Internal Succession FAQ

Many firms find out too late they are not prepared for partners to leave or retire as they thought. Here are some helpful things to review to ensure your circumstance is different. How many interactions will there be - and how many are necessary - to get the clients and their new assigned partner acclimated with one another?

• Are you firm's clients "partner loyal" or "firm loyal"? Smaller firms often have "partner loyal" clients as the partners typically are more hands-on therefore the transition time needs to be longer than for the clients that are firm loyal.
• What role and responsibility does the partner retiring have to the firm and to the clients? Does the partner, or soon-to-be partner, have the skill set or experience to replace the role and responsibility of the retiring partner? An example of this might be a tax manager is not necessarily a good choice to replace an audit partner just because they are "due" to be a partner.
• What level and/or amount of work performed by the retiring partner can be absorbed by current partners?
• If a person or persons currently "in-house" were to be promoted to partner or absorb certain roles or responsibilities, is there capacity to accept the responsibilities of the individual or individuals replacing the retiring partner?

Is there adequate time and opportunity to create a smooth transition?

• If you believe you have an internal succession solution, what is the amount of time the person or persons will require to be ready to replace a retiring partner or partners?
• How often are clients seen in person by the partner slowing down? If it is only once a year that means 3 years is only 3 visits!
• Are your firm's clients "partner loyal" or "firm loyal"? This is necessary because each partner may have a different level or type of client relationship within the same firm.
• Is there an inclusion in the partner or operating agreement that addresses a retiring partner giving insufficient notice, without cause, such as death or disability, to have an efficient and effective transition of both role and responsibility?
• Is there an effective and on-going mentoring program within the firm to accelerate a manager or other individual in the event of an unforeseen or immediate need to replace a partner?

How many billable and non-billable hours does the outgoing partner devote to the firm?

• This question speaks to the need to identify the roles and responsibilities of specific partners within the firm as you determine the probability of replacing both as well as instituting a smooth transition

Does the firm, especially the new or replacement partners taking on these responsibilities, have the capacity to absorb the additional workload?

• There is no question there is a ripple effect within a firm of any role and/or responsibility reallocation. This ripple effect can reach all the way down to the clerical level in some circumstances and can negatively affect everything about a firm including but not limited to its workload, quality of life, financial resources, client services and or service models, future expansion or growth pursuits and many other factors. It is critically important a ripple effect analysis be performed to the lowest levels in the firm when determining a firm's ability to exercise an internal succession solution. Many firms have done this analysis only at the partner or senior staff level and soon discover the internal succession solution may have been reasonably successful at the highest levels in the firm but created chaos beneath that level.
• What is the overall expectation level of the ability of the new partners to completely "fill the shoes" of the retiring partner(s)? And what is the ripple effect if the expectation level is not, understandable so, to step in and immediately assume 100% role and responsibility?
• What is the lead time your firm feels is necessary to groom a successor partner? Many firms identify that a minimum two year window that is required to give both notice of retirement and for the "replacement partner" to begin this timing is reasonable and usually works well.
• Can the "Productivity Capacity" be reallocated? If so, what is the ripple effect on the person or persons to which it is reallocated? Replacing a partner's leadership role or client relationship responsibilities is one necessary act, and replacing the productivity capacity is another. To identify the productivity capacity it is not just a question of "what is his or her book of business?" or the fees associated to that partner. Identifying productivity capacity is a series of questions focusing on "Who, What, When, Where, Why & How Much?"

Does a retirement-minded partner have any specialties or licenses that a firm would lack once the partner leaves?

• If in fact this issue exists, it is often a very challenging situation, and goes back to our suggestion that both the role and responsibility must be replaced. It also supports our suggestion that a two year notice allowing ample time for role reallocation or role succession be enforced. Having too much time is better than not enough.
• The two-year notice period we recommend will also allow time to conduct an external search if the solution is not currently in-house. Depending on the role you are replacing a two year window may not be enough. It may take a year to find a suitable replacement and then the transition itself may need an additional two years.
• On the other hand, it may be perfectly acceptable to a firm to allow a certain responsibility or service formerly provided by the retiring partner to cease to exist if the impact is small and the benefit of replacing that role or responsibility is negligible to the firm. This decision can be a sound business decision and one that is good for the firm, under certain circumstances.

