12
Owners Need to Be Evaluated Too

“One of the great mistakes is to judge policies and programs by their intentions rather than their results.”

—Milton Friedman

One thing our 2011–2012 Performance Management and Compensation Survey showed us was that owners are not being formally evaluated in firms. In this chapter, we make the case for a formal owner review process. We will show that the owner review process is more than just setting billable hours and other production-oriented goals. It goes a step further to get owners more aligned with the strategic direction the firm is taking.

We will examine the various skills and personal characteristics needed in a partner today and recommend eight criteria when evaluating an owner. The chapter ends with a discussion on individual owner performance plans and a sample plan template.

A trend we have noticed over the past few years is the increase in the number of firms that penalize owners for poor performance, often failing to retain those who do not help the firm grow, improve profitability, increase employee satisfaction, or develop others. In a recent webinar August conducted, 47 percent of participants indicated that the firm has let a partner go. Why? Because these same firms, in reacting to the economic downturn of the preceding years, likely reduced the number of staff members in order to maintain profitability. These firms have reduced nonperforming employees and cut expenses wherever possible. Quite frankly, there is nowhere for nonproductive or nonvalue-add owners to hide when fee pressure from larger firms in almost every market is squeezing profits.

With most firms already running lean, there is often only one area left to be considered for possible cuts, or, better yet, for improvements—owners. Like any other business, professional services firms will not cut their way to success but must be profitable to exist. So, we suggest that firm leaders take a hard look at other owners to determine if the firm can, should, or will carry those who do not contribute to profitability.

Factors Determining the Owner’s Value

In an accounting firm, profitability is generally the result of the firm’s combined talents, business management skills, internal systems, and value proposition to its core clients. Therefore, many factors must be considered when determining the value of an owner to the firm, for example

• what are the technical competencies of the owner?

• are the owner’s technical competencies up to date?

• are these competencies needed by the current client base?

• does the owner add value in other areas, such as leadership, mentoring, and so on?

• can he or she bring in business—the lifeblood of any organization?

Skills alone do not make a good owner. You must also look at the character of the owner, for example

• does the owner live the firm’s core values?

• do staff members want to work with the owner?

• is the owner ethical in his or her dealings with both staff members and clients?

Most firms are too small to have an owner justify his or her existence as solely an administrative, marketing, or human resources owner. Owners need to increase the economic value of the firm.

Owner Evaluation

Many firms do not conduct formal owner evaluations because they do not require owners to set specific goals (as evidenced in the results of our survey presented in the appendix at the end of the book). What would you evaluate? This is, perhaps, the number one reason owners are not as productive as they could be. Demands on the firm change over time, and owners may be unaware of these changes, unsure about what to do to meet the new demands, or hope these demands will go away. In any case, they remain less than optimally productive.

Everyone in the firm, including the managing owner, needs feedback to improve performance. In our 2006 compensation survey, we asked more than 350 accounting firm owners the following questions. We asked the same questions in our 2011–2012 compensation survey. Although some areas have improved, others have declined. Unfortunately, we do not know whether the same firms responded to both survey. Nevertheless, we believe there is still a long way for firms to go.

1. To what extent do you believe setting individual owner goals contributes to higher levels of firm profitability?

   Response	2006 Survey	2012−2012 Survey
   Not at all	7.2%	13.1%
   To some extent	54.0%	49.5%
   To a great extent	38.7%	37.4%

2. Does each owner in your firm have written goals? More firms in the 2011–2012 survey responded that owners now have written goals. This corresponds to what we are seeing in our consulting practices.

   Response	2006 Survey	2012−2012 Survey
   Yes	19.6%	31.8%
   No	80.4%	68.2%

3. Do you believe each owner should have written goals? We saw a 10 percentage point increase from the earlier survey.

   Response	2006 Survey	2012−2012 Survey
   Yes	80.9%	90%
   No	19.1%	10%

4. To what extent is your owner compensation system tied to achieving results of your strategic plan? We were pleased to see that more firms were tying compensation to achieving results of the strategic plan. We hope that this is a trend that will continue.

   Response	2006 Survey	2012−2012 Survey
   Not at all	52.9%	43.6%
   To some extent	37.6%	45.5%
   To a great deal	9.5%	10.9%

According to a 2005 white paper, “Best Practices in Recruiting and Retaining Talented Staff,” from the AICPA Private Companies Practice Section (PCPS), the AICPA Alliance for CPA Firms, 75 percent of responding firms do not have a documented pay-for-performance plan that aligns compensation with firm strategic initiatives. Eighty-four percent did not have a documented owner self-evaluation program, and 55 percent did not have a documented employee orientation program.¹

The fact that 53 percent of the firms responding to our 2006 compensation survey do not tie owner compensation into achievement of their strategic plan was one of the most surprising findings. Not even 10 percent of firms responding to our survey tie compensation into achievement of their strategic plan, and the rest (37.5 percent) responded by saying their owner compensation system is tied into achievement of the strategic plan to some extent.

