July 24, 2009

CONTROLLING LABOR COSTS IN CPA FIRMS

Salary and benefits expense as a percentage of net revenues is approaching and in some cases exceeding 50% in many CPA firms at this time. Fifteen years ago these expenses averaged around 35% of net revenues. The revenues of accounting firms have not increased at the same rate as salaries and benefits during this period when technology was supposed to save time and help accountants be more efficient. In order to address this issue I think we first need to understand the changing dynamics in the profession and the past events that have brought us to this point.


DEMOGRAPHICS OF THE PROFESSION

The following chart reflects the age and gender demographics of AICPA members:





Source: Misean E. Reed Manager - Diversity, Work/Life & Women's Initiatives, AICPA


For many of you this is not surprising as there has been much discussion in the media and at conferences about the aging baby boomers and the succession crisis. What I would like point out is that the vast majority of CPAs are now 46+ years old, experienced and expensive yet still doing much the same work they did 10 or 15 years ago. The value of the work has not kept up with the salary costs of trained professionals. Yes, a number of individuals have become partners and provide high value services, however their numbers are relatively small when compared with the total number of CPAs. At conferences and meetings where I have given presentations most accountants tell me that at least 50% of their work could be done by someone with less experience. It is no wonder that salaries and benefits as a percentage of revenue are at an all time high as many accountants are not providing commensurate value for the fee being charged. The recent downward pressure on partner income will only become greater as time passes if we continue this current trend. To further understand this problem we have to look at the staffing models and client service strategies presently being used in many firms.

STAFFING MODELS AND CLIENT SERVICE STRATEGIES

When I ask partners why they are doing work that could be done by someone with less experience I typically get two answers, “there is no one to give it to” or “because I have the relationship with the client”. As a result of this type of thinking, the staffing model in many firms looks like an inverted pyramid or an hour glass that is bigger on the top. Using a high cost relationship service delivery structure to provide routine compliance services is typically not economically successful. To demonstrate my point, if a doctor practiced in the same way many accountants do they would call the patient in from the lobby, take their blood pressure and temperature, do the examination, write prescriptions, do the billing, collect the fee and schedule their next appointment. Just think what impact this would have on the cost of healthcare! The accounting profession needs to change from the labor intensive models of the past to a more process driven model that will take advantage of the time and labor cost savings when technology is used correctly. Please note that I am not saying that client relationships are not important, they are extremely important. It’s just that the work needs to be done in a more cost efficient manner.


PROCESSES AND TECHNOLOGY

In most industries, the use of technology replaces labor intensive activities or allows less experienced labor to perform tasks previously performed by higher cost employees. Just the opposite has happened in public accounting. As CPA firms have increased their investment in technology their labor costs have increased to an all time high. This has happened because most CPA firms have evolved and are designed around people rather than processes. When I inquire about certain processes in many of the firms I visit I usually get back the response that “Joe does that” and when I further inquire to see if what Joe does is written down, the answer is “no”. If Joe leaves the firm that part of the process handled by him goes with him. If the firm can’t find another person with Joe’s skills, which is often the case, they split his duties among several different employees making their processes ever more complex! I cannot begin to count the number of times I have seen processes in CPA firms designed to meet the needs of employees instead of designing a process and then hiring staff at an appropriate level to perform the needed tasks. It is time to reengineer CPA firms in a way that will allow for sufficient time to develop and maintain client relationships and provide value-added services while still being able to produce a quality product back at the office in a timely manner. Our industry needs to start thinking about how we can incorporate the “front office/back office” model used in many service industries.


A SUCCESS STORY

I recently gave a presentation at a meeting of an international accounting association on the subject of benchmarking and profit improvement. As part of this presentation I analyzed the member firms financial results for the past year and found one firm that was bringing 50% to the bottom line. This piqued my interest so I had the managing partner from this USA firm explain to the other attendees how they had accomplished this achievement. He stated that he and his partners had started over several years ago and decided that they were going to do business differently. Their oldest staff accountant is 28 years old and their salaries and benefit costs are about 30% of revenues. Partner income is on par with the top 100 firms yet they are about $3 million in size. This is quite a success story and one that can be replicated in most CPA firms with persistence and improved processes.

DON’T TEAR UP THE HOUSE

I told you this wouldn’t be easy but before you tear up the house and make drastic changes let me caution you that this is a journey not an event. Process improvement takes time and thought. If you set a goal of 2% improvement per year for 7 years, a 36% netting firm would become a 50% firm at the end of that time. The important thing is to start this profit and process improvement journey now in order to institutionalize the value of your practice. Here’s where I would start:

Standardize EVERY process in the firm that can be standardized
Document all standardized processes
Deal with exceptions individually, don’t change the process
Gradually reassign appropriate work and tasks to lower level staff
Actively manage the delegation process to insure success
Use non-CPAs whenever possible
Analyze the contribution margin for all clients and develop a profit improvement plan which includes using less expensive labor to perform some of the services
Don’t get side tracked. Keep moving the agenda forward

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