Chip off the old Bloch

Henry Bloch built the world's biggest tax preparation company and took it public. His son Tom has just been named president. But for the time being, at least when it comes to TV commercials and takeover threats, Dad's still on the scene.

By Stephan Wilkinson

Thomas M. Bloch is an accountant with a sense of humor. The south wall of his otherwise spare office in Kansas City, Missouri, is—dare we say it—chock-a-block with cartoons. They are the framed originals of cartoons and political zingers, and all have punchlines based on his famous father's name. "if his name was H&R Blockhead," says one tattered bum on a park bench to another, "he'd be sittin' here right next to us." Two customers approach a pair of men tending a food cart marked "H&R Block Hot Dogs." One says, "Whatever you do, don't ask them about the days before tax reform." A child's alphabet block on spindly little legs, an H and an R visible, is greeted by a figure saying, "Not the H&R Block?"

"That's my favorite," says Tom, who at 35 is the brand-new president of the world's largest commercial tax preparation company. He can afford to be amused. For tax reform never really happened—although it is entirely possible that corporate raiders and takeover specialists present an even greater threat to H&R Block's family connections today. Still, though his father knew the witless mispronounced his name "Blotch" and therefore spelled the company name phonetically, Henry Bloch is anything but a blockhead.

Nor was Henry's brother, Richard—the R of H&R—whom their mother talked Henry into hiring in 1947. "I said I didn't think I could afford to hire him," Henry today reminisces. "She said, 'I'll pay part of his salary. Go out and hire him." "Well, I could never let her do that, so Dick came to work for me. A few months later, he said he'd like to be a partner."

Richard Bloch sold his share of the company in 1982 after a bout with lung cancer (from which he has since completely recovered), but according to Tom, "My dad and my uncle were a tremendous team. The two of them complemented each other. My dad is more of an inside person, a professional corporate manager, and my uncle was a real entrepreneur, expanding the operation."

H&R Block, a family company that was founded, run, and named by two close brothers, went public in 1962 but has never lost its intimate personification as "Henry Bloch's firm." Yet it's no longer a compact little operation providing a simple service. "It just grew," says Henry, with as much amusement as he—a silver-haired 67 and as serious as accountants are supposed to be—ever displays. "I can remember thinking years ago, 'One more good year, just give us one more good year.' We kept talking one good year after another."

In fiscal 1989, H&R Block did a billion and a half dollars in business, if you include the revenues of its tax preparation franchisees, and $900 million if you count only the company-owned offices; earned over $100 million profit for the first time in its 35-year history; and prepared the tax forms for better than one of every 10 U. S. individual income tax payers. It also saw increasing revenues from its major subsidiaries—CompuServe (computer information services), Personnel Pool of America (temps for health care and other industries), and Path Management Industries (business-skills training).

"But we don't see ourselves as a big business. We still look at it as small and try to give good service. A lot of our customers still come into our [tax preparation] offices and ask for Mister Block," Henry Bloch admits, coming as close to laughing as he ever does. Not one to leave an assumption dangling, he explains, "They evidently don't realize we're nationwide."

Indeed they are, with offices in virtually every town and shopping center in the U. S.—7,458 in all, plus another 1,320 in Canada and overseas. Over half are franchise operations—a good deal that is no longer available. "There's no room for an more," says Henry. "Everything is taken. We haven't sold a franchise in many years. There are 15 or 20 major franchise holders whom we would like to buy out, but they don't want to sell. One of our first franchises was the entire State of Oklahoma back in 1958. One time we gave somebody the franchise for the State of Texas," he marvels, shaking his head at a deal that probably ought to be ranked right up there with the Louisiana Purchase and Peter Minuits $24 in beads for Manhattan. (The entire New York City H&R Block franchise went early on for $10,000. Minuit would have approved.)

H&R Block franchisees pay the company a franchise fee based on the total revenues, plus a dunnage for the national advertising the company does. In return, H&R Block provides them the necessary tax training and supplies. Many franchises are single-office outfits called "satellites," in towns of 15,000 or less; they get a free ride on Bloch's advertising.