We can only imagine how much firms could increase net income per owner if owners and employees were aligned with the firm’s strategic plan by having cascading or aligned, or both, performance goals. Although there are different ways to tie the compensation system to achieving the strategic plan, developing cascading goals and using a pay-for-performance system is usually best because you reward owners and employees for achieving the firm’s business objectives in such a plan. Because a pay-for-performance system rewards the firm’s above-average performers more than average and below-average performers, it’s also an effective way to motivate top performers to stay with the firm. In today’s tight job market, one high performer may be worth two or more low performers.

When evaluating current owners and potential owners, we recommend the following eight criteria, which are generally more stringent than criteria of past years:

1. Can the firm support all the current owners or another owner? If the answer is “no,” then you must explore the reasons. Is it because you currently have underperforming owners (that is, owners who are unable to pay their own way and help the firm grow)? Is it because you have owners in administrative positions? An effective chief operating officer costs the firm significantly less than an owner who performs that role. The same holds true for hiring human resources, marketing, and information technology professionals. Owners who gravitate to these positions often do so because they lack business origination skills, client retention skills, or contemporary technical talents. Would you compensate a professional administrator the same as an owner to perform the identical role?

2. What are your measures for admission to ownership and staying an owner? If you require certain performance levels for new owners, shouldn’t that criteria apply to existing owners as well? If you do not have written measures for admission for new and existing owners, it is time to develop them.

3. How does the potential owner and existing owner fare in his or her performance evaluation(s)? The majority of firms lack formal owner evaluation programs. If you have never or inconsistently evaluated owner performance, you will likely realize that practice no longer serves you. Owners must have written goals and be held accountable for meeting and surpassing them.

4. Does the potential owner and existing owner have adequate business development skills? The life blood of an organization includes acquiring profitable clients and expanding the scale and scope of its work with existing clients. All owners will not have the same talents in this area, but it is necessary for all owners to have core business development skills and talents. It is up to you to determine the minimum level of performance. Even a quality control owner should be able to identify potential areas of additional business to existing clients.

Many firms believe business development is an individual effort. Firms are more successful, however, when business development is a team effort. Our experience with firms suggests that close rates are significantly higher when two or more owners or team members meet with prospective clients. For example, an owner who provides tax services to a client may want to invite a consulting owner along to provide an additional perspective. We recognize the greatest challenge to doing so could be the tax owner’s scarcity mentality—the fear that fees from consulting services may take away from the fees for tax services. We have found that individuals either have an abundance or scarcity mentality. The person with the scarcity mentality, like our preceding tax partner, believes that there are only so many dollars a client will spend, and if the dollars are spent with the consulting partner, he or she won’t have as much to spend with the tax partner. Our consulting partner believes in the abundance mentality. He or she does not consider events as a zero sum game, rather, he or she believes that if the two partners are doing good work for the client, that they both can be successful. Partners overcome the scarcity mentality when they see the success that can be had with clients when working in teams.

1. What will be the potential owner’s and existing owners’ economic contribution? All owners (with the exception of the managing owner, in large firms) need to focus more time on bringing in dollars to the firm today. Without cash flow, there may be no tomorrow. The metrics of cash collected, client profitability, and origination are more telling than the standard metrics of hours worked, billable hours, or charged hours. Writedowns and writeoffs should be closely monitored.

   Client retention and turnover is another indication of an owner’s economic contribution. Owners who can handle a large number of profitable clients or who can feed clients to other owners are extremely valuable to a firm.

2. What accounts for the potential owner’s and existing owners’ nonbillable time? Owner nonbillable time can tell you a lot about the owner’s interest in the success of the firm. Some owners may, in fact, need a wake-up call. As owners of the business, each must regularly perform activities (for example, marketing, networking, or doing pro-bono work in the community) that enhance the future value of the practice. Golf or lunch with employees and each other, without a clear client-related or performance objective, is not normally a valuable, nonbillable time activity. In some cases, golf or lunch with clients may not even be valuable. Our rule of thumb is that golf is an expression of appreciation for a client’s business rather than a way to bring in a client’s business.

