The accounting industry is undergoing significant transformation due to private equity investments, which are reshaping the sector by providing small tax & accounting firms with much-needed capital and operational expertise
The accounting industry has undergone many changes over the years, some of which were shaped by tax regulations and others by firm leaders retiring. Still others were borne out of the failure of the tax & accounting industry to expand, instead contracting when it came to creating pipelines for hiring new talent.
More recently, the overall nature of a tax & accounting business has changed, thanks to the rapid speed and advancement in innovative technology often driven by artificial intelligence (AI).
Traditionally, the accounting business has always been seen as stable. Firms for the most part picked their lanes and stayed in them. They approached growth through traditional means such as increasing client services, or possibly expanding into new or additional geographical regions, adding new services like advisory, or even becoming specialists in certain industries. Although many of these strategies were successful, often the work would take longer and scaling up could carry heavy upfront costs. Indeed, a lack of capital to front many of these endeavors was a consistent problem throughout the industry.
The history of private equity in tax & accounting
Private equity (PE) firms typically invest in businesses with the goal of enhancing the value of the business (and thus the investment of the PE firm) over a period of time before exiting through a sale or public offering. Historically, PE investment was concentrated in certain select industries such as technology, healthcare, and manufacturing.
Over the past decade, however, there has been a marked increase in PE interest in professional services, including tax & accounting firms. In fact, August 2021 is seen as the landmark year of PE firms’ splash into the accounting sector with the announcement by TowerBrook Capital Partners that it was investing in EisnerAmper, a 3,000-employee global tax & accounting firm.
In less than three years, PE firms have bought stakes in five of the top 26 accounting firms, and this trend is predicted to continue, which can be attributed to a few key factors. First, tax & accounting firms often have stable, recurring revenue streams, which are attractive to PE investors. Second, the fragmented nature of the accounting industry presents opportunities for consolidation and economies of scale, also attractive to PE firms. Finally, the increasing complexity of regulatory environments worldwide has driven demand for specialized accounting services, creating growth opportunities.
Opportunities for small accounting firms
Many industry observers would think that it would be unheard off for a private equity firm to be interested in investing in small accounting firms simply because of their size. For PE firms, however, this instead represents a potentially limitless opportunity because the majority of accounting firms are small ones. Indeed, some small firms can be surprised by the interest they received from PE firms.
For any small firm leaders weighing whether to move forward with a PE firm investment, there are certain advantages to consider, including:
Access to capital — One of the most significant opportunities that private equity presents to small accounting firms is access to capital. Many small firms face financial constraints that limit their ability to invest in new technology, hire needed talent, expand service offerings, or enter into new markets. PE investment can provide the necessary funds to overcome these barriers; and this capital infusion can be used for various purposes, including upgrading IT infrastructure, hiring skilled professionals, or acquiring smaller firms to increase market share.
Operational expertise — PE firms often bring more than just capital to the table — they also offer operational expertise and strategic guidance. Small accounting firms can benefit from a PE firm’s experience in scaling businesses, improving operational efficiencies, and implementing best practices. This expertise can help small firms streamline their processes, reduce costs, and enhance service delivery, making them more competitive in the marketplace.
Enhanced competitive positioning — The accounting industry is highly competitive, with large firms often dominating the market. PE investment can level the playing field for small firms by providing them with the resources needed to compete with larger players. With the backing of private equity, small firms can expand their service offerings, enter new geographic markets, and attract higher-profile clients. This enhanced competitive positioning can lead to increased market share and revenue growth.
Talent acquisition and retention — Attracting and retaining top talent is a significant challenge for many small accounting firms. PE investment can help address this issue by providing the financial resources needed to offer competitive salaries and benefits. Additionally, the growth and expansion opportunities that come with PE backing can make the firm more attractive to potential hires. A strong team of skilled professionals is crucial for delivering high-quality services and driving the firm’s growth.
Exit strategy for founders — For many small tax & accounting firms, private equity offers an attractive exit strategy for founders and partners who may be looking to retire or move on to other ventures. PE firms can buy out the existing owners, providing them with a lucrative exit while ensuring the continuity of the business. This can be particularly appealing in a market in which succession planning is often a challenge.
Potential challenges
While private equity offers numerous opportunities, it is important to acknowledge the potential challenges as well. PE investors typically seek a high return on their investment within a relatively short timeframe. This pressure to deliver rapid growth and profitability can lead to increased stress and a possible shift in focus from long-term client relationships to short-term financial performance.
Additionally, the involvement of PE firms can sometimes lead to cultural clashes, particularly if the incoming firm’s new strategic direction differs significantly from the target accounting firm’s previous approach.
Still, the rise of private equity in the accounting sector signifies a pivotal shift, offering small firms unprecedented opportunities to access capital, operational expertise, and other strategic advantages. While the influx of PE investment can pose challenges such as pressure for rapid growth and potential cultural clashes, the benefits may outweigh the drawbacks.
Small accounting firms may now have the chance to position themselves better to compete and attract top talent. And by leveraging the resources and expertise provided by private equity, even small tax & accounting firms can navigate the complexities of modern accounting and achieve sustainable growth.
You can find more about the impact of private equity on professional services here.