For more information:

• How to Manage Internal Succession by Joel Sinkin and Terrence Putney, Journal of Accountancy, c2014
• Making the Transition-Has Your Firm Got What It Takes For a Successful Succession? by Joel Sinkin The Practicing CPA, c2011
• Planning and Paying for Partner Retirements by Joel Sinkin and Terrence Putney, Journal of Accountancy/AICPA, c2012

The internal succession readiness assessment is an involved process and will focus on the following key questions:

• Can your firm obtain the necessary talent?
• Can your firm develop the talent into internal successors?
• Do you have the proper financial arrangement to attract and keep the talent?
• Can you develop an effective transition plan?

Does the firm possess an objective or subjective track to becoming a partner? It is our experience that many firms use an almost completely subjective set of measurements or requirements to make partner and this can often become a "moving target" in the mind of the person or persons wanting to make partner. The result is frustration and eventual disillusionment, which means all have lost time and energy...and opportunity. We agree and understand that a subjective set of metrics or guidelines is necessary, especially as the firm tries to replace the roles and responsibilities of specific partners but objective performance metrics must be the dominant measurement for those seeking to make partner within the firm. Do the current practices and procedures of the firm demonstrate its level of commitment to internal succession? This is a question that always receives mixed responses. Most current partners would say, "Of course it does." As an independent and experienced consulting firm often called upon to assist a firm write its partner or operating agreement, our review often reveals a different perspective. Carefully review not just the current agreement but the activities and "cut in stone" programs that are in-house and available to mentor and educate the members of your team that seek to make partner. To this last question there is a follow-up question that must be addressed and that question is, "Does the firm provide both generic competency development and firm culture specific development?" Generic competency development would be classroom training, webinar, workshop, conference opportunities, books, videos or other training and education methods designed to assist the professional staff achieve the highest level of technical competence. Many firms do this but they stop right there. They do not initiate or do not have a strong internal program to create or enhance specific firm-culture development which would include strengthening leadership or management skill sets, specific and established timelines for increasing roles and responsibilities. Many firms have moved to a two or three-tier partner development program which would include making "income partner" as the first step, non-equity partner as a second step and finally equity partner as the final step. Each step entitles the person to an increased role/responsibility and benefit within the firm. The structure can be beneficial for several reasons:

• The person is prepared for and assumes the role of a partner before they actually become an equity partner
• They have a vested interest in the firm's profit and growth because they participate, in a small way but increasing manner, for each level achieved
• It enables a firm to present a specific sense of future opportunity and professional achievement more quickly than the old "either you are a partner or you are not a partner".

A suggestion we would make is to perform your own analysis of your firm's assessment and mentoring programs, as if you were not a partner but wanted to make partner. What would your opinion be of the firm's readiness assessment and internal commitment to an active program to mentor members of the team? For more information please read these articles:

• How to Manage Internal Succession by Joel Sinkin and Terrence Putney, Journal of Accountancy, c2014
• Succession Planning: The Available Strategies and How They Work by Joel Sinkin and Terrence Putney, CPA Practice Management Forum, c2009
• Planning and Paying for Partner Retirements by Joel Sinkin and Terrence Putney, Journal of Accountancy/AICPA, c2012

One of the major challenges to internal succession is the measurement of internal capacity and available talent against the projected timeline of the partner(s) succession. A simple test is to perform something like the below chart. Identify the role and responsibility of the projected timing and partner. Benchmark that against internal capacity, talent and readiness. Answer the question: "Can we make this work with what we have in-house?" If the answer is "No", then evaluate the other components of this Internal Succession module to evaluate what is necessary to procure a solution. An external solution may be the answer or you may be very close to possessing the necessary tools to create an internal solution. Partner Succession Projection (RR=Role Reallocation RS=Role Succession)