   We feel strongly that a better use of nonbillable time would be to develop a new niche for the firm, help a senior manager along the owner track, or seek potential firm mergers or lateral owner transfers from other firms. Nonbillable time should be used for creating future capacity or capability.

3. What are the potential owner’s and the existing owners’ intangible contributions? Owners who have developed a valuable “brand” within or outside the firm can bring benefit(s) to the firm. These owners may attract business to the firm because of their professional reputation in the community or because of their leadership roles in civic, charitable, or religious organizations. If these owners are known and respected in the community, they may also directly or indirectly affect recruitment and retention efforts.

4. Does the owner practice good firm citizenship? Owners need to be team players. If not, consider the effect on the firm. No matter how capable or financially productive an owner has been in the past or present, you must face the reality and consider data that suggests they are negatively affecting retention, employee development, fairness, and so on—those tasks and activities that, if not done, affect the economic viability of the practice. If owners are not willing to expose their clients to other owners in the firm (that is, cross-servicing) or pitch in and assist on other client work, they are not good citizens.

Owners who cannot achieve minimum performance standards over a two-year period should be given two choices:

1. Move from an equity to a nonequity status and no longer share in the profitability of the practice.

2. Leave the firm.

If a firm finds itself in the position of asking an owner to leave, remaining owners should consider helping the owner find a place more suitable for his or her talents or allow the owner to purchase a portion of his or her client base. This decision to ask someone to leave is not about punishing the individual owner. It is about ensuring the future of the enterprise.

Remember, if you fail to change your firm’s owner performance expectations when called for, you cannot change the firm. It is not about working harder. It is about working smarter and producing more value for the firm.

Only Performance Is Reality

At the end of the day, results (individual and team performance) ultimately count. Partners cannot confuse activity with results. Harold Geneen, former CEO of ITT, said, “In business, words are words; explanations are explanations; promises are promises, but only performance is reality.” We agree with Harold Geneen, and we want to take his quote one step further. The highest performance is the performance that leads to strategy implementation.

Firms have been struggling for years to get better performance from their owners and employees. As discussed earlier in this book, all firms are perfectly aligned to get the results they get. The first step to achieving strategy implementation is to align owner goals with the firm’s mission and vision and to communicate the mission, vision, and values and what successful performance looks like. You can communicate the mission, vision, and values through a graphic representation, but it is usually more effective to talk with owners one-on-one so they can ask questions and gain a better understanding of where you want to take them. The more involvement they have in crafting the mission and vision, the more commitment they will also have to seeing it implemented.

Finally, firm performance is driven by execution or implementation of its strategic initiatives. Execution is a discipline that firm leaders must learn. Although most firms are getting better at creating strategic plans, many still suffer from poor implementation. In the following sections of this chapter, we discuss strategies and actions you should understand to drive performance.

Align Goals and Rewards to Strategic Initiatives

In this section, we discuss tactics you can use to align compensation to the firm’s strategic goals. If you want to drive results (performance) in your firm, then align owner and employee goals and rewards to the firm’s strategic initiatives. A key part of the communication process described previously is explaining to owners their individual and team (department/niche) roles and responsibilities. Before you even get started down that road, however, be sure you and your fellow owners have answered the following questions:

• Do we have a single, compelling vision for the firm?

• Can everyone in the firm clearly state it in 25 words or less?

• Do we have one firm culture or many cultures in the firm?

• Have we identified the 2 to 3 most important goals the firm needs to accomplish this year?

• How many people in the firm know what the 2 to 3 most important goals are?

• Have we identified what success looks like in each one of these goals?

• Do we know how motivated the owners and staff are to achieve these goals?

• Do we know how committed the owners and staff are to achieving these goals?

Building a Culture of Accountability— “Accountability is Good, But Not for Me”

Until the current staffing shortage, CPA firm owners had less to worry about. Once they achieved owner status, many believed the “climb” was over. The staff accountant pool was plentiful, and most firms had an “up or out” policy. But something happened along the way. Firms stepped up their competition with each other; eager and competent recruits began to disappear; and technology not only changed the way accountants worked but also where they could work. In short, the external and internal environments changed.

Owners were asked to be more accountable for the success of the firm. They were asked to be more than just good technicians. They had to be team players, critical thinkers, motivators of people, and business developers. In “Partner Accountability—How to Achieve It,”² August outlines seven building blocks that form the foundation and the framework for building this culture.

1. Strategic Leadership. The foundation of any organization is its strategic vision, mission, and core values. Firms will not embrace these concepts unless the strategic leadership comes from the top.

   • Does the firm have a clear, compelling, and realistic mission and vision?