There was a time not too long ago when the taxpayer who asked for Mister Block would in fact have gotten a somewhat harassed young Tom, who started his fulltime career at the company in 1976, a 22-year-old working in the trenches as a tax preparer at a local office. "People would say, 'Oh, great, you're one of the Blocks—you're gonna find me deductions no one else would be smart enough to get.' Here I was, a brand new preparer, far from being even the best in that one office, and people had these great expectations. It was a tough job."

Tom Bloch never considered doing anything but working for his father's company. "It was almost a nondecision," he recalls. "I remember growing up hearing my dad talk about his day, at the dinnertable. During the summers, I used to come in with him and do small jobs. Sitting on the sidelines watching this company evolve and succeed, wanting to be part of a wonderful success story. I think I was drawn into it just because it was so family oriented. When I graduated from college, I didn't seriously consider going to business school, I was ready."

Ready to start at the bottom, that is—the young Bloch was put into an extensive, succession-specific training program. "My idea was to bring Tom up I through our outside-acquisitions group," his father admits, "but our lawyer, who's heavily involved in our management, disagreed with me. I thought our future was acquisitions, but he said, 'Your business is tax preparation, and Tom should come up through that.' He was right, so we designed a program to take him all the way through tax operations. He eventually even taught our tax course."

Actually, the young man's training had begun far earlier, for Henry Bloch used to rotate among his two sons and two daughters the perk of going on his frequent business trips. "They loved the trips, the excitement, the interviews. Sometimes bands would greet me," Henry recalls. "But the selfish reason I did it is that I like to go to bed early. I didn't want to stay up late talking business. And if I had a four-year-old with me, I'd say, 'Enjoyed dinner, but I gotta put Tom to bed now."'

Tom's older brother, Robert, who apparently acquired an entirely different set of goals through those family/business trips, is also an H&R Block executive, but of a pointedly unambitious kind: Bob Bloch assesses grant possibilities for the two small philanthropic foundations that H&R Block maintains.

"Tom is aggressive and ambitious, and Bob does not seem to be at all," Henry says. "And that's just fine," Tom adds. "There's nothing wrong with that. For years, Bob has made it clear that he has no interest in doing what I do—that if he were offered my position, he'd say, 'Absolutely not.' If there's any rivalry or jealousy," Tom says, "it may be in reverse—for the extra time he has with his family."

For Bob has structured his job so he knocks off at two every afternoon in order to be with his 7- and 12-year-old children. "When he came to work for us, I offered him a certain salary and he refused it—said I was paying him too much," his father says with some pride. "He wanted the extra time off instead."

"I made a conscious decision [to not compete] early on," Robert Bloch explains. "I went to art school, got a degree in art history, ran my own gallery for awhile, and worked for five years at a museum. So now I've got other interests."

Tom Bloch has two young sons of his own. Does he see the succession continuing within the family? "I don't know why," he says, "but I don't imagine them in the company. I'm not saying I'd discourage them, but I certainly wouldn't encourage them. There was never any pressure or suggestion from either of my parents as to what their children ought to do when they grew up. Zero. They say the classic situation is that the third generation ruins the business? Let's just hope it's not the second," he laughs.

Through his ubiquitous television commercials, Henry Bloch has become a member of the pantheon of corporate media personalities, right up there with Lee Iacocca and Frank Perdue, and considerably more convincing than Tom Carvel or Victor I-Bought-the-Company Kiam. (Henry admittedly stumbled last spring, when he taped several TV pitches for Subaru that infuriated some H&R Block franchisees. The point of the commercials was to suggest that buyers could save the equivalent of a tax refund by choosing a Subaru, but some resented the application of the boss's avuncular approach to another company, and a Japanese one at that.)

"I don't think anybody could be as comforting on the tube as Henry is," says Herbert Buchbinder, a senior vice-president of Kidder Peabody's Kansas City office and a senior analyst who has long tracked H&R Block stock. "People respect him."

H&R Block started out in 1946 as the United Business Company—certainly a grander and more suggestive title than the straightforward, old-fashioned family logo— "but I always hated that name," Henry today admits. He came to believe that a company selling a service ought to bear the name of the people providing that service. The two brothers started their path to a place in American folklore when they changed the name to H&R Block in 1955. Henry's feeling was further refined when H&R Block began national TV advertising. "A consultant we used, a professor at Harvard, said the person whose name is on the door can better sell a service than can some outside announcer. That was his theory, and our ad agency bought it."

