David Bailey considers what the purpose of accountants are at the time of global business transformation and ponders the question; Is there a future for mid-sized professional accountancy firms and if so, what is it and how do firms get there?
The function that accountants currently fulfil in the economic system depends on maintaining the perception in the minds of clients that the accountant possesses high ethical standards, technical ability, skills in rapid analysis of financial data, delivers error free reports, and conducts deep analysis. It is based on a perception that accountants have special training and “secret knowledge”. Sadly, the profession worldwide statistically fails to deliver on customer expectations even at the most basic level, and that perception is getting worse, not better, as traditional clients are replaced by tech savvy and media aware younger clients. The truth is most clients can look up, online, in seconds, answers to almost any simple accounting or taxation query that they previously needed to ask an accountant for.
Partly as a result of these factors, client retention is falling across the small to medium accountancy practice sector. Clients move to online services, cloud providers, automated taxation platforms, online payroll and simple google searches. Many of the previous “purposes” of accountants have fallen away. None of that is an accident. Government, lobbied both by business and large accountancy firms, has raised the audit threshold (releasing a lock on clients for small firms), while simultaneously enabling a shift to digital submission of taxation via Making Tax Digital and to online submission of XML tagged filings at Companies House. This is part of a consistent strategy to reduce the cost burden on small to medium companies and to improve the quality of data held by the state for the purposes of recovering taxation.
The basic trends have all been well rehearsed by the learned bodies ICAEW, ACCA, IFAC, Journal of accounting , Forbes , and Float and they all say roughly the same things are likely to be reasonable responses to the current situation. They exhort accountants to:
1. transition to cloud software
2. automate as much as possible
3. hire, retain and train staff with more ability to achieve the first three points
4. be aware of the lifetime ambitions and work habits of the millennial generation
5. shift away from time and materials billing for commodity services
6. add value
So far, none of that is likely to be news to anyone running a middle -sized accountancy practice.
What firms have actually done in response to all of that advice is laid out in surveys done by people within and around the profession, such as the regular survey from Natwest, from payment providers such as GoCardless, and the major technology providers like FreeAgent.
And those results show that accountants have heard parts of the message but have not understood the totality nor the speed of the transformation that is required. Firms are not reacting fast enough, or completely enough, and they face an existential threat which they are ill-equipped to respond to.
Why haven’t firms adapted? The reasons are wide and all encompassing. Partly they lack the psychology in the ownership group to make decisions fast enough, partly they have the wrong structure, partly they lack sufficient understanding of what exponential change really means, partly they have the wrong financial objective, and taken together all of these deficiencies mean that a very large number of small to medium size accountancy practices are going to fail very rapidly over the next 3 to 5 years. Owners risk finding that they have zero capital value and are highly unattractive to succeeding management.
What are the problems?
It’s worth taking these deficiencies in reverse order to work out what is happening here.
The financial objective of most accountancy firm partners is to build up a large recurring fee-based structure which can be sold on a multiple of fees to a larger company. Traditional metrics for sale value have steadily fallen from 1.5 X to 0.9 X fees at sale as retention periods have shortened, margins have been squeezed, and costs of retaining staff have risen. The traditional target of building up a sale value of £3 million to £5 million per partner at the age of 55 to 60 is just not likely to be achieved by the vast majority of small to medium accountancy practices. That pension pot is evaporating faster than firms can pour hours into it. Whether the exit was from sales to a larger practice or by convincing younger managers to take out bank debt to buy out the senior partners, it is becoming less and less likely.
The cost of investing in technology platforms, especially cloud accounting services, have not yet led to the expected growth in value for firms that have implemented them. Firms have seen a loss of cash, increased borrowings, and falling profits. These things are apparently only a surprise to accountancy partners. Everyone who has ever been involved in the software transformation of any industrial sector has seen that introducing software rapidly displaces labour and almost always increases capital requirements and crushes profits in the sector dramatically - sometimes by around 90%. This transformation also involves a rapid shift of capital from the service provider to the software company (which is often the only major benefactor).
• What if, instead of rushing for an exit and an early pension, partners had financial resilience and sustainability at the core of their objectives?
