Accounting firms are an important and necessary part of the business world. They provide critical services to businesses of all sizes, from start-ups to Fortune 500 companies. In fact, accounting firms are one business that everyone needs during boom times and during busts.
But are accounting firms profitable?
If you are an accountant and are considering freelancing or starting your own firm, you are probably wondering about the profitability of accounting firms. After all, if you’re not confident of being able to make your accounting firm profitable, there’s no point in starting it in the first place, is there?
In this article, we’ll review the factors that affect the profitability of an accounting firm and how you can influence these factors to make sure your firm becomes and stays profitable.
When Are Accounting Firms Profitable? (Top Factors Reviewed)
The top factors that affect the profitability of an accounting firm are:
- Enough billable hours to cover expenses each month
- Diversified client base from different industries
- Clients with a large number of monthly transactions
- A Healthy Cash Flow
- Control over Expenses
Let’s dig deeper into each of these.
1. Enough billable hours to cover expenses each month
For any business to be profitable, revenue has to exceed expenses. And so for an accounting firm, the number of hours that customers are billed each month need to be enough to cover the firm’s expenses for that month.
To have enough billable hours your accounting firm will need enough clients because realistically for normal business accounting you can only bill a particular customer for a certain number of hours.
So if you hire a new accountant to join your team, you may need to acquire a few new customers to generate profits on that accountant’s time or carry that accountant on your books at a loss.
2. Diversified client base from different industries
Any business needs to have a good mix of clients in order to be profitable. This is just as true with accounting firms. You need to have a mix of small businesses and large businesses, as well as a mix of different types of clients from different industries.
Small businesses can be good clients because they may not have the financial sophistication that you possess and so they’ll listen to everything you have to say. However, small businesses are always at risk of going out of business which could mean a loss of revenue for you.
On the other hand, a large business might be more stable and give you a stable revenue stream. However, it will almost certainly have internal finance people with whom it may be easier to have discussions but who could also interfere with your work or question some of the decisions you make.
Similarly, try to find customers from different industries. This way if a specific industry is hit by an economic downturn your firm can limit its exposure to customers from this industry who may now have less business to offer you or who may even go out of business.
For instance, accounting firms that were heavily exposed to the travel and leisure industry went through difficult times during the Covid-19 lockdowns and travel restrictions as their customers suffered large losses and many even went bust.
So, in short, avoid putting your eggs in one basket or just a few baskets. Instead: Diversify.
3. Clients with a large number of monthly transactions
Accounting firms need clients who have a large number of transactions to record. This is because the more transactions a client has, the more hours an accountant can bill.
For example, a corporate client which only issues a few invoices each month will not need as much accounting work as a client who is running a busy e-commerce store with hundreds or even thousands of transactions each month.
Of course, when you start a relationship with a new customer you may not know how their business will grow or how many transactions they may have. What you can do is protect the downside by charging a minimum fee per customer regardless of how many transactions they do per year.
4. A Healthy Cash Flow
Technically, a healthy cash flow is not a requirement for profitability but if your firm faces a cash crunch it may need to dip into a line of credit or be forced to get bridge loans both of which will affect profitability.
There are a number of ways in which an accounting firm can have a healthy cash flow. One way is to make sure that you’re billing your clients regularly and collecting payments on time.
Another way is to have a good mix of clients with different payment terms. For example, some clients may be billed on a monthly basis while others could be billed quarterly. This will help to even out your cash flow so that you’re not always waiting for payments from customers.
And finally, make sure that you’re keeping track of your expenses and not overspending. This may seem like an obvious point but it’s one that is often overlooked – even by accountants!
5. Control over Expenses
Sometimes one of the easiest ways to ensure profitability is to put a lid on expenses – especially frivolous expenses.
Make sure that you’re not spending more than necessary on things like office space, decor, supplies, and advertising.
Conclusion
So, are accounting firms profitable? The short answer is they can easily be profitable once they acquire a minimum number of clients. So this is a business that can really be started by one person, working part-time, and can be scaled as more and more customers are added to the client roster.
The profitability of an accounting firm depends most of all on billing enough each month to cover expenses and leaving a profit behind for the partners.
One way to get there is to ensure you have a diversified client base to avoid over-reliance on a certain type of customer or customers from a certain industry.
Next, prioritize winning clients which have a large number of transactions because more transactions equal more billable hours. It’s that simple.
Finally, like all businesses an accounting firm needs to ensure it has a healthy cash flow and keeps its operating expenses under control. As long as the firm grows linearly with growth in customer base, these two points should not be a problem.
We hope you found this article useful. Thank you for reading!
