Growth Through Acquisition
Learning from One Firm’s Successful Experiences

By Tim M. Lindquist

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JULY 2007 - Recent years have seen increased demand for public accountants and accounting services. Midsized public accounting firms are finding companies looking to them to conduct work that the Big Four are no longer able to do because of the limitations imposed by the Sarbanes-Oxley Act (SOX). As a result, some firms are struggling to obtain and retain adequate staff to service and grow their businesses. In response, some midsized public accounting firms are repositioning themselves to better serve a growing client base.

One strategy for diversification and market positioning is growth through acquisition (i.e., a larger public accounting firm acquiring the net assets of a smaller firm). In some cases, this merging of firms leaves both entities in a better position, proving that 1 + 1 can sometimes equal 3. To illustrate this phenomenon, the author chose as a case study the public accounting firm of Larson, Allen & Weishair (LarsonAllen), a national midsized company. LarsonAllen began operations in 1953 in Minneapolis as an accounting firm offering specialties beyond traditional services. The firm’s recent growth has been achieved primarily through a series of well-planned acquisitions of smaller firms. Because of these acquisitions, LarsonAllen now serves six core industries (healthcare, manufacturing, construction, public service, auto dealers, and financial institutions) through 15 locations nationally.

Merger or Acquisition?

Mergers and acquisitions are generally categorized as either upstream, downstream, or lateral. In an upstream merger, a smaller firm seeks out a larger firm and is acquired by it. The smaller firm’s name does not survive and the larger firm’s policies and procedures prevail. In a downstream merger, the larger firm seeks out and acquires the smaller practice. Lateral combinations are the only true mergers of equals: Combining firms are generally the same size, and the result is a pooling of resources and recognition of partners from both firms. It has been said there is no true merger between public accounting firms, as one firm usually remains dominant after the blending of the companies.

LarsonAllen recognizes that its firm combinations are upstream or downstream mergers (i.e., acquisitions). The newly acquired entity is renamed LarsonAllen and becomes a member of the LarsonAllen team, obtaining all rights and privileges of the larger firm.

One reason accounting firms often combine is to retain and obtain adequate staff to service and grow their business. Geographic dispersion can also be achieved through the amalgamation of two or more firms. Additionally, combinations can serve to enhance expertise in various specializations or industry niches.

Industry Niches and Specialization

Traditionally, the organizational structure of accounting firms comprised three distinct service areas: auditing, taxation, and consulting. In the early 1990s, however, larger firms changed their structure such that services in these three areas were offered in broad industry sectors or niches. Differentiation by industry sector enabled auditors to compete on dimensions other than price. The reaction to this change was positive, as many companies preferred the value-added benefits provided by auditors with specialized industry expertise.

In choosing industry sectors in which to develop expertise, accounting firms should first conduct a self-analysis of their existing strengths and weaknesses. It is necessary to ask tough questions. Is there a current dominant industry served by the firm? What are the areas of commerce most enjoyed by existing partners? Given the existing knowledge base of the firm, what new industry specialization areas can be reasonably achieved? What untapped niches exist in the firm’s marketplace? What are the costs of expanding into new markets? The answers can help firms focus on their reasons for niche specialization, which could include increasing the client base by lowering fees, increasing fees by offering a premium product, or increasing firm reputation by creating a unique position in the marketplace.

Offering services through industry niches can result in increased business through lower fees. This fee reduction is made possible, without compromising quality, through the economies of scale that specialization allows. Specifically, accounting firms are able to differentiate service to a large group of clients all possessing the same basic characteristics. Audit personnel are assigned exclusively to the industries they serve and become very adept at identifying and addressing industry-specific audit issues. Industry training costs required for staff serving a particular industry are spread out among more clients. Additionally, clients end up spending less time explaining industry-specific practices and trends to the auditors. The costs of performing audits decrease, so fees can decline as well.

Specialization can also be done to increase audit quality and allow premium pricing. Industry expertise is likely to lead to identification of misstatements more effectively. It has also been suggested that industry-specific expertise results in increased ability to detect anomalies, which better helps to identify audit risks. Such higher-quality audits could command higher fees.

