Top 5 Variables in Valuing Accounting Firms under $2,000,000 in an External Sale

While most professionals will focus on the multiple when valuing an accounting firm, the multiple is the effect.  We need to understand the cause. There are 5 main variables that impact how you value a firm.

1)         Cash up front; if any

2)         The profitability of the deal for the buyer

3)         The duration of a retention period if any. This refers to whether or not post retirement; the purchase price is adjusted based on client retention

4)         The length of the payout period

5)         The multiple

This is based on the following: The larger the amount of cash up front, the less profit the buyer can expect to make, the shorter the retention and payout period, the lower the multiple, and of course the opposite. 

Let’s review an example based on the following premise. Assume the buyer can acquire a practice within their current infrastructure with practically no incremental increases in their overhead. How would the above variables impact the valuation?

If the seller would accept no cash down, a payout based on 15% of gross collections from the seller’s original clients for 10 years, structured as a consulting agreement, would you do that deal? Many firms would, even though the multiple is 1.5X but the lack of risk is very attractive.  But, if the seller says they want to be paid out over 3 years, they want 25% cash down, all good will, a one year retention period so lost clients after year one have no impact on the balance due, many buyers would reduce the multiple to under 1.00X. Same practice, two very different valuations!

As you can see, the multiple of a practice is determined by a collection of other variables. The above list is just a starting point. Many other factors such as assets of the firm, the nature of the clients, billing rates, growth potential, etc… will factor in setting the price.

The below link will bring you to a Journal of Accountancy article that goes through these 5 main variables and much more detail regarding the valuation of an accounting firm. Whether you are seeking to grow through acquiring a firm or considering a succession plan, these facts are critical for you to know:

http://www.transitionadvisors.com/articles/price_equals_value_plus_terms_joa_dec_04.pdf