Partner	1-3 years	4-7 years	8+ years
A	RR
B		RS
C		RS
D			RR
E			RS

  Some would ask why Partners D & E, though they have the same timing, are being designated differently; Role Reallocation v. Role Succession? This circles back to the ability of a firm to replace both role and responsibility. In the example above Partner E had a responsibility that could not be replaced with current in-house capacity or ability and therefore needed a different solution. In this case the role needed a succession solution and that might need to be an external solution. Another vital consideration when considering the timing to either reallocate the role or provide succession for the role is the number of times per year the retiring Partner interfaces with the clients for which he or she has responsibility. The less frequent the clients are seen the longer the required transition. Another common challenge is that a firm does not take a progressive posture or develop a strategic plan until there is an issue. It is our opinion an internal succession plan is "firm insurance" as it helps to insure the continuity, profitability and longevity of the firm. Insurance does no good if you secure it after the catastrophe. This is also true of an internal succession "insurance" policy. A significant challenge to internal succession is the profession is experiencing a decline in the number of CPAs seeking careers in public practice; the majority opts to seek careers in industry. There are a number of reasons why this is happening. To list those reasons serves no purpose except to say it is causing an issue with the ability to consistently attract younger talent. It is our experienced opinion that smaller and mid-sized firms will need to take a much more active role to seek out partner mentoring, training or development programs for their professional and manager level staff. Most small and some mid-size firms are at a distinct disadvantage as they cannot lure talent from the regional or super-regional firms due to constraints such as professional upside opportunity or limited ability to compete with the larger firms on a net total compensation package offer, so it becomes incumbent upon them to develop their internal talent... or, understand they must seek an external solution. For more information:

• How to Manage Internal Succession by Joel Sinkin and Terrence Putney, Journal of Accountancy, c2014
• Planning and Paying for Partner Retirements by Joel Sinkin and Terrence Putney, Journal of Accountancy/AICPA, c2012

In summary, your shareholder/partner/operating agreement could single-handedly implode your internal succession plan. A dramatic statement? Yes, we agree it is but it does have significant truth to it. Many firms have not updated their internal agreement for years, if ever. It is most likely outdated, insufficient or not applicable especially when developing an internal succession solution. Many firms are currently operating outside of their original agreement and that may or may not present additional problems. Read your agreement and answer these questions as if you are a brand new partner or will soon be made a partner:

• If I were a new partner and read this agreement would I feel comfortable there is a long-term opportunity for me?
• If I were to calculate the cost of buying out the partners ahead of me would it be necessary for me to absorb a reduction in compensation or benefits to buy them out?
• If I were to project myself 15 or 20 years into the future do I have reasonable assurance I will be taken care of?
• Do I have confidence the partner or operating agreement has given significant effort to addressing many, if not all, of the future circumstances that can or may take place in a firm?
• Will this agreement reasonably stand the test of time?
• In the event the partners vote for an external merger does the agreement address that circumstance?
• If there were a problem internally between the partners would this agreement help resolve outstanding questions or concerns?
• What would I include in this agreement if I, as a new partner, were to rewrite it today?

We ask you to review these and other questions because your partner or operating agreement is just as important as your "merger" agreement, it is just used internally. When a new partner is merged in it should be viewed similarly to an external merger to a large degree and answer all the same questions. Some firms opt to have an outside industry specific consultant review and or re-write the agreement each time a new partner is admitted. The cost of this review could be a few thousand dollars depending on the firm and the agreement but that is often inexpensive "insurance" to give all partners, new and tenured, the confidence that all considerations have been incorporated. For more information please read these articles:

• Managing Owner Transition Through an Owners' Agreement by Joel Sinkin and Terrence Putney, Journal of Accountancy, c2014
• How to Manage Internal Succession by Joel Sinkin and Terrence Putney, Journal of Accountancy, c2014
• Replacing Retiring Partners by Terrence Putney and Joel Sinkin, The CPA Journal, c2009
• Planning and Paying for Partner Retirements by Joel Sinkin and Terrence Putney, Journal of Accountancy/AICPA, c2012

