Small and midsized firms have traditionally faced stiff competition and a complex business environment. Consider the following challenges, especially over the past year:
- An anemic economy with very slow growth and little, if any, prospects for improvement in the near term;
- Political turmoil creating lots of uncertainty in the markets;
- Lots of predatory pressure on fees and billing rates;
- Baby boomers retiring at a rapid rate;
- Many firms looking at alternative strategies to “going it alone;" and,
- A dearth of talent, particularly in the senior leadership and tax areas.
Quality small and midsized firms position themselves to get “A" clients but lose out to larger Top 50 firms on brand recognition, presence and market permission;
So what’s new and different this year?
Well, to begin with, the COVID-19 pandemic and the work-from-home environment are probably hindering optimization of production hours and utilization, and therefore potentially hurting partner profits. But this development, while it’s different, is far from the biggest challenge facing small and midsized CPA firms.
The biggest challenge facing these CPA firms is this: Little by little as the years go by, the Top 50 firms are getting larger, stronger and better, in part, by gobbling up small and midsized firms, thereby making it tougher for these firms to compete for both talent and clients. Consider, in 1991, of the Top 100 Firms, the “median” firm was doing annual revenues of $10.3 million. This year, the median firm is doing annual revenues of $110.2 million. That’s an increase of about elevenfold.
Additionally, in 1991, of the Top 100, the smallest firm was doing annual revenues of $6.0 million. This year, the smallest firm was doing annual revenues of $43.7 million. That’s an increase of about sevenfold. Even after considering inflation, the Top 100 Firms have little doubt that size matters and brand recognition is critical.
Small and midsized firms have boxed themselves into a competitive disadvantage when compared to the Top 50 firms. You see, the Top 50 firms, and many of the Top 100 for that matter, have focused on the talent dearth by adopting two strategies.
First, for internal partner candidates, they have launched a partner candidate development programs that help their next generation of partners maximize their soft skills and strengths and minimize their weaknesses. These require active participation by the firm’s senior management and partner candidates.
To supplement the pipeline of internal partner candidates, the top firms have come to realize that M&A transactions not only build critical mass and achieve other strategies, but also create a branding environment to “buy” senior-level talent as part of the M&A transaction.
And here is the cherry on top: The Top 50 have come to realize that size and strength of branding, in part due to M&A transactions, are very important to potential lateral hires — particularly those who are jumping from the Big 10 firms who are looking for a soft landing into a solid, albeit smaller quality, brand.
And yet, it’s hard to believe but it’s true — here we are in 2020 and many small and midsized firms have yet to realize that they need to do M&A transactions to supplement their growth, buy talent, and help them get larger, stronger and better. With a brand that becomes more and more recognizable, in part due to M&A transactions, small and midsized firms can also attract quality senior-level laterals — a good many out of the Big 10.
There’s no argument within the CPA profession that today’s economy is anemic, firm margins are squeezed, and talent — particularly senior leadership and tax talent — is scarce. On top of that, the philosophies of "finders, minders, grinders," and a CPA firm model based principally on low-margin compliance services are no longer sufficient and probably are counterproductive to the perpetuation of a firm.
Clients have the upper hand in their CPA firm relationships. Technology will continue to create less demand for lower-level staff. It is widely believed that Google and Microsoft will soon become fierce competitors for certain compliance services.
If small and midsized firms want to “run with the big dogs,” go after greater margins, and perpetuate a sustainable brand, they need to take a hard look at their next generation of partners and ask, “Are we doing our best to help our pipeline of future partners? Are we doing M&A transactions and, with that branding and additional critical mass, are we attracting quality laterals out of the Big 10 with the right stuff?”
Remember — at the end of the day, you bet on people, not on strategies.
