SMALL FIRMS PRACTICE MANAGEMENT SURVEY

By Andrew Pfau, Lisa F. Quint, and John B. Huttlinger, Jr.

Despite never-ending changes to accounting rules, tax laws, and computer software and hardware configurations, competition from larger practices, increased fee pressure, and workload compression, 88% of the owners, partners, shareholders, or members from 350 small CPA firms describe themselves as somewhat or very satisfied with their careers in public accounting. In addition, 95% of the partners indicated that they intend to remain in public accounting for the rest of their professional careers and 78% would recommend public accounting as a career choice to new college students. This represents only part of the results of a survey conducted during the summer of 1996 by a state society of CPA's Small-Sized Firms Practice Management Committee.

The survey polled certain key practice management areas including partner compensation, growth, personnel management, and billing. The survey was sent to 1,568 public accounting firms, with two to ten society members who practice within the tri-state area of New York, New Jersey, and Connecticut. Three hundred and fifty firms, or 22%, responded. Of the responding firms, 39% are partnerships, 38% professional corporations, 14% limited liability companies, and 9% sole proprietorships. The responses were further analyzed by firm revenues in increments of $250,000, as follows:

Firm Revenue Response %

Under $250,000 11%

$250,000-$500,000 32%

$500,000-$750,000 24%

$750,000-$1,000,000 15%

Over $1,000,000 18%

100%

Partner Compensation

Approximately 24% of the responding firms reported average partner compensation (APC) of $150,000 or more; 57% earn between $75,000 and $150,000, and 19% reported earning less than $75,000. When segregating compensation by reported revenues, it was noted that 75% of firms with $250,000 or less in revenue earn less than $75,000 while no firms with revenues over $1,000,000 reported compensation under $75,000. In addition, for firms with at least $500,000 in revenues, over two-thirds of the partners earn more than $100,000. The exhibit shows the percentage of partners earning in excess of $100,000 and $150,000 based on the size of firm revenues.

As firm revenues move up in increments of $250,000, the percentage of firms reporting partner compensation surpassing the $100,000 and $150,000 benchmarks grows dramatically. As the data suggests, increases in firm revenues result in higher partner earnings. This would appear to help account for the merger activity and consolidation that has been occurring within the profession as a whole.

Growth

In order to assess some of the fundamental strengths of small firms, the survey included a series of questions dealing with firm growth rates, areas of growth, likely growth strategies, and expected marketing efforts. The term "growth," however, was not defined in the survey; it was based on respondents' individual definitions and perceptions as to what growth is. Following are some of the statistics and trends noted.

Seventy-seven percent of respondents experienced some growth with 75% indicating firm growth rates of 1% to 10%. Seventeen percent reported average annual growth rates in excess of 10%, while 8% reported average growth rates of over 25% during the past three years. The sources of growth were client referrals, 39%; personal contacts, 21%; growth of existing clients, 15%; referrals from bankers and attorneys, 13%; mergers and acquisitions, 4%; marketing efforts, 4%; and developing a new area of specialization, 4%. While client referrals were the most likely source of new business for firms of all sizes, reported growth from banker and attorney referrals was twice as likely for firms over $1,000,000 in revenues as opposed to those under $1,000,000.

Negative Growth. For those firms indicating a negative growth rate, the reasons given were the economy, 40%; competition from similar sized firms, 23%; competition from larger firms, 14%; and specific industry declines, 14%. No respondents chose quality of service and only one percent chose outdated technology or practice methods.

The smallest firms, those under $250,000 in revenue, had the highest reported negative growth rates, 16% as compared to 6% for all other sized firms. While the economy was the most likely reason given by 40% of all firms with reported negative growth, the most likely reason attributed by firms under $250,000 was competition from larger firms.

Client Retention. Overall, 78% of all respondents reported client retention rates of 90% or better. However this represented only 72% for the smaller firms, while for firms over $500,000 it was better than 80%. The number one reason cited by firms of all sizes for retaining clients was quality of service. As noted earlier, none of the respondents chose lack of quality for contributing to negative growth rates. Personal relationships was second, at 21%; client loyalty, 14%; competitive fees 10%. Only five percent cited industry expertise and seven percent firm reputation. Almost 20% of firms under $250,000 cited their fee as a reason for retaining clients while only 7% to 11% of all other firms responding agreed.

