M&A activity in the RIA industry grew nearly 22 percent from 2016 to 2017, marking the fifth consecutive year of record-setting deal volume.¹ The increase in deal activity represents a consolidation phase within the industry that is expected to continue for the foreseeable future.

Advances in technology and increasing regulatory burdens are driving up the cost of doing business, making it difficult for smaller firms to invest in organic growth. As a result, a growing number of RIAs are pursuing inorganic growth strategies to achieve scale. Further M&A activity will be driven by demographic trends within the industry. Forty-three percent of RIAs are over the age of 55 and one-third of advisors plan on retiring within the next decade, which means that many firms will change ownership in the coming years.² Consolidation is rapidly transforming the industry’s competitive landscape, leaving many advisors trying to determine the best way to adapt. One question at the forefront of the minds of many advisors is whether they should sell their firm or focus on building it via acquisition. This whitepaper provides insights on the current RIA M&A landscape and discusses factors for advisors to consider before selling their firm or pursuing an acquisition.

Do your expectations make sense?

Evidence shows a clear disparity between the number of RIAs who believe they are buyers versus sellers:

• BlackRock’s 2017 Elite RIA Study showed that nearly 40 percent of elite RIAs (firms that have more than $250 million in assets under management and score in the 50th percentile or higher of firm productivity metrics) plan to expand through M&A over the next year or two.³
• A 2017 survey conducted by TD Ameritrade shows that over 75 percent of RIAs expect to merge with or acquire another firm in the near future, while nearly half expect to acquire a book of business and over 60 percent expect to acquire a solo advisor. In contrast, only 14 percent of RIAs expect to be acquired by another advisory firm.⁴
• At the 2017 Schwab Impact Conference, 200-plus RIAs attended a transition planning presentation and were asked for a show of hands on whether they considered themselves buyers or sellers. According to the first-hand account, it appeared that more than 75 percent of the audience identified as buyers.

Expected M&A Transaction Type
Acquiring a solo advisor	61%
Acquire book only	47%
Acquire firm with multiple advisors	42%
Merge with another firm	36%
Other	14%
Acquisition by another advisory firm	14%
Acquisition by another type of entity	7%
Join or be acquired by a consolidator	7%

As of 2016, the average age of a financial advisor was 50 and nearly a quarter of financial advisors were over the age of 60. The age demographics of financial advisors, combined with the study results above, suggest that a large number of RIAs are thinking about buying when they should be focused on succession planning. Consider this scenario for a moment: would a 55-year-old who wants to retire at 60 have enough time to complete a meaningful acquisition, successfully integrate the new firm into his or her existing firm, and generate a meaningful positive return on that investment? The disparity between the number of would-be buyers and sellers also seems to contradict the famous investment adage “buy low, sell high.” Based on overall stock market trends, growth in RIA firms, and recent publicized RIA transactions, valuation multiples for RIAs appear to be near or at all-time highs. The low cost of debt and willingness of lenders to finance transactions in the RIA space have made it easier for buyers to finance higher valuations. Meanwhile, the industry has drawn increased interest from private equity investors eager to deploy capital, creating more competition for deals.⁵  With so many active buyers on the market and so few sellers, buyers are forced to pay premium valuations, which ultimately diminishes returns. In other words, it’s a seller’s market. Whether you think you’re a buyer or a seller (or if you’re undecided) it’s wise to self-evaluate and explore all of your options before heading down one path or the other. Below are some considerations to help guide you.

Buyer considerations

Some RIAs may ultimately be both a buyer and a seller, choosing to build their firm’s value by completing an acquisition then selling later to realize a return on their investment. If you have a similar strategy in mind, it’s important to first consider whether your exit planning horizon is long enough. In such a competitive market, simply finding a quality acquisition opportunity will take time. Once you close a deal, it could take several years before you begin realizing value from the acquisition, which isn’t guaranteed—a 2017 Accenture report on M&A value creation showed that nearly half of transactions had a negative impact on value after two years.⁶  Many acquisitions fail to deliver the expected benefits due to integration challenges and a variety of other factors that can either prevent or delay buyers from fully capturing the value and synergies they were intended to create. As you get closer to retirement, it becomes much more difficult to recover from an unsuccessful acquisition, especially if you spend the years leading up to retirement focused solely on building value rather than developing a succession plan. Not to mention, trying to complete an acquisition in a short window of time can lead to a rushed process, increasing the likelihood that important issues get overlooked during due diligence, which could have disastrous consequences. If you think you have enough time to see the acquisition and integration process through, first consider these questions to help determine whether pursuing an acquisition is a worthwhile endeavor. What do you offer sellers and their clients? Just because you want to acquire another RIA or a book of business doesn’t mean that the advisor wants to sell their business to you. Sellers have plenty of buyers to choose from in the current industry M&A environment. You need to be able to offer the seller something compelling.