This creates a problem for his son, however: Dare a youthful, handsome, 35-year-old with a crooked grin—the yuppie incarnate, if one didn't know how frugal and cautious he actually is—represent the comforting expertise of the world's premier tax preparation firm? "Tom's going to have to take a different approach on television if in fact he decides to go that route," Buchbinder opines. "Tom is a good-looking guy, he's got a good sense of humor, but I think as long as Henry's able, he's going to be stuck doing the commercials, because he does such a good job."

But Tom in fact is the new president and chief operating officer (as of August), and his father is taking a decreasing management role, as chairman of the board though still chief executive officer. Will the slow-talking, deep-voiced Tom become the TV pitchman? "That's up to our ad agency," says Henry. "I think they tested him this year, but they asked me to do them again."

"I did a commercial that ran this summer for our tax school, but I don't know what's going to happen," says Tom. "I have no burning desire to be a media personality."

Tom Bloch confesses that it has been hard filling his father's shoes in other ways as well. "When I started, I was eager to prove myself, eager to be accepted and to make myself and others feel I was worthy of my position," he says. "So I tried to come up with new ideas, better ways of doing things, and I think I was somewhat naive."

"At first, we had some disagreements," Henry admits.

"It can be difficult," says Tom. "When you're dealing with your father as a boss, a son or daughter might think, 'Aw, come on, Dad, let's do it this way.' There's less distance than there would be between you and a conventional boss. It's got to be tough for a parent, too. A lot of fathers and sons couldn't work together."

The lack of distance cuts both ways. "You need to be careful of what you say, with your own children," Henry muses. "They're more sensitive. I find myself having to think a bit more before I speak out."

As H&R Block grows ever more profitable and, at tax time, seasonally gorged with cash, it could be that one of Tom Bloch's increasing concerns will be staving off a takeover. "Block really should be more of a target than they are," analyst Buchbinder theorizes. "I'm surprised nothing's ever happened, because [the family] only controls about seven percent of the stock [currently worth about $125 million], and every year they reduce their ownership.

"We've been concerned about it for some time," says Henry Bloch. "We have so much cash, a company could almost buy us with our own money: they could 'buy' the company and then pay for it with the money they then owned." Buchbinder feels this is a bit of an exaggeration, since a takeover would need about $400 million. Still, he says, "if you look at their cash in April or May, its got to be very tempting, because any company's that's going after Block certainly could use that cash more aggressively than Block is."

The H&R Block Tax Operations Division is one of those rare companies with an utterly dominating position in its market. (A recent Wall Street Journal article included Block in a summary of a dozen such companies that "can stiff-arm competition, maintain high profit margins, and set the rules of the game within their industries or market niches.") Block's only real competition is individuals who fill out their own tax forms, which comprise about 53 percent of the total market. Among other commercial tax preparation firms—as Queen Victoria was informed when she asked who was second in the first America's Cup race—there is no second place.

Only once has this comfortable position been threatened, when, in the early 1980s, there loomed the possibility of a deductionless, unloopholed income tax so simple it would require only the figuring of a percentage of gross income.

Needless to say, nothing much came of the tax-reform movement. Yet the spectre of some unforeseen constipation of the golden goose has to lurk in the tax-season nightmares of Thomas Bloch, regardless of market dominance. "Tax season is a very, very stressful time," he says."We've got a three-and-a-half-month period during which to make money, but we have eight and a half months during which we lose a lot of money."

"A lot" is no exaggeration: During the nine months between May 1, 1989, and January 30, 1990, for example, H&R Block's tax operation lost more than $60 million, and this upside-down cash flow is as annually certain as ... well, as death and taxes. "Is it inevitable that the last quarter will more than offset it? I'm not sure I'd use the word inevitable," Tom says in answer to the question, "but history has indicated it will be successful."

