Methods and Results Differ for External Transactions and Internal Transfers

EXECUTIVE SUMMARY * The value of an accounting firm's shams differs for an external sale as opposed to an internal transfer. However, the methods for determining an accounting firm's value do share a number of factors, * The multiple of billings used to determine the sale price is determined by four main factors: (1) amount of cash, if any, paid upfront; (2) length of the retention period; (3) the deal structure's profitability for the buyer; and (4) length of the payment period. * Inside ownership sales usually use a lower multiple than external sales. Most retiring partners don't expect their partners to pay as much as a stranger. * CPAs selling their shams should expect potential buyers to need a financial upside from the deal. Don't look for buyers to be happy with losing money or breaking even for several years. ********** [ILLUSTRATION OMITTED] One of the key components of a CPA succession plan is the sale or transfer of the retiring CPA's ownership interest. How is the value of that interest determined? In most circumstances, the value of an owner's interest is different when selling to an external buyer than it is in an internal transaction. EXTERNAL SALES The most common question about accounting firm sales the authors are asked when teaching CPE courses is "What is the multiple (of billings)? " The multiple is determined by four main factors: 1. Cash Upfront, If Any In more than 90% of the 900-plus deals the authors have consulted on in the past 24 years, the down payments have ranged from nothing to 20%. The authors have seen many more deals with no cash down than with 15% to 20%. A typical down payment is 10%. The factors that affect buyers' thinking include: The time of year. For example, if a selling firm bills 65% of its revenue by May 1 and the closing is May 15, the buyer may have to carry the practice at a net loss or break-even for months, so the amount of the down payment, if any, tends to be less. Obviously, the same practice closing Jan. 1 is likely to get more upfront. As with almost all deals of this type, the buyer's ability to obtain a return on investment quickly usually affects the terms offered. Treatment of accounts receivable. Most sellers expect to retain their receivables--that is, the money they are owed for work they've already completed, plus work still in progress. This is logical. However, consider that the buyer will have to replace those funds, resulting in negative cash flow upfront from the operations. The situation is exacerbated if the acquired client base is accustomed to paying slowly, meaning that the buyer could have to wait months before seeing revenue come in from the buyer's billings. In those situations, the buyer will have to contribute more capital to meet expenses. This can result in lower down payments. On the other hand, the authors have seen buyers willing to make larger down payments for the practice if the seller is willing to lend the accounts receivable to the buyer for a period of time following the sale. The buyer then repays the seller for those accounts receivable once positive cash flow is established. Bank financing and other factors. Banks have tightened credit, making it more difficult to finance acquisitions. One result has been a trend toward lower upfront payments. If significant investments are required while transitioning the practice, such as for technology upgrades, the buyer may be unwilling to pay a lot upfront. 2. Retention Period The majority of external accounting firm deals base payments on collections. That is, the buyer pays a specified percentage of the fees it collects for a specified period after the deal closes. If the buyer loses clients and the fees fall during that period, then the seller receives less money Conversely, if fees increase, the purchase payments do as well. It's an arrangement that seems to fly in the face of most business sales, in which the buyer pays a negotiated price. …