Technology

Technology is currently a top priority for RIAs. Having access to the latest software and platforms is key to remaining competitive over the long-term because it can help increase productivity and drives AUM growth.⁷  However, technology is becoming increasingly harder to afford for smaller firms. The growth of RIA technology costs outpaced industry revenue growth by three percent from 2011 to 2015.⁸  The rising cost of technology is one reason why many RIAs decide to sell to a larger firm. Financial planning and rebalancing software, portfolio management and reporting systems, and CRM platforms represent three of the most important technology components for RIAs. Other tools used across the industry include archiving, cloud storage, eSignature and data aggregation platforms, and marketing and lead generation client engagement tools. Firms that have already invested in a combination of these tools have more to offer potential sellers.

Infrastructure

In a small RIA, the owner is more likely to spend a significant portion of their time taking care of administrative and operational functions. That means less time is being spent on growing the firm and focusing on clients. Being able to offer sellers a strong support staff that takes care of these things on behalf of the advisor can go a long way. However, buyers should make sure that their infrastructure is strong enough and has enough capacity to absorb new employees and clients. Is your team equipped to manage the needs of, and oversee, another office or location? If you are acquiring a new firm, relocating advisors and employees to your office may not be an option, especially if they aren’t located in your geographic market. As such, buyers must have systems, technology and communication channels in place to ensure that both firms integrate into a cohesive unit as opposed to becoming independently moving parts of the same organization. The rising cost and time demands of compliance are another factor driving sellers to the market. RIA compliance budgets increased by nine percent over the past year, while some advisors are spending as much as one-third of their time on compliance-related activities.⁹  Buyers with a compliance officer or department can help alleviate these pressures. However, buyers should be sure they can support increased compliance costs and regulation requirements resulting from an acquisition. The cost of compliance generally varies based on the size of the firm, and only increases the larger a firm becomes. Do you have access to capital? Unless you are sitting on a pile of cash, there’s a good chance that you will need access to capital to complete an acquisition. RIAs have fewer financing options than other types of businesses because banks are typically restricted in their ability to lend to businesses with minimal tangible assets to borrow against. There is a small but growing pool of SBA, commercial, and specialty lenders who understand the RIA business and are willing to work with advisors, but securing financing from these sources may be difficult if you have existing debt or if your firm hasn’t shown consistent cash flow. Your capital structure can have a significant impact on your return and transaction risk. Taking on more leverage will help you generate a better return, but could also prove costly if the acquisition doesn’t deliver the results you expect. Therefore, buyers should start considering their financing options early in the process of planning an acquisition. It’s important to consider how much equity capital you plan to contribute, how much debt you’re able to borrow, and whether you’ll need additional capital to bridge any gaps, such as mezzanine financing. Do you have any experience acquiring or integrating advisory firms? Integrating an acquisition is challenging because it impacts nearly every part of your organization. For an acquisition to be successful, the strategic, financial, operational, and cultural aspects of both businesses must be combined in a way that creates synergy and improves efficiency. According to PwC’s 2017 M&A Integration Survey Report, only about 50 percent of Fortune 1000 executives felt they achieved successful integration on deals closed over the past three years.¹⁰ Integrating people—which involves onboarding new employees and helping both existing and new employees adjust to cultural changes, new communication and leadership skills, and new policies and procedures—appears to be an even greater challenge, with less than 30% of companies reporting that they were successful with the human aspect of integration.¹¹ These figures show that maximizing value from an acquisition is extremely challenging, even for the most seasoned deal-makers. Therefore, inexperienced buyers must be able to focus significant time and resources to overseeing the transition process. Are you large enough to create value by acquiring other firms? If you are considering buying another RIA, you should first consider whether you have the size to make a meaningful acquisition. The return that you can realize from an acquisition may not be worth the time and effort if it won’t have much of an impact on how much a buyer is willing to pay for your firm when it’s time to sell. On the other hand, larger firms command higher multiples from buyers due to their scale, lower risk profile, and scarcity factor (there are fewer larger firms). In the RIA industry, firms tend to generate higher multiples once they surpass certain AUM, and revenue, thresholds. Therefore, making a significant acquisition that helps grow your firm’s AUM, revenue, and cash flow may be worth the investment, especially if it will attract more buyers and help you secure a multiple 2-3 times higher than if you had not done the deal.