Last, specialized niches can be pursued to enhance a firm’s reputation. In determining industry specialization, firms seek a unique position in the market along some dimensions that are widely valued by buyers. Firms look for one or more attributes that are perceived as important and uniquely position themselves to meet those needs. They are then rewarded for their distinctiveness with a good reputation and, thus, a premium price.

One caveat is necessary regarding niche development: Just because a firm can develop a particular industry specialization, and customers exist in that market, doesn’t mean it is feasible. It is important that the firm be able to turn a profit in that niche as well. Many firms have found a market need and developed the ability to address it, only to find that developing this niche practice is not a sound financial decision.

As stated earlier, LarsonAllen’s six core industries are healthcare, manufacturing, construction, public service, auto dealers, and financial institutions. These were chosen and sustained by a balance of market demand and firm supply. Market sector needs are met when LarsonAllen is able to provide unique services at the highest level of quality, for a profit. LarsonAllen began in the Midwest, but its expansion is moving toward both coasts. Offices have recently been acquired in St. Louis; Scottsdale, Ariz.; Philadelphia; Washington, D.C.; Charlotte, N.C.; and Naples, Fla. The plan is that new acquisitions in Scottsdale and Naples will spark a new industry specialization area in the hospitality industry, given the abundance of hotels, restaurants, resorts, and golf courses in these regions.

Acquisition Patterns: Hub/Spoke Growth

One unique aspect of LarsonAllen’s expansion in the last five years is the hub/spoke framework it has employed in its pattern of growth. Minneapolis is the clear hub in the firm’s Upper Midwest operations, representing the center for higher-level management, training, and support for all six industry-specialization areas. Growth from Minneapolis, however, has come in the pattern of spokes on a wheel. From Minneapolis (the hub), expanded offices (or spokes) have been acquired in Minnesota locations such as Austin, Brainerd, and St. Cloud, as well as in Eau Claire, Wisc. Each spoke became a part of LarsonAllen in a joint geographic/industry-specialization strategy, with the idea that the new spoke would augment existing industry specializations and allow LarsonAllen to expand its presence in the region.

Today, the hub-and-spoke strategy has expanded to a national scale. As noted above, new potential hubs have been acquired in St. Louis, Philadelphia, Charlotte, Naples, Scottsdale, and, most recently, Washington, D.C. LarsonAllen notes that these potential hubs contribute to at least one of the six core industry specializations. From these hubs, new spokes may emerge as smaller local firms are obtained through friendly acquisitions.

Finding the Right Firm: Merger/Acquisition Criteria

In considering a firm combination, partners look at a number of factors that might enhance existing skills or create synergies for the merged entity. Often, firms merge because they lack specialization in special services or industry niches, or there exists a desire to expand quickly into new locations. A firm needs to first focus on what its goals for the acquisition are. Merger and acquisition criteria that determine a suitable candidate include the types of services offered, types of clients served, liquidity of the smaller firm, revenue and profitability growth, retention and growth rate, resource potential, and firm culture.

The acquiring firm should clearly understand the types of services offered by the smaller firm. The larger firm must ensure it can still deliver these services in an efficient and profitable manner after the acquisition.

Furthermore, the larger firm needs to provide continuity for the smaller firm’s clients, including minimizing how and where services are provided. This can often prove to be a major problem in new-client retention. Understanding these service patterns impacts staffing decisions, time requirements, and the feasibility of providing the service.

Second, the types of clients serviced by the smaller firm need to be determined. Determining the length of tenure each client has had with the smaller firm is a good starting point. The longer a client has been with the firm, the more continuity the client will demand in the transition. The more continuity provided, the more likely the client will stay.

Cash flow is an additional consideration. All firms have slightly different billing and collection processes. It is important to ensure the collection of existing account receivables and also to determine how much of the existing practice can be absorbed into current overhead. Having to wait months for new cash flow can place a heavy burden on the acquiring firm. An acceptable level of liquidity relative to the smaller firm should be established.