   • Are your decisions based on achieving your mission and vision?

2. Performance Culture. This is all about getting things done—execution. Most firms don’t have a performance culture. High-performance firms achieve what they say they are going to do.

   • Do you regularly and rigorously evaluate the right measures?

   • Do you take prompt and corrective action in response to the performance information?

   • Do you reduce barriers to higher levels of performance?

   • Do you generate new and better ways of doing things and approach challenges creatively?

3. Clearly Defined Authority and Responsibility. Are the responsibilities and authority of each stakeholder clearly stated and understood throughout the organization?

   • Are partner roles and responsibilities clearly defined

   • Are expectations clearly set with each partner?

   • Are individual partner goals aligned with the firm’s strategic vision

   • Does the firm tie partner performance to compensation?

4. Embedded Core Values. Many firms have core values, and most partners and team members can’t remember them or know what they stand for. An embedded core value is one that is an integral part of the firm’s DNA. It’s not just a word on a page.

   • Are our goal values defined?

   • Do we have specific examples of how each one is lived?

   • Do we evaluate each individual on how well they live the core values?

   • Do we reward those who live the core values?

   If you don’t evaluate and reward people for living the core values, then they are probably not embedded in your culture.

5. Transparency. An organization with transparency is free from pretense or deceit.

   • Do owners clearly have the best interests of others in mind?

   • Is the information you provide clear, consistent, truthful, relevant, and thorough?

   • Do you disseminate the right information to the appropriate stakeholders?

   • Do we do what we say we are going to do?

6. Shared Ownership. Shared ownership is closely tied to the first building block—strategic leadership. It’s almost impossible to have a shared ownership if you have no clearly stated mission, vision, and core values. Shared ownership implies that you have something in common with each other.

   • Do we hold the same beliefs when it comes to client service, employee growth, and learning?

   • Do owners call out others when they are not living up to our common beliefs?

   • Have each of our partners bought into what they have clearly and specifically promised to achieve?

7. Engaged Owners. If you had to take a passion test in your firm, how passionate are your partners about the practice. Engaged owners are passionate owners. They have a certain fire in their bellies about the business.

   • Does our engagement of critical stakeholders inspire passion and motivate commitment to the organization?

   • What percent of your partners are truly passionate about the practice?

Setting Goals

Having created a culture of accountability, you can start down the path to goal setting. A simple reason to set goals and have them written down is because goals help people become winners. We all know there is a big difference between winners and losers. Author Dennis Waitley wrote, “Winners can tell you where they are going, what they plan to do along the way, and who will be sharing the adventure with them.” The first step in helping owners become winners is to set realistic goals that are aligned with the firm’s vision and strategic objectives. The most important thing is that owners believe in the vision—owners who walk the talk and serve as role models. These are the people author Jim Collins refers to in Good to Great—the right people who you want on your bus. If you don’t have a clearly-articulated vision and strategic objectives, it is much less likely you’ll get the right people.

Owners, like other members of the firm, need performance goals. Otherwise, how will they know how they are doing? How will they know what areas need improvement? And how will firm management know who the top performers are?

There should be no confusion about performance goals. They are an explicit statement of what an owner will accomplish during the upcoming year or performance cycle. The purpose is not to make all owners clones. Rather, the purpose is to maximize each owner’s value contribution to the firm in the areas of financial, client, internal systems, employee growth and learning, and business development.

The second step, in small- and mid-size firms without departments, will be up to the managing owner to help owners set performance goals. This often requires several meetings. The managing owner may be clear on what needs to be done, but this does not necessarily translate to each of the other owners.

We are confident many readers have gone down a path in which owners establish goals and complete the goal form. Then what? Most likely, not much. Owners realize leaders are not serious about goals when they are not held accountable for achieving them. They have learned that continuing to do what they have always done (as long as they don’t get in anyone’s way) will keep senior leaders off their backs. To be serious about this process, you need to do one more thing—keep score.

If you don’t keep score, you are essentially communicating that you are not serious about either the goal-setting process or accountability. Each goal needs a target, a measure of success that is a verifiable indicator of results. In other words, at the end of the time period everyone would agree or disagree on whether desired results were met or not.

Finally, tie goals to compensation, and reward for performance first.

What Support Will Owners Need?

Being an owner certainly does not mean or imply you are capable of performing all that may be expected or required. Owners must determine their readiness level for completing specific goals. Readiness level is based on an understanding of what to do, how to do it, and the motivation to do it. There are four basic readiness levels:

• Level 1 – You lack competencies and have limited self-confidence.

