United we stand, divided we fall

Middle-ranking accountancy firms are seeking mergers in a desperate attempt to protect profits

Nearly half of small and medium-sized accountancy firms wish to acquire another practice, or its fees; a third wish to merge or be sold into another firm; and more than 10 per cent are seeking to restructure through acquisition or merger, according to a recent survey of the sector.

The main reasons cited for wanting to take these steps are the wish to improve profitability and the desire for economics of scale. Most wanted to make these changes within the next three years, according to the study by Kato Communications, a consultancy specialising in practice development for accountancy firms outside the top rank.

Andrew Jenner, who recently joined Kato from the accountancy firm Pannell Kerr Forster, where he was national director, practice planning, says the underlying motivation is profit. "Since the end of the Eighties, they have gone through recession," he says. "Now they've had two years of recovery, but firms are finding the profits are not coming back."

A number of factors are at play: increased regulation is hitting firms' earnings at a time when they are already having to invest in information technology; the market is more competitive, with the result that client loyalty is much reduced; and the compliance work, such as audit, which has been the backbone of many of these firms, is attracting relatively smaller fees.

The only way for them to maintain or increase profits is to increase their client base, adds Mr Jenner. With margins expected to fall even further, the issue is growing ever more urgent as firms struggle to find the work that will compensate for the declining profitability of audit and related assignments.

But not all the factors hitting these firms are external. Many companies are also hindered by poor management, says Kate Atchley, founder and managing director of Kato. "The vast majority of firms have struggled through the recession and neglected business management. They have hoped that the marketplace would solve things and they would just carry on. But the marketplace is very different. The pressures are very different. It all needs rethinking."

Without more mergers in search of economies of scale, and some clear focus internally in order to assess what partners should be doing (and, more important, what they should be passing to subordinates), the future looks bleak.

"Those firms that have not yet regained the turnover of 1989 are in serious jeopardy, and there's a number of them," says Ms Atchley.

The result, predicts Mr Jenner, will be a widening profitability gap, with those firms that are currently producing profits per partner of pounds 480,000 to pounds 490,000 or more becoming more successful, and those in the pounds 450,000 region doing less well.

"It is not necessarily to do with the scale of the practice," says Mr Jenner, "but there's probably a correlation between those that are profitable and those that are better managed."

Copies of the report, based on the survey carried out early this year among firms of between one and 10 partners registered with the English and Scottish institutes of chartered accountants, are available from Kato at pounds 35 each (0171-482 6242).

Roger Trapp