Positive revenue and profitability growth are additional acquisition criteria sought by larger firms. It is important to note that a firm’s existing net income is only a starting point for analysis. It is quite possible that this net income base could increase if the firm is absorbed into the larger firm’s current overhead. The smaller firm’s retention and growth rate should also be considered. It is important to review the kind of new clients a firm generates, how often they are generated, and how long they are retained. Sustained growth and internal referrals are all positive signs. An additional significant criterion is the smaller firm’s resource potential. It is important to consider not only the firm’s financial strengths but the partners’ financial strengths. A partner’s personal finances can negatively impact future profit-sharing.

Finally, a firm’s culture is possibly the most important but most difficult merger and acquisition criterion to evaluate. Wikipedia ( defines culture as “values, norms, institutions and artifacts that are passed on from generation to generation by learning alone.” Values measure what is important in one’s life. Norms predict how people will behave in various situations. Institutions provide the framework in which values and norms are transmitted. Artifacts are objects derived from values and norms.

It has been said that people always take too lightly the human aspect of integration, which involves issues of personality fit. The number-one reason a merger doesn’t work out isn’t business or financial reasons but a bad fit. Combining two different groups of people is not a simple task. If an acquisition is to be effective, the two teams must work toward the good of the new, combined firm. Culture can include a firm’s core values, types of partners and their respective roles, the type of work conducted by the firm, the balance of work and personal life, and attitude.

Core values determine what a firm stands for. They define the firm’s permanent set of rules and beliefs. They are the heart of ethics within the company. Accountability plays a key role in core values. Do individuals do what they said they would? Finding a firm with the same set of core values is necessary for an acquisition to be a success.

Culture is also determined by the types of partners in the firm and their respective roles. If one firm is seeking an acquisition in order to bury the burden of an existing problematic partner, the combination will rarely be an effective solution. Problems do not go away just because an individual is a smaller fish in a bigger pond. Other factors that have been determined to have an effect in this area include the value attributed to chargeable versues nonchargeable time, the degree of control delegated to employees, and the value and expectations of community involvement.

The type of work the firm does also impacts a firm’s culture. Does the firm serve SEC filers or not-for-profits? The balance between work and personal commitments also impacts the culture of the organization. Is it acceptable for a partner to have a personal life separate from the firm? Finally, general attitudes within the firm have a huge impact. Are partners friendly with staff? Is there a feeling of camaraderie in the office? Merging a stiff, hierarchical group of individuals into a more laissez-faire office environment could be a recipe for trouble, and should be well thought out beforehand.

Steps to Finding the Right Acquisition Candidate

Once the appropriate criteria of an acquisition candidate are determined, finding the right firm to acquire can be a difficult and time-consuming process. A good place to begin is with firms already familiar to one or more partners. Otherwise, reviewing names in a phone book or Internet listings can be a good starting point. Placing an advertisement in a trade publication or a state society newsletter is another way to initiate interest. Many studies suggest that print advertising is the best way to get noticed. An effective advertisement, however, needs to catch the reader’s eye. Use an image that sets the firm apart and conveys its values and personality. Repeating a variety of advertisements in a number of venues will attract more attention and likely bring in more suitable merger candidates.

LarsonAllen has been quite successful at finding the right firm and making the acquisition work effectively for both sides. The firm has employed unique techniques worthy of note for similar midsized firms seeking such a growth plan. LarsonAllen executive principal Terry Enger notes that existing personal and business relationships play key roles in finding firms to acquire. LarsonAllen finds known professionals in the field (business and academic) to be a great source of information on suitable acquisition partners. The Internet is also a viable source of information in initial searches. Much can be learned about a potential firm from its website, including its size, affiliations with other larger firms, and industry specializations.

Once a good candidate is located, a call is made to the office managing partner (OMP) of the potentially suitable firm. If a firm is not interested, communication ceases. In these cases a file is created and a follow-up is conducted one or two years later. If the OMP shows interest, the LarsonAllen contact discusses the firm and previous successful acquisitions. Interest often grows substantially the longer the discussion continues. If interest continues after the phone conversation, the LarsonAllen contact meets the firm’s management team at its office. Many of these meetings result in a failed search. When interest is sparked, however, the acquisition process can proceed.

