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How do established accounting firms deal with the challenges of succession? Exiting partners and business owners want to maximise value while ensuring their clients and staff continue to be looked after. At the same time, potential partners often don’t have the capital to buy in. This article explores this conundrum. As COVID restrictions are gradually lifted, Australians are facing ever-increasing property prices and a rapidly ageing population. In the next decade, many people will make important life decisions which may include exiting and selling their stake in their business. This phenomenon is not just being experienced by your clients but by accountants and advisers too. In accounting firms, there has always been the natural conflict between the older retiring partner wanting to sell out for the best price and the new vibrant and motivated partner wanting to buy in, while juggling their own personal financial commitments, which includes purchasing their own residential home. As housing prices skyrocket, many households are borrowing five to six times their annual salary, then some. With the likelihood of inflationary pressures pushing interest rates up in the next 12 months, how will firms manage the succession process? The considerations and options that might be available in accounting firms going through a succession process include: Can the younger partner afford to buy in to the practice when the traditional path of using equity in the house is no longer available? Will the older partner be open to vendor financing knowing that it may take 10 to 15 years to be paid out rather than 5 years? And what happens if the older partner passes away, or the firm stops being profitable? How are these scenarios resolved? What finance facilities are available in the market to fund such purchases, and will they remain in the market as we start to experience inflation and potential tightening of the lending market? Has the exponential take up of technology, both by the business and their clients, seen a potential deterioration in the traditional fee base and can a firm providing limited service offerings survive? How will the shift to working from home, which is key to retaining staff, impact productivity? Will the expected war on talent, which has already commenced in certain fields of accounting, rapidly increase staff turnover thereby impacting the ability of the firm to properly service the client? What has evolved over the last 18 months in the accounting industry that wields a permanent change to accounting practices both from an operational or value perspective? Many accounting firms don’t have a formal succession plan. Those that think they do often fail to give the succession process sufficient focus. They may have had past success in this area and take the attitude – “Well it worked like this in the past, why won’t it work like this going forward?” Businesses are now more paranoid than ever with upcoming “unknowns” and this feeling of the “unknown” also applies to accounting firms. These issues are “food for thought” for business owners of accounting practices. Rapid Technology reliance Technology and accounting software systems are becoming more intuitive with automating certain aspects of tax advisory services that the accountant historically did before. The exponential increase in the adoption of technology has never been more apparent. Personal tax returns are already being lodged by individuals themselves and the Government is pushing to further simplify the lodgement process. This kind of adoption could move into business clients if continued improvements in intuitive accounting technology and the interactions between business, their customers and their suppliers becomes so effective that a significant majority of the work can be automated. This opens the door to the client asking for a fee reduction. So how does all this impact value on the accounting firm? Surely, it pushes values down. How will the older partner feel about reducing his/her price because of this reality? One option that might be considered is the introduction of the “third party investor” . This is where the young partner teams up with a sophisticated investor to assist in buying out the older partner. Or, for a sole partner practice with no obvious succession options, the third party investor may find a younger partner to take over the business. War on Talent In 2022, businesses will start to experience serious competition for talent. This skills shortage, coupled with working from home becoming the norm, will see a new hybrid work environment. The way firms train staff and service clients will evolve also. When we look at how our daily approach to work has changed, I note the following observations: The use of Microsoft Teams and Zoom technology is standard. There has been a substantial increase in technology usage to perform tasks, and; Businesses are under pressure to pay more to attract and retain talent. In recent weeks, several large law firms implemented pay rises across the board due to widespread concern staff will head overseas to fill the talent shortage in other countries like the UK. These firms are typically across global trends that may be about to hit Australia. Selling the Accounting Practice – do I use a third party investor to assist? In selling a business, the older partner may engage in a process of vendor financing the younger partner into the practice. This has been a common approach by accounting firms in the past but it does have challenges due to the natural tension that exists between older partners wanting to get the best price and younger partners wanting to have control of the business but “ feeling the pressure” because the vendor financing process may cause the older partner to continue to want to “ have a say ” in the business. The COVID lockdown has exacerbated this tension in some cases. For