There is a very important acknowledgement that one needs to make if they are seeking a PCA partner to provide back-up and support. That acknowledgement is that the PCA partner gets all the headaches and does not really reap the rewards, especially if the reason for triggering the PCA is short-term disability. Therefore you must make this attractive or they won’t do it… and neither would you if the shoe was on the other foot.
In summary… be realistic!
An agreement creates attractive value by taking into consideration the following:
- The deal structure of the PCA. Certain industry studies have declared as many as 20% of clients will leave in the first month their professional is not available. Another 24% will leave in the second month. We cannot attest to the accuracy of these numbers, but we do know there is significant attrition risk and clients do leave. Therefore the most likely deal structure will be a straight collection deal.
- Most likely the multiple will be less than market value of a similar practice in a non-distressed scale because there is the probability of little to no transition assistance not just of the client relationships but of understanding the specifics of the distressed firms’ practices and procedures. Therefore much more time and resource utilization will be required of the successor firm.
Other variables impacting the valuation:
- Tax consequences – what will the tax structure for the purchase be?
- Down payment – If a down payment is negotiated it must be reasonable because of the attrition risk and cash flow uncertainty. Most PCA agreements have no down payment.
- Treatment of A/R and WIP. If I am the successor firm I acknowledge the A/R belongs to you but what is my anticipated working capital requirement? Does the distressed firm have a larger A/R file which would roll to him or her for a significant time thereby forcing me to produce many months of working capital while the A/R goes to them? Not attractive if that is true. Will there be a loan of a percentage of the A/R to the successor firm thereby reducing their need to come out of pocket? It would be a short term loan so the seller (or heirs) receive benefit of the A/R as soon as possible but a short term loan of A/R makes this much more attractive to the successor firm and therefore it is likely a better offer will be made for the purchase.
- The profitability of the practice, the firm’s metrics and the payout period.
- What will be included in the purchase if that is triggered?
Here is a list of items to review and please keep in mind you cannot negotiate the value under today’s circumstance which is that you are well and healthy. You must make allowance for the risk and workload the successor is assuming.
Other assets, either acquired or required, to be included
- Furniture, fixtures, equipment
- Leases and location
- Staff joining the new firm or not joining
Participation in Future Growth
- Fee increases from prior services
- Fee increases for new services
- An override on the sale of your practice to a PCA partner who is acting as a guardian of the practice until it can be sold to someone else. It is our professional and experienced opinion that, in the event of your disability, death or illness the PCA partner should receive, at a minimum:
- A significant percentage of the profit if not all of it in certain situations
- A significant percentage of the collections
Remember, especially in the case of temporary disability, it is more important your PCA partner keep your asset alive and doing well, than for you to make money on their efforts during the initial stages of an enacted PCA agreement.
In the event of its exercise, a PCA is a distressed situation at best, and it’s likely that the practice has or will sustain losses – i.e. financial, client, reputation, time, retention and referral network. It is also highly probable that you are most likely unavailable to perform any meaningful transition or service. The bottom line is that if you don’t make the financial component of the PCA attractive, why would anyone agree to do it?
For more information:
- Who Would Run Your Firm? Journal of Accountancy, c2011
- How to Value a CPA Firm for Sale by Joel Sinkin and Terrence Putney, Journal of Accountancy, c2013