New rules, new opportunities

By Grant C. Robinson
Illustration: John Sapsford

Thanks to new independence and differential reporting rules, practitioners must rethink how to apply them in their clients’ interests

A significant part of a public accounting practitioner’s work is with family businesses. In the broadest definition of a family business, every partner in a CA firm is part of a family business; every car dealer is a family business, whether or not their families are involved in the business. Every sole proprietor is a family business, as he or she must determine how to create an entrance, exit and compensation arrangement. And these arrangements are driven by the needs of the owners, who are often the management team, to determine how to get in, get out and pay themselves.

The world as it was
Family businesses, which represent 70% of the employment in Canada and more than 50% of our GDP, deal with a number of different issues: ownership, family and management (see three-circle model above). In addition, family businesses deal with trusted advisers who understand them.

In the past, public accountants provided attestation services for companies in the business circle, and participated in tax and estate planning in the ownership circle. They might also have devised tax-friendly compensation arrangements to help fund education or other family initiatives and best served their clients by knowing all members of the family, and vice versa.

But thanks to the Enrons and Nortels, the rules have changed. Today, to provide attestation services, accountants must be independent, yet these family businesses need trust-ed advisers who understand their special dynamics.

The accounting scandals of the past few years were due in part to mixing third-party reporting with the advising of business strategies. In public companies, where there is a wide range of shareholders who don’t participate in the management, ownership is separate from management. In family businesses, owners and managers are usually one and the same, and they understand what is happening.

The new independence rules are there for the public’s protection. These initiatives were necessary and are ensuring the profession has relevance going forward. The rules remind us that we, as a profession, are here to provide independent advice and opinions. In many ways, we are returning to our roots, as this was the foundation our profession was built on.

So how does a professional play the independence card with a family business client that needs his or her input based on intimate knowledge of the business and the individuals in it? Many practitioners have had the same clients their entire careers. These clients, who are likely retiring sometime in the next 120 months, need advice more than ever but now the rules require that one separates services.

The world as it could be
Practitioners must find ways to collaborate with others, to meet the new rules as well as offer clients the same great service. They will need to learn to turn to others in the profession, share information and knowledge with them and get them to step in where there may be a perceived conflict of interest.

We spent the 1980s and ’90s competing vigorously to attract new clients, and with-in our profession we have put up many walls. Many of us are not comfortable with or experienced in the notion of sharing files. But as new independence rules come into force, it is incumbent upon us to forge relationships with public accountants who are good at what they do and are compli-mentary to our services, particularly in independence issues.

Our profession began with a mission to serve clients, to be independent and to provide knowledgeable opinions. We should look to the profession’s pioneers and how they collaborated to build the profession. While it may not be easy for small and medium-sized practitioners, the reality is we have these rules and we need to respond to them.

It becomes even more important as we work on specific issues with clients. Take for example the differential reporting rules and their impact on clients with a good succession plan. The challenges to family businesses in creating succession plans are huge. Implementing the technical part is easy; getting the family to articulate what it wants and getting members to talk to each other is the hard part.

Take the case of a family who created a thoughtful exit strategy. Family members could place their shares in the company in an affordable way and over a time period that ensured if a family member left the business it would not harm the business.

However, this implementation has been caught by the differential reporting rules. Now the family business must disclose that all the common shares of the company could be redeemed, even though redemption would literally take 30 years. Such reporting can work when the company is operating within Canada and our financial institutions fully understand the rules. However, where a company has a more sig-nificant business with projects that may require international funding or international initiative, the unfortunate aspect of differential reporting is that Canada’s accounting rules are not known or understood internationally and hence some good succession work can create major financing problems for clients.

In this case the clients ensured their business was sustainable and any shareholder disputes could be resolved without shotgun clauses or significant financial stress on the business. They had created an excellent and affordable exit strategy. The accounting rules require disclosure that the company had no equity, because all the retained earnings, and then some, would be converted to debt. The truth is the company was managing the family risk and should have a report that says they are stronger than most.

Therein lays the opportunity. As practitioners, we need to thoroughly understand these rules. We must create structures that tell the true story of the business. We need to ensure that the financial statements present the situation fairly and involve building succession structures that take into account the rules. We must see that the work we do with the family mix appropriately with the things that need to be done for the business.

Last summer I had a tremendous experience climbing in the Rockies. I was struck by how the guide raised my confidence, enabling me to climb a 9,200-ft. mountain while feeling sure I could reach the top and return to the bottom in one piece. I had never climbed before.

He showed me how to approach various parts of the mountain, and as we climbed both the terrain and the weather kept changing. We carried winter coats and rainwear as we climbed because we didn’t know what we would encounter. The guide was key in ensuring we had a safe and enjoyable trip.

In many ways, practitioners working with family-business clients are akin to that mountain guide — they need to coach clients on how to approach things. They must be familiar with the terrain and understand the technical rules and how they can benefit their clients.

What will the future bring?
None of us knows what the future will bring except that change will happen, conflict will happen and success and conflict will be borne out of changes. Is the world different as we go forward? Yes. Are there obstacles to our practice in the profession as we have known in the past? Yes. Is there a future that can be stronger and better? If we see these changes as an opportunity to be true professionals, then yes.

Now is our chance to undertake the dialogue with each other about how we will apply these rules to benefit our clients and the public interest.