Exponential change is extraordinarily difficult to understand. Whole university courses are now devoted to it, indeed one is named after it, yet it is hardly talked about in the accountancy world. Most firms build their financial and management models based on “last year plus X percent”. This simply does not work in the modern world. Products are adopted more rapidly, technologies develop more rapidly, changes happen more rapidly, but they do not last any longer. And that is the key point: the period of optimal exploitation of new things has halved repeatedly, from 60 years, to 30 years, to 15 years, to 7 ½ years, to 3 ¼ years, … you can see where this is going.
How can small to medium size accountancy firms survive, let alone thrive, if they have two constantly double their speed of change, yet only have half of the available time to exploit their investments?
Over the last 10 years firms have been increasingly structured to service bulk commodity work such as monthly accounts, monthly management accounts, annual filings, tax returns, credit control, and payroll. Firms have been “hollowed out” – they have many more lower-level administrative and technical accounting staff, fewer managers, and a relatively large number of partners. This is precisely the wrong solution for the future. Online packages – Iris, Sage, Xero, Free Agent – have rapidly de-skilled lower-level jobs and made managerial roles in accountancy firms deeply unattractive to ambitious millennial graduates. Yes, this has boosted profit per partner. But it isn’t sustainable, and it does not provide the agile, flexible, resilient firm that is going to be needed to survive the future of exponential social and technological change. Most seriously, it removes the “down time” in which smart motivated people can think about adding value to clients.
Small to medium accountancy firms have also been structured to service a traditional model of a simple, stable, trading business that requires payroll, taxation, accountancy, and accounts filing. Those firms are rapidly ceasing to exist.
Predominantly, jobs and wealth are created in fast-growing entrepreneurial companies, but these tend to be relatively short lived, and that lifetime has shortened dramatically (for instance the average lifetime of US listed companies has fallen from 65 years to 15 years). The numbers are even more dramatic if we strip out the illusion created by the hundreds of thousands of “one person companies” designed purely to delay personal tax bills! The model client no longer exists and has been replaced by hundreds of different models with competing and changing needs. A new service structure is needed.
• Is it even possible to predict the optimum structure of a firm to fit an unknowable future?
Decision-making in accountancy firms is notoriously slow. While many firms pride themselves on their internal communications, the process of having an idea, confirming an idea, socialising an idea, taking an idea as a written proposal, discussing it at a board meeting, revising it a couple of times, working out a finance plan, working out a hiring and recruitment plan, and putting it into effect takes, in my personal experience somewhere close to 9 months. Big consultants have studied it for years, but the facts have not changed. The average “change cycle” in any small to medium size accountancy firm I have come across in the last decade is close to 3 years.
Some time, very soon, the decision-making time and change cycle of accountancy firms will fall below the technology and social change rate. At which point, simple Darwinian evolution will kill off slower firms with increasing rapidity. I think we are already seeing this among some of the more traditional firms.
• How then, can small to medium accountancy firms improve the speed of the decision-making processes without losing any of the accuracy and value in their decisions?
The psychology of the majority of accountancy firm partners hasn’t changed much in a hundred years. They remain, overall - risk averse consensus seekers with a focus on detail. They tend to score highly on introversion, agreeableness, and conscientiousness. In traditional psychological terms, they tend to score lower on emotional well-being and openness to new experiences. In similar terms using DISC, they score low on dominance, moderate on influence, and very high on compliance and steadiness. on Numerous studies have shown that having a better psychological understanding of the firm and its clients can improve sales and growth. The very best firms put a lot of effort into helping managers fit the “right sort of psychological profile” to become a partner.
This is excellent for repeated intellectual work designed to produce accurate outputs for clients from a group of people who must share financial and reputational risk in a traditional environment. It is also just about the worst combination for dealing with constant rapid change, new technology, and uncertainty.
• What sort of person would make a great partner in the onrushing world of artificial intelligence, robotics, cloud solutions, entrepreneurs, and exponential change?
Some firms I talk to seem to think that they can decide on these issues later. When things are clearer. When they have more facts. After deeper analysis. That is a major strategic error. The time for that has passed. Unless firms can rapidly shorten their decision-making loops, they are going to fall outside the pace of change. Fortunately, every now and again, there is a forward-looking, agile, technologically savvy accountancy firm that proves me wrong. It is not going to be possible to plan in the traditional manner as the reality and demands of business are going to be changing faster than planning can cope. The only consistent factor will be change.