• Level 2 – You have a high level of self-confidence but lack needed competencies.

• Level 3 – You have needed competencies but lack self-confidence.

• Level 4 – You have both needed competencies and self-confidence.

Depending on which level you (and other owners) find yourself, you need a different amount and type of support to complete your goals.

We see in many firms today that accountability on two fronts is on the rise. Owners are becoming more accountable, and firms are providing owners with the tools and training needed to help them achieve their goals. Start with small changes, and after a few years, you will notice subtle differences in performance.

No discussion about evaluating partners and paying them for performance is complete without examples of firms that experienced paradigm shifts and then created and implemented such systems as a result. You will note that each system varies, but all have the ultimate goal of aligning performance with strategic initiatives.

Start With the Firm’s Strategic Plan

Table 12-1 is an example of a firm’s strategic plan. It’s a high level summary of the firm’s goals for the coming year.

As we will see in the next section, this firm’s strategic plan does not mean anything until it is cascaded down to individual owner performance plans.

Individual Owner Performance Plan

Each owner should have an individual owner performance plan. Firms may refer to this plan as a contract, a goal-setting form, or a win-win agreement. In exhibit 12-1, included at the end of the chapter, we provide an example of an individual owner performance plan. The purpose of the individual owner performance plan is to establish an agreement with each owner about the initiatives he or she will undertake and the goals he or she will achieve during the upcoming year. The plan should be completed in a way that ensures each individual owner’s goals are aligned with the firm’s strategic plan. The plan, along with guidance from firm management, should enhance each owner’s ability to lead the firm and execute their responsibilities as owners.

Table 12-1: Firm Strategic Plan

The goals of the individual owner performance plan are to (1) promote the growth and stability of the firm; (2) ensure the financial well-being of the firm; and (3) encourage and enhance the professional development of each individual owner.

Areas of Performance Evaluation

Although the weight of the performance areas may vary from one owner to another, we have found that you can place most of the goals within two main categories—business goals and strategic goals, as shown subsequently. In most cases, owners in the firm will be evaluated based on their level of expertise and performance in each of the following areas. A weight will be assigned to each area to reflect the importance of that area to the individual owner’s overall performance plan, as illustrated in the following:

The business goals are the common production-oriented goals that are found in all firms— business management, personal production, new business development, and marketing. The strategic goals build for the future and help the firm achieve its strategic initiatives and its mission and vision.

Goal Setting

Strategic goals often take more time and effort to develop than business goals, so we want to provide guidance in developing them. When creating strategic goals, take the following three steps:

1. Be sure you know specifically what you are trying to accomplish and how it will help the firm achieve its strategic initiatives.

2. Focus on outcomes and results, as well as activities that will accomplish these outcomes and results.

3. Write clear, explicit, and measurable statements of what you will achieve.

You can use the Goal Planning Sheet for each of your strategic goals. The sheet is included as exhibit 12-2 at the end of the chapter.

Steps in the Evaluation Process

It doesn’t hurt to provide all owners with a simple timetable and a written document outlining the steps in the owner evaluation process. The following is an example that can be used:

1. Owners will complete the following steps by November 30, 20XX.

   • Meet with the compensation committee or evaluator

   • Prepare draft of individual owner performance plan

   • Review performance bonus agreement

2. Owners will meet with their evaluators for a mid-year evaluation between (date) and (date). If the owner is not making sufficient progress toward or meeting expectations, the evaluator will help the owner create a development plan. (See exhibit 12-3 at the end of the chapter).

3. After reviewing feedback from various reports and evaluations (for example, from niche leaders, department leaders, and so on), owner and evaluator will have a year-end evaluation between (date) and (date) to review results and assess performance. This information will be provided to the compensation committee.

Changes to the Owner Performance Plan

Although we don’t like to see a lot of them, it may become necessary to make changes to the owner performance plan during the year, if circumstances warrant. A change in the plan usually requires the approval of the Compensation Committee or the Management Committee, or both, depending on the structure and size of the firm.

The exhibits that follow are an example on an owner performance plan. We recommend you use them as a template and then modify for the needs of your firm.

Final Thoughts

Although the steps in this chapter may seem like a lot of additional work, we assure you they are worth the effort. Our advice is to start slowly and evolve into a more complex system. Depending on the firm’s experience in this area, during the first year, you may just have owners document their strategic goals and let them know that part of their bonus will be dependent upon their meeting these goals. During the second year, you can ask owners to further develop their goals and use exhibit 12-2. The final stage, as discussed in chapter 14 of the book, deals with tying the goals to a performance bonus plan.