What the accounting industry can count on

Revenue for the accounting services industry is expected to grow 5.6% over 2011-12 to reach $15.8 billion.

Over the five years through 2011-12, industry revenue is expected to grow an average 2.74%. Overall growth was marred by the global financial crisis, which caused revenue to decline in 2008-09 and 2009-10. During the global financial crisis, the decline in revenue was only marginal, as clients sought help in identifying and implementing cost-cutting measures. Growth since 2010-11 has been powered by increasing demand for advisory services. Firms are now seeking process improvement advice to further streamline processes and tax advisory services have grown increasingly popular.

The industry is expected to grow an average 5.5% over the five years through 2016-17 to reach $20.7 billion. Traditional revenue streams, primarily auditing, are expected to grow solidly through the next five years, as price competition is expected to intensify and the number of firms requiring auditing grows at a subdued pace. As the market for auditing services becomes increasingly saturated, the larger firms have been expanding their value added consulting services to sustain growth. The proliferation of e-tax and simplification of personal tax is expected to erode revenue for small non-employing accounting enterprises over the next five years.

Profession lines continue to blur as firms expand their advisory offerings. Traditional accounting firms are rebranding and choosing to identify themselves as professional services firms, as they expand their array of advisory services, executing their intentions most popularly via acquisition, a strategy employed by the big four – PwC, KPMG, Ernst & Young and Deoitte Touche Tohmatsu. Smaller firms are increasingly targeting high wealth individuals and family businesses, offering cash management and succession advice.

Although industry revenue is expected to increase over the next five years, profit margins are expected to narrow as increasing price competition in the audit division continues to squeeze hourly fee increases. As more firms expand into advisory, the increasing overlap of services and increase in tender submissions will force firms to price more competitively to win contracts, especially from smaller clients who are relatively more price sensitive. Increasing ease of personal income tax lodgements are expected to reduce the need for personal tax accountants, which will be detrimental to a large number of non-employing establishments, which currently account for an estimated 50% of industry enterprises.

The carbon tax is due to hit 500 of the country’s largest polluters in July 2012. As affected companies deal with larger compliance costs, accounting firms that are able capitalise on emission auditing, assurance, tax and strategy work are expected to benefit.

Industry outlook

Industry revenue is expected to grow a strong 6.1% in 2012-13 to reach $16.8 billion. Revenue is expected to continue to grow strongly over the next five years, at an annualised 5.5% to reach $20.7 billion in 2016-17. The large firms are at present well positioned to cope with the increasingly volatile economic climate and have diversified revenue sources to ensure sustained growth. Mid-tier firms will continue to target smaller businesses and family owned businesses to further expand their advisory capabilities to these companies. However, as the big four are slowly encroaching into this market with private clients’ services, revenue growth of these smaller firms may come under threat.

Smaller accounting firms have less capacity to cope as they face increasing difficulties attracting talent at the rate of the big four. However, smaller firms appear to be pricing more competitively compared with larger accounting firms with respect to auditing work, which may win them more audit work, and as the larger firm prioritise more lucrative advisory projects. Consequently, slower revenue growth in the audit division is likely to be result from intensifying competition between the mid-tier firms, but will also likely be due to the number of potential insolvencies and bankruptcies that are likely to take place in the next 12 months.

Profit margins are expected to narrow over the next five years, as firms make inroads into previously well-defined and distinct consultancy segments. The biggest winners may prove to be the big four, as they have the reputation and the capacity to expand faster than the mid-tier and smaller firms do. Having the first-move advantage will guarantee generous profit margins, especially in advisory in the immediate term. The medium-term outlook will see more mid-tier and smaller accountancies make headway in advisory divisions, as skill sets converge, making pricing more competitive.