H&R Block has an unfortunate image as the McTax of accountants—I hate that comparison," Tom says—good at rapid filing of 1040s and short forms. But ask them to tackle creative deductions, income averaging or depreciation, a higher income taxpayer might typically assume, would be akin to asking for hollandaise on your Egg McMuffin. Tom wants to tap this market with H&R Block's new Executive Tax Service, which could attract family businesses, among other new clients. It's still a mote (140,000 1989 returns) in comparison with the 13 million-plus returns the company's standard preparers fill out. But the new service grew 60 percent last year, which overwhelms the virtually imperceptible growth rate of normal Block tax services.

"We think that's an excellent market opportunity," he avers. "Of course, it's not for people who go to the Big Eight accounting firms and pay thousands for their returns."

When Henry took his company public in 1962, he learned one of the basic verities of the business world. "When you run a public company, it doesn't matter how much money you make," he explains. "It's all, 'Are you growing?' That's what the stockholders want." The days of "just one more good year" were behind him, and now Bloch had to grow the company.

"So we diversify to help utilize the cash," Henry says. "Otherwise, the stockholders will demand it. They feel that you should take this cash and pay it out in dividends. Well, I hate to pay it out in dividends," he says. Instead, Henry paid it out by buying such successful companies as CompuServe and, occasionally, by getting involved in abortive projects like the Hyatt Legal Clinics, a nationwide string of basic-services law offices.

Tom can today look back and say, "It sounded like such a natural, but as it turned out, filling out tax forms is not like giving legal advice. We tried for a number of years, but we were never able to do in that business what we'd done in the tax preparation business." Though there is still a moderate network of Hyatt Legal Clinics, H&R Block has sold its interest in the subsidiary that provides Hyatt with services.

"They got out of that fairly whole," says Herbert Buchbinder. "But CompuServe was a fabulous acquisition. Personnel Pool is certainly worth substantially more than what they paid. Path Management is coming back nicely, but its earnings are well below what they were when it was acquired. Their acquisitions vary from brilliant to okay. They're very, very careful in spending their money. That's why they have so much cash."

In 1980, when H&R Block acquired CompuServe, Henry announced that within five years, half the company's revenue and 35 to 50 percent of its profits would come from subsidiaries other than the Tax Division. Ten years later, H&R Block has finally made it to 49 percent of total revenues from its subsidiaries, but only 30 percent of pretax profit is attributable to acquisitions.

Block's Tax Division doesn't grow spectacularly in terms of raw numbers—customers served and returns filed—but profit from the division increases annually as H&R Block raises prices and lowers costs. "Ten-point-six percent of the population uses us," Tom explains. "That's pretty constant, though it's inched up a little bit over the past six years. Twenty percent? We sit here wondering how to make it 11 percent."

One way Tom hopes to do that is through electronic filing of returns—paperless, straight from H&R Block's computers to the IRS's IBMs—combined with a service called Rapid Refund: H&R Block then provides customers with, in effect, a low interest loan equivalent to the tax refund expected, delivering the money in one week rather than the minimum of six to eight weeks an IRS refund normally consumes. (When tested in 1988 in about half of Block's offices, the Rapid Refund program stumbled. They've since solved their problems, Tom claims, and the program now has gone nationwide.)

Tom is cautious about addressing takeover concerns and continued acquisitions, and he admits that his father will continue to exert strong control over such major decisions, "I don't have any preconceived idea of how things should be done differently," Tom says. The company is running very well—it's not the kind of situation where there's anything to fix. My dad is still very much involved in the business, and I expect he will be for many, many years.

"I'm sure in the future we'll have to change the way we operate and look for new areas in which to diversify, but my dad's focus on continued and consistent growth year after year has made that harder to do. There are fewer opportunities every year. I often think, 'How are we gonna grow next year and the year after that?' It's a great challenge."

Tom admits, "I wouldn't be here today if I weren't Henry Bloch's son. I wouldn't have had the opportunities to learn the business and to prove myself if I wasn't 'The Son.' It also gave me a great opportunity to learn from my father. I mean he is very, very successful. He has a tremendous business sense, and having had the opportunity to learn from him has given me a great advantage.