Right now, firms should have plans in place to decide how they will survive (let alone grow or extract capital) when:
1. Their clients will be predominantly younger entrepreneurs. Modern companies are formed fast, often through an accelerator process, grow fast or die fast. They then exit to other companies, will transform. Throughout this process the needs of the founders and owners of those companies change rapidly. I’ve worked with several companies that have been through more than three strategies a year, more than three major fundraising is in the year, and which have achieved over 10 X revenue growth in a single year. Management accounts, payroll, tax filings, are very low down the list of factors for managers in those companies.
2. Your customer will be a robot or an artificial intelligence. This is my ultimate answer to people that come back with the quip “but customers will always want to deal with me as an expert”. Sorry. That simply isn’t true. Artificial intelligence, once introduced, always outpaces, outgrows, and out competes any other solution. This is happened time and time again. Accountancy firms worry that their managers might be replaced by artificial intelligences, but they should really worry that their customers will be replaced by them.
3. Change starts happening faster than you can decide. This requires a complete shift in the internal attitude, thinking, and processes of an organisation. It isn’t easy. But every six months the decision is delayed, you have probably halved the time you have left to implement it.
4. Staff will leave faster, and even faster than clients leave. This “hollowing out” effect is extremely serious as it strips the firm of three critical factors – the ability to plan succession, the ability to add value to clients, and the ability to motivate new staff. Staff will not leave just to go to bigger firms, or to large industrial clients; they will lead to start their own businesses in completely unrelated sectors because the barriers to starting up in those sectors are also falling rapidly. Some, an increasing number, or simply leave for lifestyle reasons. It is no longer in any way attractive to sit in front of a computer screen and press buttons 10 hours a day, 5 ½ days a week.
What can firms do to cope with all of this?
I hope it’s clear from the above that merely introducing technology by paying for it is not the right solution. Nor is deskilling work and pushing clients onto cloud software platforms. Here are just a few thoughts on things that might work. It’s not a perfect list, because the perfect list does not exist. And when it does exist, it will be out of date. What it should do is enable everybody to move fast enough so that some of them survive long enough to find what does work!
1. Change the financial strategy of the partners
2. Become agile and change faster
3. Embrace change
4. Buy in the skills for change
5. Change the billing method
6. Adopt new technologies
7. Add value
Financial strategies that focus on resilience, sustainability, and constant investment to sustain change are those most likely to succeed. Perhaps partners need to work longer, and give up the idea of a wealthy, golf playing retirement at 55? Could they focus on working longer where they can add real human experience and value to founders and investors for decades?
Becoming agile is a major issue as it requires psychological as well as structural change. It means embracing risk and change and investing in that. It means understanding the social, environmental, technological and process issues in an agile business. Not just for today, but for a future of permanent change.
Embracing change is no longer optional. How we do that is a direct threat to the traditional model of accounting firms. The ethos of “hypothesis – build small – fail fast – fail right - measure – react – repeat quickly” needs a lot of care to introduce to a business with an output of accurate timely regulated information! It can be done. It is just a bit more difficult than it appears.
Where the skills and experience to deliver on this transformation do not currently exist in a firm, those skills can be bought in. There are many consultancy firms, recruitment companies, and freelance talents who would love to help. There are many models of engagement with talent that do not involve making somebody a partner or directly employing them.
Models of charging for hours are rapidly falling out of favour, and for good reason. They encumber the firm with substantial administration, create demoralised staff, lead to inappropriate goal seeking, and are a source of constant anxiety for partners who are measured by them. New billing models are much more efficient. Shifting to a model of fixed fees while attempting to improve efficiency (“time under budget”) and value added can totally transform a firm. In some cases, selling based on the value delivered to a client, by way of a fixed fee plus a proportion of the game drives real alliance between client and firm without creating unmanageable conflicts of interest.
