IN OUR OPINION, PERSPECTIVE #69— October 15, 2018
(A Continuing Series for Leading CPA Firms)
NOSE-IN, HANDS OUT — HOW DOES YOUR EXECUTIVE COMMITTEE CHARTER COMPARE TO BEST OF BREED?
“Good governance requires working toward common ground. It isn’t easy.”
— Pete Hoekstra
In Our Opinion, every small and mid-sized CPA firm requires an Executive Committee that serves as the key corporate governance mechanism within a firm.
Said simply, an effective Executive Committee keeps “its nose in but its hands out”. In other words, an effective Executive Committee has the responsibility to be the check and balance over a firm’s operations but isn’t responsible for running the day to day activities. That is the responsibility of the firm’s CEO and the firm’s Operating or Management Committee. And there is a fine balance between oversight and management. In addition, the oversight role can be riddled with conflicts for Executive Committee members who sometimes struggle between firm-first vs. self-first.
When is the last time you looked at your Partnership or Operating Agreement to see what it says regarding duties and authority of your Executive Committee? It might be a good use of your time if you compared what’s in your Agreement against best practices for the most important oversight provisions as summarized below.
For the best of breed among small and mid-sized CPA firms, here is what we typically see as the Executive Committee charter. The summary is not 10% complete. Rather it covers the most important provisions.
The Executive Committee:
- Is responsible for the high level (nose-in, hands-out) oversight, control, operation and administration of the firm (other than day-to-day activities which are the responsibility of the CEO and the Operating or Management Committee).
- Formulates policies to guide the conduct of the affairs of the firm and is responsible for the growth and business of the firm.
- Has general authority:
- to approve policies formulated by the Audit department governing the activities of members as they might affect the firm’s independence;
- to enter into agreements regarding terms of withdrawal and separation payments (including retirement payments);
- to create additional committees as are appropriate and to designate the members who shall serve as members of such committees and their terms of membership;
- to cause the firm to engage in other beneficial businesses provided that such businesses reasonably complement the public accounting practice of the firm and will not cause the firm to violate, forfeit or be in default under any permit, license, regulation, ethical standard or applicable law related to its public accounting practice or any other business which it may conduct;
- to sell to third parties one or more segmented practices or businesses of the firm; and
- in its discretion, and at its option, to appoint and replace individuals to serve as Chief Operating Officer, Chairman of the Executive Committee and/or Vice-Chairman of the Executive Committee. No member may serve as Chairman or Vice Chairman subsequent to the applicable mandatory retirement date.
- The Executive Committee will consist of the CEO (by appointment) and, at least, three equity members (elected by the equity members at large to a term of three years). No elected member of the Executive Committee may serve for more than two successive three-year terms; provided that an individual shall become eligible to again serve on the Executive Committee after one year’s absence from the Executive Committee. (The CEO cannot be a candidate for election to the Executive Committee while he/she serves as CEO as he/she already has a seat on the Executive Committee). No member of the Executive Committee may serve in such position subsequent to the applicable mandatory retirement date. The Executive Committee is authorized to adopt rules and procedures for the conduct of meetings and elections. The Executive Committee Chairman presides over all meetings of the Executive Committee.
- The following is a summary of the actions on which the Executive Committee is required to vote upon:
(a) A supermajority vote (usually two-thirds or three-fifths) is required to approve the following:
(i) CEO’s compensation for and removal;
(ii) reduction of a member’s total compensation (draw and profit allocation);
(iii) admission of new equity member to the firm;
(iv) withdrawal of a member from the firm;
(v) extending the mandatory retirement date for any member;
(vi) dissolution of the firm;
(vii) acquiring certain businesses;
(viii) selling certain assets;
(ix) increasing the cap on compensation used to calculate retirement benefits; and
(x) reclassification of members.