many partners, COVID has accelerated the retirement plans. They don’t have the same level of patience to go through the vendor process. It is these current challenges where a third party investor may be able to step in and assist with the sale of equity. Barry McGee of AZ NGA has successfully executed over 50 transactions in the past 5 years. McGee expects more people to “ knock on his door ” and ask him to solve their succession woes. “Our purpose is to invest in professional services SMEs and support business owners to achieve their goals, be that, succession planning including financing for future leaders; banking and debt solutions; or capital for growth. “For those planning to sell in the medium-to-short term, there are opportunities to link up with an experienced capital partner to continue building on your legacy and ensure staff and clients are properly looked after.” What happens if the older partner has no one to sell to? Another challenge that may exist for an accounting firm is that only one older partner may want to retire. Perhaps they have had difficulties attracting talent and retaining that talent in the past. They are now faced with the simple issue of having no succession plan whatsoever. When that older partner is ready to retire they do not have an obvious person to sell their stake in the business to. Therefore they are searching for an option or an alternative solution to selling their share of the business and maximising value on their exit. It is here, where again, the third-party investor solution can become very attractive. Barry McGee says: “AZ NGA’s offer is flexible, with the ability to take a minority or majority interest in businesses and provide long-term buy-out options for shareholders" "We are patient long-term investors and we are willing to work with business owners to understand their needs and concerns, and structure a deal that is mutually-beneficial for all parties.” Valuing accounting firms In the current market it appears that the value of accounting and business services firms are somewhere between three to five times Earnings Before Interest and Taxes (EBIT). Those firms that specialise in specific areas of accounting are valued at different multiples and it will depend on the type of service that they offer. Final comment In summary, we often see small accounting firms disappear from the landscape because the founding partner has been unable to identify a financial exit option. In the years leading towards retirement, the firm bleeds their clients thereby destroying any enterprise value that may have existed at the time the partner is ready to retire. It is for this reason, in the current market, we are seeing significant changes occurring in those progressive accounting practices in what they offer and how they service their clients.

Cathro & Partners is a restructuring and insolvency firm that works with clients to assist them in restructuring their business. The firm also prides itself in helping their referrers ensure that their own businesses can be maximised by becoming aware of what is occurring within the accounting industry and what changes they need to make to continue to thrive. Relationships that are held with businesses like AZ NGA and Barry McGee are critical for the network within Cathro & Partners to be able to find assistance when that support is most required for themselves and their own businesses

The impact of Covid-19 in the last two years has seen and will continue to see some permanent changes occur in the small to medium business sector. As businesses and advisors navigate the challenges of forecasting (or guessing) what the future may hold for their client and even their own business, one must think about a variety of issues including whether the industry within which their client’s business operates has shrunk or even changed permanently.. As businesses face new challenges from competitors to ever-changing consumer behaviour to a change in the way sales are achieved, it’s important that for those businesses that are heading into a period of financial distress that they explore all the different kinds of options available to them. In some of my previous articles we discussed insolvency and restructuring options like the small business restructuring process. But what is the conversation that you have with your clients prior to exploring these insolvency options? How do you, as an advisor, or even as a business owner look at a business that is suffering financially and determine what the right option is? We’ve also seen many legislative changes around the world as a result of this pandemic with Governments scrambling to provide insolvency and restructuring solutions that are fit for today’s dynamic economic environment. Debt restructuring, for example, is one tool available to businesses that can be implemented in a variety of ways, including: Seeking a new financier to deal with a current financier that no longer wants to invest in, or support, your business. Considering a change in facilities from an overdraft to factoring, or even a new solution like Afterpay. The options available to business owners today have never been broader and as a result, can be confusing. Non-bank financiers range from property funders to development funders and from invoice factoring financiers to overdraft facilities – these are the facilities that have been provided by the major banks. But what is on offer now is quite simply like trying to keep up with the streaming services that exist on TV. As a result, the best approach to seeking a new funding solution is through an experienced and apt advisor. We continue to see a changing approach from financiers and major commercial banks, particularly in the use of technology and the solutions it creates for customers that need urgent financial debt solutions and access to capital. Through access to clients online accounting software, financiers are now able