Adopting new technologies needs to be done in a different way. Smaller, reversible, cheaper changes are the way to be more agile and appropriate to your clients. The big challenges of collecting financial information, vouchers, invoices, receipts, and so on have pretty much been solved by the large online platform providers. The new challenges are in the forms of providing appropriate information to clients about the wider business environment, providing forecasts and intelligence, analysing processes, assessing the quality of staff and executive talent, finding new customers, regulatory and legal change, and a hundred other areas all of which impact upon the financial results. I recently worked with companies building over 20 sorts of artificial intelligence all of which will have impacts on those areas. Some of them are truly extraordinary in their ability and speed of improvement. Who will need to consult a valuation partner when an online artificial intelligence with 99.9% accuracy is available at the click of a button? Given that taxes are entirely codified, how long do we think it will take before one can speak to an online artificial expert about 99% of all complex personal and corporate tax problems? Why does your management account pack not automatically contain trend analysis, competitor analysis, economic and legal factors, and a fully flexed cash flow forecast taking all the above into account against over 2 million successful businesses? Why are your clients factored invoices not automatically flexed against forecast sales and cash flow forecasts? Are job adverts for predicted vacancies in all departments not automatically created against forecast and trend sales? Why is there ever a question as to where an item in WIP is against a customer order or stocking requirement?
Adding value is the big one. There is, I strongly believe, a future role for experienced partners in small to medium sized accountancy firms. At least the ones that manage the transformation described above. The key is adding value. I opened this article with the comment about “high ethical standards, technical ability, rapid analysis of financial data, error free presentation of reports, and deep analysis”, and that remains key to the future provided it is matched to effective management of rapid change. That value-added is often at points of crisis, opportunity, or major change for your client. You need to be there when they happen, with the answer, and a proven ability to deliver it at a fixed price.
Factors that I have seen directly contribute to partners who succeed in these rapidly changing times to add value to their clients include:
• Setting clear expectations around a shared vision. Have the courage to ask the founders and investors in the business what their objectives are for the immediate future, mid-term future, and longer term (all the way through to inheritance issues). Experienced partners have the gravitas and authority to ask those questions and should not be shy of doing so.
• Having the commitment to invest in relationships with founders and investors. Until, and unless, business owners and directors are replaced with robots, that relationship is the key to client retention and profitability. This is a professional relationship, not football buddies, not drinking friends, but something more akin to a trusted surgeon.
• Investing in the level of understanding of the partner and bringing forwards relevant and useful information from multiple sources. Where partners can extend their understanding of the business beyond that of what was in last year’s accounts, and into the trade press, sector reports, competitors, and opportunities they will find substantial value for their clients that is returned by way of additional work and future opportunities.
• Creating regular and open dialogue. It is not necessary to have a one-hour phone call every week, but to create an environment in which that call could be held. Small, non-interrupting, well-crafted messages together with planned follow-ups and conversations have substantial long-term value. If the last time you spoke to your client was when the accounts were filed or the AGM then you’ve probably left it far too late.
• Investment in training of staff at all levels. It is likely that firms will have fewer staff – most having been replaced by platforms and systems – but the staff it does have need to be capable of adding valuable insight to every client.
• Genuinely understand technology, now, and in the near future. This means getting ahead of the curve. Ironically, it is one area that there are no good artificial intelligence tools to help us with. I’m sure that will change. There is a close alliance between trusted accountants and trusted information technology partners that stems back to the earliest days of bookkeeping machines and punch cards. Firms that have partners and managers that can immediately guide clients to the right technologies for them, are likely to be better at guiding their own accountancy firms.
• Honest and constructive feedback is often very difficult for accountancy partners. They spend their life trying to avoid conflict and friction within their own companies and are often psychologically ill-prepared for it when delivered by their customers. Learning to welcome it as a personal journey for every partner, but a journey that is handsomely rewarded.
• Strive for win-win agreements that benefit the client. Take ideas to the client, introduce them to potential customers and suppliers, find talent for them, introduce them to other experts – especially great lawyers.
• Encourage a balance of personal courage and consideration – but do so quickly and effectively.
There is good news for those very few firms that effectively address transformation, commit deeply and totally, and have just enough luck to be amongst the last few standing in the sector. The good news is that - a few years after the digital transformation of any sector - profits quite often begin to rise again. They are, often, shared by fewer companies. The question each and every partner in each and every firm should ask is: “Will that be us?”
I hope this article has sparked some thinking and a sense of urgency amongst partners and directors in small to medium sized accountancy practices serving the SME sector. The future is there to be grasped, provided you started yesterday or are prepared to run and catch up.