CPA Firm Profitability – ‘Statistics Can Be a Splendid Irrelevancy’

The genesis of this post is a letter I wrote as a 14 year-old to the Chicago Daily News positing that my boyhood idol, the late Ron Santo was more valuable than the day’s reining superstars, Willie Mays and Hank Aaron.  The newspaper editor began his response with “Statistics can be a splendid irrelevancy.”  He explained that when misused, statistics distort reality.

Now that the latest results from The Rosenberg Survey are available, we’ll be focusing on its findings and some of the most common errors firms make in interpreting their firms’ statistics and metrics.

Overreliance on partner income percentage as a measure of profitability.  This metric is impacted as much by the firm’s staff-partner ratio as by innate profitability.  Therefore, we caution firms to avoid making rash judgments about profitability based solely on partner income percentage.

Many partners have a rule of thumb that 33% is the minimum acceptable partner income percentage, and that to be “truly profitable,” this metric must be 40% or more.  But as the data below illustrate, one must take the staff-partner ratio into account before determining norms for partner income percentage.  If a firm is heavily leveraged, partner income percentages in the 20s and low 30s can be strong evidence of a highly profitable firm.

The following statistics, from a recent Rosenberg MAP Survey, are based on firms with annual fees of $2 to 10M:

• Firms with a staff-partner ratio in excess of 8:1 had a robust income per partner (IPP) of $491,000, yet their partner income percentage was “only” 23%.
• Firms with a staff-partner ratio ranging from 6 to 8:1 had IPP of $450,000, yet their partner income percentage was 30%.
• Firms with a staff-partner ratio of under 4:1 produced a much less impressive IPP of $260,000, yet they enjoyed a seemingly high partner income percentage of 39%

Being content with “average.”  Remember, when a MAP survey cites an average for a group of firms, it’s just that – an average.  To illustrate this point, let’s examine annual billable hours for staff.  If the national average is around 1,530 and you’re firm is at 1,530, you have little cause for celebration because your performance was perfectly average.  175 firms did better than your firm!  Ideally, you would like to achieve results well above the average in as many categories as possible.

Average salary data.  I’ve seen many MAP surveys that tabulate the average salary for various positions at firms throughout the country.  Examples:  A 2-year tax person, a 4-year audit person, a firm administrator.  This is one of the most senseless pieces of information I’ve ever seen, yet surveys love to report on it.  The problem is that personnel from firms in New York City are mixed in with personnel from some of the nation’s smallest markets..  Personnel from a $30M firm are combined with personnel from a $3M firm.  The resulting averages are utterly meaningless.  Compensation data is only relevant if it is taken from a market that is comparable to your own, which is something that most MAP surveys cannot possibly do.  If your firm is in Memphis, only surveys of Memphis firms will produce valid results that you can use to set compensation levels for personnel at your firm.