June 21, 2020

PERSPECTIVE #112 — IN OUR OPINION, JUNE 22, 2020

(A Continuing Series for Leading CPA Firms)

POST COVID-19, ARE YOU THINKING ABOUT CHANGING

YOUR PARTNER COMPENSATION PLAN?

“Any compensation scheme, if it is to stand up over time, must

pass two tests; that of internal; equity and that of external equity.

Internal equity requires that ., whatever the rules are, they be

applied in a consistent manner. The test of external equity:

do the compensation rewards in the firm reflect

the economic realities of the open market?”   —David Maister

Setting partner compensation is often referred to as an art and not a science. We also frequently say “show me your compensation plan and we’ll tell you your firm’s strategy.

As consultants to small and midsized CPA firms, we frequently have the opportunity to provide guidance on partner compensation plans and it never ceases to amaze us to see how many plans fail to motivate partners and help perpetuate the firm.

We find that some partner compensation plans are very formulaic: as an example, you get X% for how much you bill and collect, Y% for your personal billable hours, and Z% for new business originations. We also find some firms are very socialistic: as an example, every partner gets an equal piece of the firmwide partner distributable income regardless of individual contributions. And yet other firms are a hybrid with partner compensation bands that are very narrow; as an example, the highest-paid partner can earn no more than three times the lowest-paid partner. Many of these firms also have an “open” disclosure compensation system with all partners knowing what each and every partner earns. More often than not, these “open” disclosure compensation systems further dilute the impact of these plans by creating disharmony among partners because of perceptions as opposed to the realities of partner performance.

It’s our view that the partner compensation plans referred to above reflect yesterday’s thinking and, post this pandemic, will not help grow firm revenues and profits or move the needle on overall partner performance.

While this pandemic has taken a huge toll on human life and the world’s economy, there are several silver linings out there. One of them is the opportunity to take a hard look at your partner compensation plan and start thinking about changes that would make your firm more competitive moving forward.

As examples, post COVID-19, with many of the Top 100 firms anticipating a falloff in profitability (at least in the near term), Managing Partners are thinking about:

• How their partner compensation plan needs to change to better motivate the firm’s highest performers and improve overall partner performance?
• Where they should be placing greater emphasis in this new normal. Are what we measured and held partners accountable for in the past still the highest priorities for the firm?

In addressing questions such as these, we suggest that the answers not contain a pre-determined formula as to how partner contributions are weighted in arriving at an individual partner’s total compensation. On the other hand, a subjective, annual determination of an individual partner’s total compensation should be made with the premise that the responsibilities of each partner will be discussed one-on-one in arriving at a partner’s individual goals for the upcoming year.

We haven’t heard much about what partner compensation plan changes firms were being contemplated post-pandemic. So, as a no-fee service, we recently reached out to over 350 Managing Partners at leading small, midsized and larger CPA firms and asked, “Post COVID-19, are you thinking about changing your partner compensation plan”? 29 Managing Partners responded to our straw poll. Their input provides a glimpse into the current thinking regarding partner compensation plans post COVID-19 at leading firms across the United States.

The headline takeaway of the straw poll is that post COVID-19, with current profits likely to take a short-term hit, almost 90% of the Managing Partners who responded are either very likely or likely to implement tighter accountability over partner performance with a direct link to partner compensation.

OTHER KEY TAKEAWAYS

Presented below are other key takeaways of the straw poll. It is important to note that all key takeaways may differ with a larger number of respondents:

• Almost 45% of the respondents acknowledged that their current compensation plan made it difficult for partners to clearly understand how their compensation was determined. Many are either very likely or likely to improve transparency and documentation as they:
  • desire to improve the motivation of their highest performers.
  • want to address the general perception that their current compensation plan is unfair and inequitable.
  • need to accelerate overall partner performance.
• Almost 29% of the respondents indicated that they currently don’t have annual goal-setting but many are either very likely or likely to implement such in the near future.
• In their desire to drive revenue and profit growth and to accelerate overall partner performance, more than 31% of the respondents are very likely or likely to place greater emphasis on collaboration and team-building when determining partner compensation.

OVERVIEW OF RESPONDENTS 

Data for this report was collected during June 2020 from 29 Managing Partners of small, midsized, and larger firms across the United States.

• About 79% of the firms have annual revenues of less than $40 million while 21% of the firms have annual revenues of $40 million or more.
• 69% of the firms have less than 15 full equity partners while 31% of the firms have more.
• Almost 52% of the firms had average full equity partner compensation over $500,000.

IN CONCLUSION

The messages communicated through a firm’s compensation plan are just as important as the amount of compensation a partner receives for his/her contributions that perpetuate the firm. These messages affect the firm’s ability to grow revenues and profits and influence how partners choose to allocate their time and efforts. COVID-19 has created lots of gloom and doom, and many anticipate that it will take several years before CPA firms will get back to performance levels experienced before the pandemic. Positive changes to a firm’s partner compensation plan can help accelerate overall partner performance.

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After 47 years in the accounting profession (with responsibilities that included CEO of Grant Thornton and COO of CohnReznick), Dom Esposito, CPA, launched ESPOSITO CEO2CEO, LLC — a boutique advisory firm that consults to leading CPA and other professional services firms on strategy, succession planning, 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.

This has been prepared for information purposes and general guidance only and does not constitute professional advice. You should not act upon the information contained in this publication without obtaining specific professional advice. No representation or warranty (express or implied) is made as to the accuracy or completeness of the information contained in this publication, and ESPOSITO CEO2CEO, LLC, its employees, and its independent contractors accept no liability, and disclaim all responsibility, for the consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.