With one in three accounting firms set to be at least partially owned by private equity funds, it’s likely that changes are coming to the accounting industry. And as new management shakes up how these firms operate, clients may find themselves struggling to navigate what these changes mean for their relationship with their accountants.
Because that client-accountant interaction is often so personal and financially intimate, here’s what clients need to understand about private equity’s (PE) push into accounting firms and what they may need to consider related to it.
Why is private equity suddenly interested in accounting firms?
Private equity has long been an industry whose acquisition targets move in waves. A few years ago, for example, fitness centers and gyms were all the rage for PE funds; more recently, funds dumped millions of dollars into health care and tech companies. The accounting industry M&A wave is part of a broader focus by PE funds on the financial services industry, which has included a wealth management firm buying spree, and has good investment logic behind it.
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Accounting firms have largely been privately held and have steady and stable client bases and income streams. Tax and audit work are metronomically reliable income generators for accountants, and nothing in those functional areas is getting simpler.
What’s more, PE funds work hard to drive their return on investment through both earnings growth and financial engineering. The steady cash flows allow some measure of debt financing for acquisitions, and most accounting and wealth management firms have untapped potential to scale and drive efficiency.
Smaller accounting firms generally lag in the deployment of sophisticated technology for their operations and so have opportunities for efficiency improvements. Their marketing tends to be low-intensity and sporadic, creating real revenue upside. And the number of smaller firms that can be added onto acquisition targets to a PE firm’s “platform” company means that a roll-up strategy can be very effective.
With significant barriers to entry in the form of strong client relationships and a growing shortage of trained CPAs in America, the industry has become a very attractive target. So, PE’s presence in the accounting industry is likely here to stay.
What's in it for firm leadership?
The payday and the promise of more. When PE firms focus on a sector and start competing for acquisitions, earnings multiples to buy a company in the space tend to rise sharply.
It’s hard to get a clear picture of the exact EBITDA multiples PE firms are paying to buy into accounting firms, but the liquidity opportunity from this wave of acquisitions is widely considered to be more robust than the industry has seen before.
Alternatively, for owners who have been looking to grow their firms, PE firms tend to love founders who stay and drive investments in new acquisitions to complement their existing firm. There can also be synergies from outsourcing, technology and cross-ownership of accounting and wealth management firms.
Professional services firms have also long struggled with succession, and PE can play a big role in that. As owners of these firms age out, PE firms are more than happy to provide capital to allow for generational succession where younger members of the firm buy out older members’ partnership interests.
What clients should understand
Of course, for clients, hearing that your wealth adviser or accountant is now going to be part of some larger umbrella organization inevitably comes with some questions. Few clients are likely to jump at the chance to have their finances managed by some wet-behind-the-ears adviser they’ve never met before. Perhaps in no other area of consumer choices does trust in a service provider’s experience factor in so strongly as around these core personal financial services.
Client concerns shouldn’t be dismissed. Part of PE’s takeover of these firms includes a focus on profitability — one that, at least for some of these firms, could lead to cost-cutting measures that have the potential to undermine the high-touch service clients are used to. Not only is this something for firm owners to be aware of and consider before accepting private equity investment, but it’s something clients should keep their antennas up for, as well.
As private equity moves into the financial services space, clients should remain vigilant and proactive, as well as unafraid to push for the answers they need. Not every firm may be up front about private equity investors they’ve taken on, as there’s no disclosure requirement per se, so clients should be advocating for themselves in starting these conversations with their advisers.
The ownership shift for these firms may lead to changes in service models, adviser availability and overall firm culture, all things that can dramatically alter clients’ experiences.
If you’re a client at a firm that’s been invested in or acquired, you should be clear in setting expectations with your adviser on the services that you are or are not interested in receiving, as well as how they are provided. Often, as growth expectations increase because of PE investors, advisers and accountants will be pressured to cross-sell their clients. Clients can save both themselves and their advisers the headache by being transparent about their needs and expectations, and firms, meanwhile, should be transparent about their ownership structure and their potential implications.
What's next
Private equity’s involvement in accounting and wealth management firms is set to reshape the financial services industry and will continue to drive consolidation as the big grow bigger and older advisers look for the exits. Firm owners and their clients need to be prepared and engaged on questions surrounding what all of this means for the client-adviser relationship to ensure success for all.
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