(b) A majority vote is required to approve the following actions:
(i) the terms of any member Agreement in Supplement;
(ii) required decisions regarding member cash paid-in capital;
(iii) required decisions with respect to member meetings, such as determining the date of the annual meeting, whether and when to hold general meetings of the members;
(iv) approval of outside investments and business of the members, which may adversely affect the independence of the firm with respect to any clients, and any member’s debt or equity
investment in a firm client;
(v) determination of whether to require a background investigation or physical examination for any member;
(vi) determination of whether to indemnify and hold harmless any member from claims as a result of such member’s being a member, employee, officer or representative of a firm;
(vii) the election of the CEO, subject to the ratification by the equity members;
(viii) make certain decisions with respect to member compensation, including (a) the amount of each member’s annual compensation (including a new member’s compensation); (b)
adoption of the member compensation plan and amendments thereto, and (c) reductions in a member’s draw;
(ix) make certain fiscal and tax decisions, including (a) year end, and (b) tax elections;
(x) make certain decisions regarding admission and reclassification of members, including (a) admission of new nonequity members to the firm, (b) any reclassification of members (from
equity to nonequity and vice versa) and (c) establishment of procedures to request consideration for a change in classification;
(xi) make certain decisions with regard to distributions, including timing and amount, and offsets for amounts owed to the firm, to withdrawing members;
(xii) determination of certain provisions regarding a member’s retirement, including, (a) waiving the applicability of any disability benefits, (b) providing additional benefits which may be
reasonable to any member who is disabled; (c) providing additional reasonable compensation for deceased members and their heirs; (d) accelerate the payment of a member’s capital
upon such member’s retirement; and (e) the ownership of life insurance policies obtained by the firm on any member’s life; and
(xiii) interpretation of disputed provisions in the Partnership or Operating Agreement and approving amendments (subject to member approval).
- Regarding the CEO, an equity member, will be responsible for the management of the firm in consultation with, and reporting to, the Executive Committee.
- The CEO, with the advice of the Executive Committee, may delegate to one or more members of the Executive Committee or Management Committee or other individuals such of his/her duties and
- responsibilities as he/she may deem appropriate and may confer titles on such individuals to enable them to more effectively perform such duties and responsibilities.
- The CEO shall have the authority to enter into agreements or undertakings on behalf of the firm authorized by the Executive Committee or required in the day-to-day operations of the firm.
- The CEO is to be elected by a majority of the Executive Committee, subject to ratification by all equity members, for a term of four years. No equity member may serve as CEO subsequent to such member’s applicable mandatory retirement date, and a member may not commence a short term as CEO that will be limited by such mandatory retirement date unless that member served as CEO in the immediately preceding term. Other than the restrictions set forth in the Partnership Agreement or Operating Agreement, there is no restriction on the number of terms an individual may serve as CEO. Any CEO four-year term shall be extended, if necessary, so that the expiration of the term coincides with the Firm’s year end.
- The CEO may be removed by the Executive Committee by a vote of two-thirds of the then-current voting members of the Executive Committee, excluding the Chief Executive Officer.
A firm’s Executive Committee plays a very important but difficult role and its charter needs to focus on oversight — not management. Its members are partners in the firm and, as such, are evaluated by the firm’s CEO. That evaluation includes compensation and promotion recommendations. This situation can easily challenge an Executive Committee member’s intestinal fortitude and his/her ability to do what’s right for the firm. There are times when it isn’t easy to keep firm first. That is why it is very important that a firm elect its best and brightest partners to the Executive Committee and that the charter be adhered to (i.e., oversight).
Dom Esposito, CPA, is the CEO of ESPOSITO CEO2CEO, LLC — a boutique advisory firm consulting to leading CPA and other professional services firms on strategy, succession planning and mergers, acquisitions and integration. Dom, voted as one of the most influential people in the profession for two consecutive years by Accounting Today, authored a book, published by www.CPATrendlines.com., entitled “8 Steps to Great” which is a primer for CEOs, managing partners and other senior partners. In Our Opinion, is a continuing series of perspectives for leading CPA firms where Dom and his colleagues share insights, experiences and wisdom with firm leaders who want to “run with the big dogs” and develop their firms into sustainable brands. Dom welcomes questions and can be contacted at either email@example.com or 203.292.3277.