to quickly calculate what can be lent. This significantly increases the speed with which their clients can get access to working capital. For some of the medium to large businesses, when their operations fall into financial distress they often have more complex financing arrangements and start by trying to restructure their facilities. This process may involve engaging with stakeholders who are prepared to provide distressed debt funding, equity or even special situation funding (which might involve a combination of debt or equity and even management skill). These kinds of solutions are seen often in medium to large restructures and involve more sophisticated financiers or even investment bankers who can become involved quickly and provide immediate working capital in a distressed financial situation. The term coined “special situation” I suspect has arisen from such experiences. Often when business owners need to focus on a debt restructure, it tends to happen as part of a greater process such as a Safe Harbour process or an informal restructure or turnaround. The skill set required to find advisers that can assist with such engagements is usually limited to those advisers that operate in the restructuring and turnaround space. The two associations that represent this body are the Australian Restructuring, Insolvency and Turnaround Association (ARITA) and the Turnaround Management Association (TMA). Advisors who are often members of these associations will have the qualifications, experience and industry nous that can provide businesses and their advisors with the right approach and funding that is required to ensure the survival of businesses. It’s fair to say that the medium to large business operator are more likely to invest in a full blown turnaround and/or restructure process than a small business operator. It is for this reason that the “rushed” attempt by the Federal Government to introduce the Small Business Restructuring Process was aimed at providing a cost-effective solution to business owners that were operating small businesses, and to also offer alternative mechanisms to dealing with distress other then straight liquidation. However, the reality for business owners is that the path back is very difficult and requires a lot of time invested by the operators and individuals to ensure that the restructure will be a success. In other words, business owners must be prepared for some difficult decisions and a lot of stress! It is just as important that as advisers you speak with your client about what they’re wanting to achieve and whether they are prepared to invest the time and energy into what might be required to save the business. The business owner must be prepared to accept failure as not all restructures are successful. There are many occasions and examples of where businesses have engaged advisers or attempted to fix the problem themselves but have failed because of a lack of investment or even technical skill to achieve their objective. Advisors need to understand their clients objectives and in turn not be afraid to advise when these might be unrealistic, uncommercial or simply not achievable in the current environment. It is apparent now more than ever that we are seeing substantial shifts within industries and how they operate in their space. I have met with many business owners in the last two years and one common theme is uncertainty. Many are exhausted and are suffering from high levels of anxiety. However, in industries that have been impacted heavily from the pandemic, these challenges create opportunities for growth moving forward. What is difficult to predict is what the economy might look like in 12 to 18 months’ time. We are seeing early signs of inflation in other countries like New Zealand who have risen interest rates for the first time in seven years. In America, we are also seeing what has been dubbed the “Great Resignation”, as workers quit en masse to take advantage of new opportunities. Despite this, the labour market remains tight possibly due to low immigration, and a high demand for skilled employees placing upward pressure on wages. There is also a general trend towards customers focusing on their personal well-being and health caused by the impact of the pandemic. The changes are widespread and unpredictable. The pandemic has also bought new challenges to interacting with customers, particularly when it comes to shops and offices where business owners must carefully consider how they choose to operate and balancing this with the wellbeing of their staff and customers. So how does an advisor then sit down with their client and discuss how to plan for the future of a business that can navigate all these challenges? It is important that business owners have agile financial forecasting methods and regular conversations with their advisors. Businesses need to be close to what industry changes are occurring and plan for how they can adapt. It is important that they are in contact regularly with the representatives of their industries or even with their own competitors to continue to seek out any early signs of changes in the market. In the not-too-distant future, there will be a new frontier of challenges for businesses, for example climate change and an increasing global push towards net-zero. Businesses that have just experienced the pandemic, have deferred debt levels may well be presented with new challenges with respect to achieving carbon zero status either voluntarily or through government regulation. As a result, we may see businesses rely on special situation or debt restructuring advisors more often, particularly in the small to medium-sized space. Cathro & Partners are experienced restructuring, turnaround and insolvency practitioners that specialise in assisting small to medium businesses who are in financial distress and can quickly assist and assess business positions with advisors for their clients.