Regulatory reform

Major regulatory reform affecting client industries, such as the carbon tax, benefit accounting companies. With the carbon bill passed, companies will be vigorously seeking external advice in preparation for the tax, which is due to be implemented in July 2012. This will be a major boon for many accounting firms who have positioned themselves to help restructure businesses to mitigate increasing costs and lower demand for tradeable goods. As most of the 500 firms have already been reporting emissions since 2008 following the National Greenhouse and Energy Reporting requirements, the increase in monitoring and reporting revenue for carbon emissions are not expected to be significant.

Other regulatory changes to impact the industry include the proposed amendments to the Corporations Legislation (Audit Enhancement) Bill 2011, which will give companies the option to extend the audit partner contract from five to seven years as long as companies can prove it will not compromise the quality of the audit or create a conflict of interest. For auditing partners, this means greater certainty of revenue over a longer period. Another key proposal in the bill is to empower Australian Securities and Investments Commission (ASIC) to communicate directly with client companies. This places a higher quality expectation on audit providers. However, rather than significant overhauls, these amendments are instead intended to fine-tune the possible threats to audit quality.

Areas of growth

Tax consultancy will continue to be a major driver of growth, especially with the introduction of the carbon tax. Besides compliance, accounting firms are likely to offer more value propositions to process improvement, risk management and margin improvements. Businesses directly affected will restructure tax reporting more aggressively to protect profits and revenue.

The big four are expected to capitalise on their existing networks and reputation in China. For example, the Chinese government and Chinese companies operating in Australia are the largest sources of business for PwC Australia. A number of firms have also established a distinct China advisory practice as the Chinese interest in the Australian resources sector continues to boom.

While the big four and mid-tier firms are fortunate to have the capacity to expand and grow despite the current economic climate, the looming threat of a second financial crisis will continue to drive many small businesses under. Insolvency specialists will win but smaller accounting firms are likely to lose bookkeeping jobs. As household budgets tighten and people move to e-tax filing, personal accountants will be under the pump as demand for their services falls.

Wages and profits

Wage pressure is expected to be low over the next five years, as there is no shortage of accountants. Additionally, as accounting firms expand their service offerings, recruiters are also looking to hire beyond the traditional business graduates and actively hiring engineers and economists, as businesses become more data-oriented and analytical. Graduates are also increasingly aware of the opportunity that the big four and other accounting firms have to offer outside the traditional accounting services. However, finding candidates with the right experience remains a hard task and those with specialist knowledge will benefit accordingly. As business opportunities grow for accounting firms, hiring is expected to grow 3.8%, with overall industry wages to grow at a lower rate of 3.4%.

As wage costs account for the largest proportion of revenue, and revenue growth is expected to outpace wage growth, profit margins are expected to improve moderately in the near term. The big four and mid-tier firms’ aggressive expansion into the premium advisory services market will also widen profit margins over the next two years. However, in the long term, profit margins are forecast to fall, as businesses compete against each other on an equal playing field.

Key success factors

• Ability to effectively manage risk: An adequate level of professional indemnity insurance is needed to cover any legal issues that may arise from clients.
• Membership of an industry organisation: It is beneficial to have associations with specialist legal firms or other accounting firms to provide advice and a broader range of services to clients.
• Establishment of brand names: A good image and brand name is important, as is ensuring good word-of-mouth recommendations.
• Experienced work force: Firms should have a balance of qualified staff and staff-in-training, with varying levels of experience and qualifications. This will assist with wage costs.
• Optimum capacity utilisation: Firms should have a high level of chargeable time (i.e. above 65%) to ensure costs are covered and returns are adequate.
• Access to the latest available and most efficient technology and techniques: It is important to maintain a high level of technological sophistication, in areas such as computers, laptops and associated accounting software programs to ensure high levels of staff efficiency and productivity.
• Maintenance of excellent customer relations: It is important to maintain good communication with clients and good client relationships and service at all times, to ensure ongoing and repeat business.
• Access to niche markets: It is beneficial to develop a few niche areas of specialisation to ensure a good flow of recommendations and work from clients and other new businesses.

Karen Dobie is the general manager of IBISWorld, Australia’s richest source of business information.