Strategies for Growth. According to 35% of the respondents, the number one strategy to propel growth is to offer new services to existing clients. Twenty-five percent said they would seek mergers or acquisitions, the larger firms being almost three times more likely than the smallest firms to do this. Fifteen percent said they would seek a new industry specialization and only 4% to 11% of all sized firms polled will seek out new marketing methods. As for which new areas of specialization, there was no consensus. In addition, 73% of all firms polled indicated they were not actively trying to develop a specialization in a new area.

Marketing. CPAs still find newer, non-traditional marketing efforts to be more frustrating than traditional efforts. Seventy-five percent of all the respondents reported closing on at least half of all client generated leads while only 25% reported closing on at least half of all marketing based leads.

Personnel Management

The respondents were surveyed on methods for handling tax season workload, recruiting, staff incentives for new business, and employee turnover.

Tax Season Workload. Forty-nine percent of all firms rely on mandatory staff overtime to meet seasonal demands. Twenty-nine percent seek part-time additions or per diem help, 18% attempt to shift work to the off-season, and 4% use other methods such as temporary agencies. The responses indicate that smaller firms rely more on part-time staff, but as the size of the firm increases there is a greater reliance on mandatory overtime.

Recruiting. Fifty-six percent of the responding firms, regardless of size, recruit professional staff by advertising, while 21% use associate referrals, 12% college recruiting, and 9% use personnel agencies. In general, as the size of the firm grows, there is a greater use of advertising and less word-of-mouth associate referrals. To recruit support staff, 69% of all size firms rely mostly on advertising, 53% for small firms and 81% for larger firms.

Incentives. Sixty-five percent of all sized firms indicated they offer incentives to staff members for generating new business leads, and 67% reported paying staff members some kind of bonus based upon job performance.

Employee Turnover. Sixty-seven percent of all the firms reported less than 10% average annual turnover, 24% reported an 11% to 25% average annual turnover, and 9% reported over 25% average annual turnover. The one noticeable trend was that a significantly higher number of larger firms had turnover rates greater than 10% per year. Thirty-one percent of firms with over $1 million in revenue reported turnover of 11% to 25% and another 7% reported greater than 25% annual turnover.

Data was gathered on the most likely reasons for such high turnover. According to the partners, not the former staff members, the primary reason was pay, 27%; other nonspecific reasons, 19%; overtime and scheduling, 14%; poor recruiting and hiring methods, 13%; lack of long-term incentives, 13%; and a variety of other reasons such as office politics, 9%; and poor supervision and training, 5%.

Billing Practices

A variety of billing practices are available and, most firms utilize more than one depending upon the client or the service rendered. Survey participants were requested to select the billing method used most often. Forty-nine percent of the firms that responded indicated they bill on an hourly basis, 22% bill on a flat retainer with periodic adjustments, 17% bill a flat fee, 11% bill on a retainer basis with no adjustments, and 1% use some other method. Two interesting patterns emerged. The number of firms billing on a flat retainer basis with adjustments grew from 9% to 27% as the size of the firm increased; likewise, as the size of the firm increased, the percentage of firms using flat fee engagements shrunk from 29% to 9%. In general, it appears that the larger the firm, the more comfortable it is billing clients for unexpected cost overruns.

Partner/Staff Billable Ratios. Survey participants were also asked to indicate the partner-to-staff billable ratio with the expectation that it would show partners of larger firms generating a smaller percentage of their firm's billings compared to their smaller firm peers. Overall, 76% of all firms reported that partner billings account for anywhere from 50% to 80% of total firm billings. For all firms with revenues over $500,000, the percentage of firms with reported partner billings in excess of 50% ranged from 61% to 68%. Based on the fact that partner billings do not show any meaningful decline as firm size increases leads to the conclusion that most small public accounting firms just do not have the personnel pyramid existing at larger firms, where fewer experienced people manage a greater number of less experienced staff to achieve a greater overall billable amount per partner. *

Andrew Pfau, CPA, is a vice president at Martin R. Klein & Co. CPAs, PC, Lisa F. Quint, CPA, is a manager with Buchbinder Tunick & Company LLP, and John B. Huttlinger, Jr., CPA, is a vice president at Adirondack Audit Co., Inc.

The authors would like to thank the chairman and members of the Small-Sized Firms Practice Management Committee for their work on the survey and in the preparation of the article.

Editor:
Michael Goldstein, CPA
The CPA Journal