Accountants in the Republic should have a smile on their faces this week with the flotation on the US stock market of much of the management consultancy business of the global KPMG accountancy operation.
The newly floated company includes the management consultancy business of the KPMG practice in the Republic's market as well as KPMG's management consultancy businesses in the Americas. But the consultancy operations of KPMG practices in other countries are not included in the new company. The inclusion of the operation in the Republic is something of a coup for the partners in the State and for the head of the Republic's consultancy operation, Mr John Condon. It follows many months of preparation and planning and should ensure that the Republic's operation forms an important part of the European expansion plans of the new company.
The flotation of KCI (KPMG Consulting Inc) is the latest in a series of moves that are fundamentally changing the Big Five accountancy practices worldwide. So far, Ernst & Young has sold off its management consultancy business and Andersen Consulting has been separated from Arthur Andersen to become Accenture, a separate consulting company that is expected eventually to take the flotation route.
PricewaterhouseCoopers' attempt to sell its consultancy to Hewlett-Packard failed and the partnership is assessing its options. Of the Big Five practices, only Deloitte & Touche remains committed to keeping its audit/ accounting and management consultancy businesses within the partnership. So why are traditional partnerships splitting off part of their operations into limited companies and floating or considering flotation on stock markets? The changes have two main drivers: business reasons; and the strong stance taken by the US regulator, the Securities and Exchange Commission (SEC), to ensure that auditors to companies cannot be influenced in their opinion by their practices earning or having the opportunity to earn lucrative consultancy fees from the client they are auditing. Business reasons revolve around the need to grow and develop their consultancy operations in very competitive but highly lucrative markets. To grow and develop the business, talented and experienced staff were required, and strategic business alliances and cross shareholdings could be necessary.
As more of the accounting consultancies moved towards technology-related areas - information technology outsourcing and consulting, and e-business consulting - they found they needed to take on board experienced senior professionals. Often these employees had to be poached from technology companies or the consultancies ended up in competition with technology companies to attract them. In addition, retaining key employees who had built up relationships with clients was important. Some consultancies were having difficulties attracting and retaining employees in a market where they were competing with publicly quoted or emerging technology companies, which could offer share options as part of a remuneration package. Employee retention is cited as one of the primary reasons to float off an operation. In a competitive market for talented individuals, a publicly quoted company can offer share options to sweeten the recruitment package. A partnership is restricted to offering a good salary, bonuses and the lure of possible promotion to partner at some time in, for many, the far too distant future.
The partnership structure is not seen as conducive to expansion into new geographic or service markets through crossshareholding arrangements or alliances.
As one partner from a Big Five practice explained: "It is necessary to make alliances to grow the business and these or cross-shareholdings are difficult when all the businesses are under the partnership umbrella because of the strict rules to ensure the independence of the audit."
Access to capital is often cited as another reason for flotation. In a partnership, new capital mainly comes from profit retention and investment by existing partners. A publicly quoted company could sell shares in the market to raise capital.
Access to capital may not be such as huge issue for consultancy firms, where human capital is the most important factor. Deloitte & Touche, for example, says that raising capital has never been a factor restricting its growth and development. But in a fragmented global consultancy market, where consolidation is probably overdue, companies will need access to cash or shares to make acquisitions. For existing partners, an advantage of flotation is that it gives them an opportunity to unlock some of their ownership stake in the partnership, and provides an exit mechanism and a way to reward those who built up an operation over time.
In accounting partnerships, the partners share profits through their working lives. Though they are usually well rewarded through their working lives, when they retire they generally have to walk away from the partnership with just the capital they invested. Each partner has a temporary ownership which, in theory, is handed on over time as partners retire and are replaced. Proponents of the partnership model cite some disadvantages in the flotation model: the danger that staff could be demotivated and former partners disgruntled by the change. They explain that, as a publicly quoted company, details of the remuneration of directors and top employees would have to be disclosed.
In a partnership, the partner gets paid as an employee and gets a share of the partnership profits - but the amount paid to each partner would only be known to the other partners. Some partners said they felt disclosing their remuneration could accentuate a divide already present between partners and other staff. One partner warned of a danger that former partners could take legal action to block a change if they got nothing for their years of building up the partnership.
In addition to an increasingly urgent business logic for spinning off management consultancy operations as separate companies from the main partnerships, an increasingly strict stance taken by the SEC gave further impetus to partnerships considering new structures. "The SEC view that a practice which was auditor to a corporation and was earning large consultancy fees from that corporation would be impaired in its ability to give a clear audit opinion was definitely a factor in splitting the operations," one Big Five partner said. Another influence was the SEC statement to the boards of SEC-registered companies that they should consider whether awarding consultancy contracts to their auditors would impair their ability to give a proper audit opinion. While SEC rules only apply to SEC-registered companies, these account for most of the business of the Big Five firms. Many practitioners took the view that, because of the strict audit regulations, the partnership structure was inhibiting the expansion of the consultancy business.
How was the KPMG float organised? It was a complex operation. In the Republic's market, the consultancy business had first to be split off from the audit business within the partnership.
The next step was to set up the consulting business as a separate company owned by all the Irish partners at KPMG. The business then had to be valued and sold off to KPMG's US consulting operation, which had been spun off and incorporated into a separate company in January 2000.
Payment to the Irish partners was in the form of shares and loan notes in KCI, the value of which will be unlocked in this week's flotation. However, with a six month lock-in period, the partners will have to wait before they can realise their new wealth.
