit plans and helping principals prepare their firms for sale. Berkshire will give the sale of your Arizona accounting practice the attention it deserves. Contact us today to see what we can do for you!