"A lot of people think you've got it made—that it's easy, you don't have any risk, you don't have to work hard. In a lot of cases, it's just the opposite,"Tom points out. "You have to work harder."

"He earned that respect," Herbert Buchbinder confirms. "If he had moved up much more quickly it might have caused some problems, but I don't think there's a [nepotism] problem at all. I'm not aware of any morale problems."

Tom's training program and his recent accession to the presidency were all part of a carefully and independently structured succession plan prepared for H&R Block by an outside consultant, Sibson & Co., of Princeton, New Jersey. "They're our compensation consultants, and they have one person on their staff who's a succession-planning expert," says Henry. "He wrote us a big book, and we're right in the middle of it now. Let's face it: They know how to do succession plans, they've got the people to do them. How would we know how to do one? And it's too important to do wrong."

Tom avows that the company's board of directors reviewed a number of succession possibilities. "They felt an obligation to be very open-minded about the thing. This was no rubber stamp [approval]."

The wisdom of having a plan in place before it's absolutely necessary became apparent in September 1988. During a trip to Manhattan, Henry's wife of 38 years, Marion, had a sudden seizure that revealed the presence of a malignant brain tumor. She underwent nearly a year of treatment. "It was the worst year of my life," Henry says. "But now I know this succession plan is needed."

The senior Bloch largely withdrew from management activities in order to be with his wife, leaving the company in the hands of his son and under the experienced "guidance counseling" (as analyst Buchbinder puts it) of the man whom Tom had succeeded, the 70-year-old former COO, Jerome B. Grossman. Concurrent with Tom's accession to the presidency, Grossman had been moved up to the position of vice chairman of the board.

Hard as it may be for anybody who has filled out a Schedule C to believe, Henry hasn't found it easy to let go. "It's difficult," he says, "because I love what I'm doing, and I don't think of myself as any different from what I was 20 years ago. I don't feel as old as I look." Henry in fact doesn't look as old as he is, and he plays golf and tennis regularly.

"He loves this business so much," Tom says. "He gets a great deal of satisfaction from it. He's going to want to continue being very much involved. And I welcome that. It's wonderful to have a resource like that."

The Blochs and Jerome Grossman have established an Office of the Chairman, in which the three are equals. Rather than developing policy through linear chains of command, the triumvirate meets weekly and thrashes out decisions. "It seems to be working out very well," Tom says.

Fortune seems to have made Henry's ideal successor his own son. That shouldn't come as a surprise, for Tom came to the presidency with 14 years of hard-core experience—stretching all the way back to those business trips when he was four. Now all he needs to do is get gray-haired and grandfatherly enough to tape some of those "Seventeen Reasons Why H&R Block Should Prepare Your Taxes" commercials.

H&R Block Inc.
Kansas City, Missouri Latest 12 Months*
($ Millions)

Net sales 936.4
Net earnings 101.5
Long-term debt 4.7
Stockholder's equity 446.8

Current market value 1,852.0

Per share data:

Past year price range $26.13 to $37.38
Earnings per share $1.93
Book value $6.87
Indicated dividend $1.28

Current yield 3.7%
Price-earnings ratio 18.0
Five-year return on equity 25.0%

Family board members 2 (of 11 total)
Family ownership 6.8%
Shares outstanding (millions) 52.9

*For 12 months ended October 31, 1989.

Tax tips for family businesses

The editors asked Tom Bloch if he and his accounting staff could pass along timely advice for family businesses with over $1 million in gross. They could, and they did.

1. Periodically review the form of your business to be sure it is the best form for the current and anticipated conditions, and goals. In general choose to operate as a propriertorship, partnership, S corporation, or C corporation. For a profitable family business with gross receipts of over $1, a C corporation is often, but not always the best form. Before changing the form of your business, remember to determine the tax costs of changing and compare the tax and economic advantages and disadvantages of each form. Keep in, mind that a business can be incoporated generally without tax cost, but changing a corporation to another form of business is a taxable liquidation of the corporation.