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Building on our previous insights shared by John Laird, Principal Government Advisory, on June 26, 2023, this article provides a critical update and further elaboration on the Australian Taxation Office (ATO) lodgement amnesty program. As the end-of-year deadline of December 31, 2023, draws near, it's crucial for businesses grappling with statutory debts to the ATO to be fully informed about the impending closure of this program. Recap and Expansion on the Amnesty Program Initially outlined in our June coverage, the ATO's amnesty program was inaugurated as part of the 2023-24 Budget initiatives. Targeting small businesses with annual turnovers below $10 million, this program offers a reprieve for overdue tax returns and activity statements due from December 1, 2019, to February 28, 2022. This opportunity is significant for businesses at risk of penalties due to delayed lodgements. However, it's crucial to note that exclusions apply, including for certain wealth groups and obligations beyond the scope of income tax and activity statements. Strategic Steps Towards Compliance as Deadline Nears Completing Overdue Lodgements: The focus should be on ensuring all overdue tax documents are filed before the amnesty deadline. This proactive step is crucial to avoid accruing penalties and further financial strain. Navigating Financial Liabilities: If lodgements lead to substantial liabilities, businesses should consider the ATO's payment plan options. These plans offer a tailored approach, considering the business's financial health and future obligations. Deep Dive into Payment Plan Options: For businesses with debts up to $100,000, the ATO allows the establishment of payment plans online or via registered agents. It’s worth assessing the flexibility and terms of these plans to align them with your financial strategy. Ongoing Compliance and Financial Management Post-amnesty, it remains essential for businesses to maintain tax compliance. This includes the timely submission of future returns and addressing liabilities as they arise. It's also important to manage the General Interest Charge effectively, which can be minimized through strategic payments. Cathro & Partners are experts in providing business and personal insolvency and restructuring services that help to create and preserve value. We can assist with restructuring, turnaround, insolvency, safe harbour, secured enforcement services, pre-lending and bankruptcy services Contact us: Henry Kazar, Principal, Cathro & Partners Ph: 02 9189 1723 Email: henry.kazar@cathropartners.com.au Further detail can be obtained at: Small Business – Lodgment Penalty Amnesty Program | Australian Taxation Office (ato.gov.au) Help with paying | Australian Taxation Office (ato.gov.au) Prior detailed article link - Getting statutory obligations with the ATO back on track (cathropartners.com.au)

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Audited Financials are qualified financial statements (Balance Sheet and Profit & Loss) by an independent qualified auditor that confirms whether the statements accurately reflect a company’s financial performance. Audited Financials are optional for all businesses. They are only compulsory if the following thresholds are met: - Large company o Consolidated revenue of $50 million or more o Gross assets at the end of the financial year of $25 million or more o Company and its entities have 100 or more employees - Registered scheme - Disclosing entity, i.e., Listed companies Whilst it is not a requirement, companies will often obtain audited financials if they want to receive a loan/grant concerning acquisition or sale. But at the end of the day, audited financials are for the benefit of ASIC and not for the company with an auditor to be independent. What are the risks for Auditors? But what are audited financials worth, and what happens if the audited financials are, in fact, inaccurate? Lately, we have seen a few matters where the company has provided audited financials, but the evidence appears fraudulent. As a result, the audited financials are worthless and do not reflect the company’s position. We have also seen that sophisticated investors have provided funds on the premise that the audited financials were accurate. Whilst our initial view was that the auditors were negligent and should be liable for the loss by the sophisticated investor, it may not always be the case. Firstly, the sophisticated investor would need to prove the loss incurred due to the reliance on the financials. However, if no assets were available before the monies were provided upon which they were believed to be secured, the loss isn’t quite as clear cut. Secondly, even if the loss is established, the auditor would only be liable for a proportionate liability, with current case law having the wrongdoer (director) be held responsible for the majority. But that’s not always the case, as seen in Cam & Bear Pty Ltd V McGoldrick [2018] NSWCA 110, whereby the accountant auditor of an SMSF was sued successfully. In summary, the accountant failed to make enquiries about the financial condition of specific investments. Had these investigations been undertaken, the accountant would have identified a significant deficiency in assets, which in turn would have created doubt about the recoverability of the investments for the client. The auditor was then found liable for the loss of the client. What should Auditors look out for? So, what should an auditor look out for to minimise their risk? Whilst we are not auditors, and we know that they all have their processes which they follow, we would suggest that they also consider taking the following steps: Don’t believe everything a director tells you – conduct your due diligence. With the current digital age, is very easy to create a website and/or email addresses and it is extremely cheap. If it’s too good to be true, it probably is. Check that the assets are real and as they should be. For example, if the director alleges that there are monies held with an institution that is overseas and not commonly known, do some basic research on the company rather than just relying on the email that a director has provided as the contact. Don’t sign off on an audit where you don’t believe that the company is solvent. Remember statutory obligations to report company issues to ASIC. If due consideration is taken and procedures are followed based on current case law, auditors are reasonably safeguarded. But be mindful to keep accurate file note records and all evidence or emails from the relevant stakeholders if they need to be relied on at a later date. About Cathro & Partners Cathro & Partners are experts in providing insolvency and restructuring services that help to create and preserve business value. Founded in 2021, the boutique firm specialises in restructuring, turnaround, insolvency, safe harbour, secured enforcement services and pre-lending services.

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