Enger notes: “For LarsonAllen, two key cultural philosophies must be present in a candidate: The newly acquired firm must hire and retain the best employees possible and seek to serve clients well.” If the firm passes this initial test, the next step of evaluation is to conduct due diligence on the files and working papers of the new firm with a focus on quality of work. At the same time, a team of tax experts conducts due diligence on tax work. At the conclusion of this analysis, the firm receives either a pass or a fail grade.

If the outcome is a pass, then a new panel is formed to continue the acquisition process. This panel includes leaders from all major LarsonAllen divisions, including information technology, human resources, learning and development (training), marketing, as well as the principal (partner) who will be in charge of the newly acquired office. An existing LarsonAllen principal is moved into the new office upon completion of the acquisition. This is done to facilitate the union of the two firms as quickly and efficiently as possible. Finally, an executive principal for that geographic region or the CEO of LarsonAllen sits on the acquisition team.

Areas requiring special attention in this stage of planning include compensation and retirement plans for the acquired firm, its fee structures, and the management team. LarsonAllen recognizes its acquisition team’s goals are to establish transitional policies and procedures for business accountability, billings, management, and the crucial announcement of the acquisition to employees, clients, and the business community. The issue regarding the acquired firm’s clients is an important one. How seamlessly existing clients are brought on board relates directly to the comfort level the new firm has with the notion of being acquired.

Barriers to a Successful Acquisition

Absorbing one firm into another does not come without its pitfalls. Troubles can arise for both parties for any number of reasons. Strategists have documented problems that include errors in due diligence of a firm’s work, poor matchmaking from the beginning, varied miscalculations during the transition period, and an egocentric mindset of new or existing partners.

If integrating the partners of an acquired firm becomes an issue, LarsonAllen’s experience has been that it usually results in the deal ending before finalization. More commonly, however, new partners realize that they and their firms can grow better with LarsonAllen than either can separately. Their income and the safety of their investment are more likely protected in a larger firm, with a bigger group behind them.

Another occasional problem occurs when the acquired firm uses different key software than LarsonAllen. The resolution to this conflict has usually resulted in the acquired firm adopting LarsonAllen’s programs, but in some cases the larger firm has adapted some of the smaller firm’s system.

The only consistent deal-breaker issue for LarsonAllen is when the acquired firm’s work quality is not up to expected standards, something the firm tries to ascertain early in the acquisition process. Proper planning, full information, and due diligence in the evaluation process have enabled LarsonAllen to produce a strong record of success with acquisitions.

Seller’s Remorse

What happens if an acquired firm changes its mind? How does a firm undo all the complexities of the acquisition? If this change of heart takes place before the settlement of the deal, both sides can just walk away. LarsonAllen employs a contractual one-year window in which either group can back out of the acquisition after it is complete. Previous research has suggested some form of merger “prenuptial agreement” should exist. Key elements of any such agreement include who gets each of the original clients and how postmerger clients are distributed. In LarsonAllen’s case, this “merger divorce” has never happened, but if it did, both sides would return their practices to their original, premerger state. Enger notes this key feature is instrumental in instilling confidence and reducing stress for both players in the acquisition.

After the Acquisition

Firms acquired by LarsonAllen should not expect immediate and dramatic financial growth. Rather, they should expect to become a participant in long-term, substantive growth of the firm as a whole. Acquired firms can in many cases expect their staffing abilities to increase immediately as part of a top 20 midsized national firm rather than an independent facing a limited applicant pool.

Growth through acquisition for midsized public accounting firms seems to be an effective strategy. Midsized firms obtain benefits not only for themselves, but also for the smaller firms that they acquire. Both sides benefit from the increased visibility and resources that make them more attractive to current and potential clients. Staffing issues are also eased and financial rewards increase beyond what would have been obtainable independently for both firms. LarsonAllen has a proven track record in this strategic process. The author hopes that readers will learn from LarsonAllen’s experiences and apply these strategies to their own firm’s growth.

Tim M. Lindquist, PhD, is an associate professor of accounting at the University of Northern Iowa, Cedar Falls, Iowa.




















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