2. If your business is a C corporation, you should plan dividend distributions to minimize taxable income for yourself and other shareholders while still avoiding the accumulated earnings tax [which may be assessed by the IRS if retained earnings $250,000 ($150,000 for personal service corporations) and you cannot show the accumulation is for reasonable business needs] or the personal holding company tax (a self-assessed 28 percent of undistributed PHC income). Your corporation may have PHC income if five or fewer individuals own more than 50 percent of the stock and 60 percent or more of ordinary gross income for the year consists of interest, dividends, rents (less than 50 percent of total income), royalties, and income from personal service contracts that designate certain shareholder-employees to perform the services. If in this situation, your corporation can avoid the PHC classification of personal service contracts with a statement in the contract reserving for itself the right to name the employee who will do the work.

3. Personal service corporations are taxed at a flat 34 percent for tax years beginning after 1987. To avoid this tax, the owner-employees should set their salaries to equal the corporation's estimated net profits (before deduction of owner-employees salaries). The salaries paid are deductible by the corporation and will be taxed to the owner-employees at the graduated rates for individuals. If your business is a personal service corporation and most of the services are performed for one other entity, the PSC should attempt to diversify its customer base enough to avoid an IRS reallocation of corporate income to the owner-employees. In a year in which most of your income is likely to be realized from one customer and if you have or can acquire some smaller customers, it will be helpful to try to push income from the smaller customer into that year, and defer income from the primary customer into the following year. A personal service corporation is one engaged primarily in performing services in the fields of health, law, engineering, actuarial sciences, performing arts, or consulting, and most of the stock is held by employees who perform services for the corporation.

4. Regardless of the type of entity, plan your deductions and credits to achieve the lowest possible regular and alternative minimum tax. This can be done by making time-discretionary expenditures in high income years and by electing slower, or faster, recovery methods as needed and allowable, for depreciation, depletion, or amortization when selected property is placed in service or capital costs are incurred.

5. When you pass $1 million in gross receipts it may be time to review your employee-benefits package to be sure it is cost effective, provides adequately for your own needs, and attracts the best qualified employees. To determine the best plan for your business, you can compare qualified plans (must be nondiscriminatory) with nonqualified plans that cover only selected employees as well as comparing the various plans. The most common types are defined benefit pension plans, money purchase pension plans, profit-sharing plans, and stock bonus plans. To keep administrative burdens to a minimum while qualifying for higher contribution limits than an informal employee-IRA contribution plan, a simplified employee pension (SEP) plan is a good choice. As with all qualified plans, a written nondiscriminatory formula for contributions must be established but, with a SEP plan, you have full control each year in deciding the amount of contributions—from the allowable maximum to nothing at all. Drawbacks include broader employee-coverage requirements, immediate 100 percent vesting, and a lump-sum distribution from a SEP plan that is not eligible for special averaging. Some benefits, such as a Section 125 cafeteria plan or a Section 401(k) plan, can be provided by salary reduction agreements at modest administrative costs. Your costs for employee benefits generally are deductible the year the funds are accrued or paid to the employee (if direct) or to a qualified deferred plan's trust account. In general, contributions to nonqualified plans are not deductible until the benefits are includable in income by the recipient-employees.

6. Determine the tax effects before you borrow money. If you borrow money for use in your proprietorship, the interest paid is a business deduction. But if you as an individual borrow money for use in your partnership or corporation, you are considered to have given the business a capital contribution (or a loan if proper papers are drawn). In either event, the interest you pay is deductible only on Schedule A, subject to the investment interest limitations. If you borrow money to purchase a qualified residence, the mortgage must be secured by the home (not by your business or reputation) or the interest will not be deductible at all.

7. The tax effects of a transaction are determined by the facts and circumstances as they actuaIly occur, not as you intended them to occur. Anytime you decide to buy or sell property or take action that may have tax effects, determining these effects before you act may help you select the most advantageous procedure and result in substantial tax savings. Facts and circumstances will determine the tax effects of transferring an ownership interest in your business to another family member, or of a stock redemption by your corporation. (Normally, a dividend from a corporation is taxable as an ordinary dividend to the extent of earnings and profits. This is so even if you intend a stock redemption, unless the distribution is properly structured.

8. For both tax and accounting purposes, keeping adequate business records that are separate from your personal records is essential. Most important, keep your business money and personal money separate.