Admittedly there is more than one component necessary to developing a successful internal succession solution. But if we had to choose just one based on our experience of working with dozens of firms, large and small we would offer that it is necessary to acknowledge that the majority of firms do not possess or have not created a complete and constantly active plan for what we refer to as the internal "TRAC". TRAC is an acronym for Transitioning Roles Achieving Continuity. First and foremost we must address the fact that "times change." And with that change has come about a different set of goals, needs and expectations. It may not be entirely fair to suggest that younger CPAs do not possess the same work ethic or are not willing to work as hard as the more tenured professionals. It is important to realize long hours do not necessarily translate into more productive hours. Also it is necessary to address the fact that generations grow (and age) together. This simply means new business will come from younger business owners and it is important to have a connection to the upcoming generation of business owners and successful individuals. To believe that the firm itself should stay the same - same process, same procedures, and same methodologies - while the world changes around us might be short-sighted. Do not change your rules of business, but know that the most successful firms adapt their rules to match the direction in which the business world is changing. Accept that the partners or owners are responsible. It is the responsibility of the partner group or owner(s) to create a clear and defined path for someone to become a partner and eventually get to sit in your chair. It is the responsibility of the partner group or owner(s) to mentor the internal talent and provide the tools to be good managers, good leaders and good owners. Very few have the innate ability to be all of these things without some guidance or assistance. The chance of a person with all those established skills and abilities walking into your firm and asking for a position is not probable. The chance of a person walking into your firm with loads of raw skills and asking for a position is highly probable. Even a diamond needs the exceptional skill of a diamantaire (a highly skilled artisan responsible for cutting and polishing a diamond) to become a sparkling gem. Your staff's raw talent is no different than the diamond. The better you possess the skills of the diamantaire the more your staff and upcoming partners will shine. If a firm adopts this responsibility to a complete partner development, it is then the individual's responsibility to embrace the program and actively participate, in order to demonstrate their willingness to achieve the levels of competency and leadership required of a partner. The key success component to developing an internal succession solution is to become a diamantaire for your firm. This is your legacy. (It is also a very good idea if you want to receive your entire buy-out!) For more information please read this article:

• How to Manage Internal Succession by Joel Sinkin and Terrence Putney, Journal of Accountancy, c2014
• Planning and Paying for Partner Retirements by Joel Sinkin and Terrence Putney, Journal of Accountancy/AICPA, c2012

This is actually the first step you should take when evaluating your firm's ability to execute an internal succession strategy or plan. Many firms begin with an assessment of their current internal talent pool. There is no question as to the importance of that step; however, if a firm's current partner or operating agreement does not allow for future partners to advance their economic positions as a partner, your talent pool will not matter. Let's face the facts, very few want to make partner within a firm so they can have an impressive business card. Surprisingly enough, many multi-partner firms have current operating, shareholder or partner agreements that seriously restrict the financial ability of the firm to buy out the partner and provide reasonable longer term continuity or financial opportunity for the newer partners. A financial sustainability review should be the first step but there are other key valuation factors that must be determined and these are not necessarily tied to the partner's equity or compensation. They are specific to the role and responsibility of the retiring partner. In recent years and for the foreseeable future, more firms, especially the mid-to-large firms, are moving toward a compensation-driven retirement formula for their partners. When this particular methodology is benchmarked against the alternatives, it becomes increasingly clear why this, most often, has a significant opportunity to enable an internal succession solution, or at least the financial component of internal succession. However, this methodology also has its drawbacks as it cannot often factor key considerations such as:

1. Rewarding founding partners or those that have contributed significantly to the growth or profitability of the firm
2. Unusual or unique specializations a partner may possess or contribute that provides great benefit to the firm

Another popular method of determining a partner's value is the use of a unit-driven plan whereby partners accumulate units based on a multiple of factors. There is often a maximum value available to any particular partner and each unit will possess a specific dollar value. Smaller numbers of units are awarded to up and coming partners - income or non-equity - with the larger number of units awarded to the equity partners or shareholders. The popularity of this value plan is the ability to provide a sense of ownership to those being tracked for equity partner level yet the unit value at the lower end is not so large as put the plan out of balance. If this plan is executed properly it can be an effective methodology for rewarding retiring partners as well as for creating a bridge to becoming a partner for up and coming internal talent. Regardless of the plan your firm adopts one thing is certain, it is best to value your partner's retirement package by using a "Reverse Valuation Methodology". In its simplest form the retiring partner's foregone compensation has to achieve the following, at a minimum:

1. Cover replacement resources
2. Pay for the buyout including working capital
3. Leave some upside for the remaining partners

If it does not, then the continuity of the current firm is at risk. An external solution or merger for growth is a choice many firms are making but when making that choice it is best to make it because it is a strategic decision not one of desperation. Further information on this topic can be found by reading:

• How to Price an Owners Interest in a CPE Firm by Joel Sinkin and Terrence Putney, Journal of Accountancy, c2014
• Succession Planning - Valuing Partner Equity in Larger Firms by Joel Sinkin and Terrence Putney, CPA Practice Management Forum, c2009
• Planning and Paying for Partner Retirements by Joel Sinkin and Terrence Putney, Journal of Accountancy/AICPA, c2012