Partnering with a private equity may the single biggest thing an accounting firm does in its whole history — so it's no surprise that it may also be the biggest thing their chief executive or managing partner does.
The CEO or MP stands squarely at the center of most PE deals in accounting — negotiating not just with the potential private equity partners, but with their own firm's leadership, partners and staff to bring everyone on board and create consensus around a deal.
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"A lot of the partners do this because they trust the CEO," explained Allan Koltin, president of Koltin Consulting Group, which advises accounting firms on M&A, PE deals and much more.
That trust, and the ability to lead that it underpins, are essential to a firm successfully setting up what Koltin calls the four strategic pillars of a PE deal.
1. Articulating the why. The first pillar is establishing and communicating the strategic reason why the accounting firm should consider such an arrangement in the first place.
"It starts with the CEO talking to and convincing the board," explained Koltin. "If the CEO and board are convinced, you then bring in your other leaders — your service line, your industry and your geographic leaders. And if you still have everybody convinced, then you go to the partners. So the first one is the 'why,' and you need a great communicator/visionary to articulate that."
2. Creating the deal. The next pillar is building the economic deal, which centers around creating EBITDA for the private equity firm — and that commonly means reducing partner compensation to free up cash flow.
This also involves the firm leader to be at their most persuasive: "You have to have that ability to talk to partners about why they may be making less than they historically have made, with a sensitivity that the ones that are the oldest are going to take the biggest reduction and the ones that are the youngest are probably going to take the least reduction because they've got a longer shelf life," Koltin said.
3. Allocating the value. The Tax Code can guide an accountant in preparing a return, and GAAP may tell them what should do in a financial statement, but there is no blueprint for the third — and possibly the most delicate — pillar.
"For the allocation of private equity dollars among the partner group? There's nothing. It's a blank sheet of paper," Koltin said. "So, what we do is we begin to formulate what the formula will be. The first thing I say is, if you're already vested in the deferred comp, it seems to me that should be the first payout. If you've got capital in the business, that should be the second. But then you have all this money and the question is what to do with it? Do you look at your compensation and divide by the total comp, and that percentage is yours? If you have an ownership percentage, should there be a factor for ownership?"
Without a clear blueprint, and with lots of competing interests, successfully standing up that third pillar requires tremendous leadership finesse.
4. Everything that comes after. The fourth pillar is, in many ways, the biggest and longest-lasting: it's what the firm will do with the capital it now has access to. The most common use for private equity money is M&A — and bringing other firms on board is a skill that not many firm leaders have honed.
"What's their reputation with capital — would firms want to join them?" asked Koltin. "And that's a big question mark. Some firms will get private equity money and will have not done a lot of M&A before. And now they're going to do it. Can they do it? Are they set up to do it?"
"The only way you get better in M&A is you get a lot of arrows in your back," he added. "So, for the novice, that may not be a good thing."
A leadership gap?
Framed by Koltin's pillars, it's clear that having a strong CEO or managing partner leading the charge — rallying partners, staff and PE — is critical to a successful deal.
"It all comes back to the leader, to leadership," said Koltin. "Each pillar's a heavy lift — and any one can knock you out."
And while the firms that led the way in partnering with private equity are well known for the strength of their leadership, not all firms are blessed that way.
"Private equity firms are investors; they're not operators," said David Wurtzbacher, founder and CEO of Ascend, a platform launched by PE firm Alpine Investors to partner with entrepreneurial CPA firms. "They want to make an investment and then sit on the sideline, and so it requires strong leadership in the operating companies."
"And I think one of the things that private equity is going to find is that strong leadership isn't prevalent in the accounting profession, at least not in the way that they think of it," he warned. "The partnership model just hasn't created the soil for that type of leader, the operator CEO. The managing partner is usually doing a lot of client service still, depending on the size of the firm. I think private equity will not find as much of that as they're used to other industries."
