Avoid the temptation to ‘sprinkle’ partner compensation

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For the most part, managing partners at a large number of the best run Top 100 firms below the Giant Four do an excellent job in splitting up their compensation pies.

Their partner compensation system rewards performance and, at the same time, nurtures rising stars with lots of potential. Goal setting and evaluation tools are used to develop an understanding about each partner’s qualitative indicators (talent development, strategy advancement, client relationships, technical capabilities and distinctions, personal attributes, office leadership, mobility and communications) and quantitative indicators (business development and profitability, total dollars billed, total hours managed, realization rate and personal billable hours). These tools enable the managing partners to classify their partners into certain buckets that often look like these:

• Bucket 1: Major relationship builders and rainmakers with few billable hours but a unique ability to “feed the system”. These are the franchise players.

• Bucket 2: Rising stars with lots of potential.

• Bucket 3: Average performers who continually hit single and doubles.

• Bucket 4: Ineffective partners who need to be outplaced.

• Bucket 5: Solo operators and free spirits who have a tendency to roam off the ranch.

• Bucket 6: Hardworking back office partners with many billable hours but only marginal contributions on a macro basis.

When the time comes to divide the compensation pie, these tools and partner classifications enable managing partners at many of the best small and midsized CPA firms to place a lot of emphasis on paying for performance (particularly partners in Bucket 1) and, at the same time, nurturing the rising stars with lots of potential (Bucket 2). However, that even at the best run firms, it is not unusual for managing partners to “sprinkle” some compensation from partners in Buckets 1 and 2 to partners in Buckets 3, 4, 5 and 6.

Why does “sprinkling”, even at the best run firms, occur?

The answer to this question lies in the benevolent views of the managing partners who often look beyond the numbers and allocate partner compensation, at least in part, with the hope of keeping harmony among the partners. I’ve also come across some managing partners who have deep-seated beliefs their partners are earning more money than they ever dreamed of; therefore, “sprinkling” some dollars around won’t even be noticed. Others believe that many of their partners aren’t motivated by additional compensation so there’s no harm in doing some spreading or spraying.

Finally, others just “sprinkle” some portion of partner compensation simply to avoid confrontation with certain partners. And while some small amount of “sprinkling” is certainly understandable in good years (i.e., “there was plenty of money to go around so there wasn’t any harm in sprinkling some dollars to keep everyone happy; after all, it does take a village”), we believe “sprinkling” should be kept to an absolute minimum.

When there are tough years (and there always are tough years) and there isn’t enough money to go around to adequately compensate the franchise players and the next generation of all stars, I not only would strongly discourage “sprinkling” at all costs, I would encourage managing partners to redistribute some compensation away from partners in Buckets 4, 5 6 (and perhaps Bucket 3) and shift it over to partners in Buckets 1 and 2. After all, the franchise players are making things happen today and the next generation of partners will be making things happen in the future. Without them, the firm would not perpetuate.

But this advice isn’t only directed to the best run small and midsized CPA firms. It’s also directed at those firms that are not clicking at full throttle—those that are struggling to grow and currently not achieving average equity partner compensation (the market currently is about $625,000) at the Top 100 firms below the Giant Four. There is considerable equity partner compensation compression at the underperforming CPA firms. This is happening, in part, because these firms don’t have the right mix of partners—not enough who fall into Buckets 1, 2 and 3 and too many partners who are classified in Buckets 4, 5 and 6. Changing the partner group obviously is a much bigger challenge that needs to be dealt with.

If your firm is struggling to achieve its full potential (with average equity partner compensation of about $625,000), I strongly encourage you to take a hard look at the low-hanging fruit—your partner compensation system. At all costs, don’t “sprinkle” dollars away from your franchise payers and high potential all-stars. If anything, redistribute dollars away from partners falling into the bottom buckets to partners falling into the top buckets. If some of your low-performing partners don’t understand that it’s absolutely necessary for the firm to compensate the franchise players and high potentials as close to market as possible, ask them to leave—and hope that they do. They probably shouldn’t be with you anyway.

At the end of the day, the partner compensation pie is a zero-sum game. Small and midsized CPA firms that are not achieving average market compensation of about $625,000 have the huge task of changing their mix of partners to include more franchise players and partners with high potential. That should be their long-term goal. It takes years to fix, but history has shown it certainly can be done. In the meantime, the short-term task is to get as much compensation to the partners who are creating the cash flow today and those who will create the cash flow in the future—even if that means you have to take dollars away from other partners. The last thing any managing partner wants to do is to lose their highest-performing partners over compensation, but it’s happened over and over again. Warning: don’t sprinkle! Other than making you feel good today, there is no upside.

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Partner compensation Partnerships Dom Esposito