Seller considerations

There’s never a bad time to start developing a business succession plan, yet many RIA owners over the age of 50 don’t have defined exit strategy. We generally recommend that advisors start planning their exit at least five years before their planned retirement date. If you are approaching that horizon and are still thinking about whether to buy or sell, consider some of the questions below. Do you have a successor? If you have a standout employee who you hope will one day take over your firm, it’s better to start grooming him or her to be your successor and put a plan in place to facilitate a smooth transition. Unfortunately, that’s not the case for most RIA owners. Over a quarter of advisors will reach retirement age over the next 5-10 years. Unfortunately, there is already a shortage of young talent in the industry. After all, the average age of financial planning programs at American universities is under ten years.¹² Therefore, there are very few experienced advisors who are prepared to take over top leadership positions. If you do have a successor in mind, it’s important to start planning now by making sure they are properly mentored and trained. You can also start developing a plan for how to facilitate and finance the transition of ownership. If you don’t have anyone to succeed you internally, or even if you do, you may want to sell your firm to a third party. In that case, you’d want to start identifying ways to invest in organic growth and build the value of your firm. Are You Worried About Staying Competitive? Many RIAs are feeling pressure to invest in technology to keep up with their competitors and meet the needs of their clients. Larger firms are continuing to grow their AUM by investing in client acquisition and retention strategies, expanding their service offering, and finding innovative ways to add value for their clients. Rising technology and compliance costs are cutting into profit margins, while the median revenue yield across the industry has decreased 3-4 basis points over the past two years, eroding profit margins and making it even more difficult to invest internally.¹³  Firms that lack the infrastructure to expand via acquisition and financial resources to invest in organic growth will eventually become obsolete. One way to avoid such a fate is to sell all or part of your firm to a larger RIA or benefit from joining a larger platform. Partnering with a larger RIA or strategic buyer can have multiple benefits. A larger organization can often provide tools and resources that you may not be able to afford for your firm, but that can help you and your employees better serve your clients. Aligning with a larger organization whose brand is more well-known can also help you attract more quality talent and provide more advancement opportunities for your current employees. It can also help you liquidate some of your equity while getting to contribute to your firm’s growth and giving your clients a sense of continuity.

Buyer or Seller, Start Planning Now

If you’ve carefully considered your options, regardless of whether you intend to buy or sell, you can start preparing today. Buyers and sellers can start planning by getting a business valuation. If you plan on selling in the near future, you need to know what the value of your firm is to ensure the proceeds of a sale would be sufficient to fund your retirement. If your firm’s value is lower than you expected, a valuation can not only help you understand what factors are driving your firm’s value, but also help identify aspects of your firm that you can start focusing on in the short-term to build its value. Even if you plan to buy now and sell later, it can be helpful to know what your firm’s value is today versus what you want your firm to be worth at retirement. A valuation can help understand where you need to go and how to get there, which are critical parts of an acquisition strategy and can help you identify what to look for in acquisition targets. If you know your path forward, you can also start organizing your deal team. Both buyers and sellers should consider hiring an investment banker to manage the sale or acquisition process and hire an M&A attorney to assist with negotiations and to review and draft deal documents. Sellers will likely need an accountant and/or tax advisor to help facilitate due diligence and determine the tax implications of the deals they pursue. Depending upon the size of the acquisition, buyers may need to hire a firm to assist with due diligence and consultant to manage the compliance-related aspects of a deal to help integrate the acquired firm. Whether you are a buyer or seller depends primarily on your personal goals and your unique situation. RIAs should develop their acquisition or succession strategies around these things while taking into account industry trends and dynamics. The current industry environment benefits sellers more due to an overabundance of acquisition-minded firms who have access to capital, but the seller’s market won’t last forever. Age, competitive pressures, and the allure of high valuation multiples will eventually drive more sellers to the market, which will eventually shift the M&A landscape in the buyer’s favor. Sellers who delay their succession planning risk losing out on a golden opportunity. ¹ ECHELON Partners. RIA M&A Deal Report: U.S. Wealth Management. January 2018. ² Cerulli Associates. U.S. Advisor Metrics: The Next Generation of Planning. The Cerulli Report. 2017. ³ BlackRock. Elite RIA Study. 2017. ⁴ TD Ameritrade. FA Insight: 2017 Securing Your Firm’s Future survey highlights. March 2017. ⁵ ECHELON Partners. RIA M&A Deal Report: U.S. Wealth Management. January 2018. ⁶ Accenture Strategy. Sizing Up M&A Value Now. 2017. ⁷ RIA In a Box. RIA Technology and Options Survey. 2016. ⁸ InvestmentNews. Adviser Technology Study: Driving Efficiency, Profitability & Growth. 2017. ⁹ Britton, D. Advisors Paying More For Compliance. WealthManagement.com. October 2017. ¹⁰PricewaterhouseCoopers. PwC’s 2017 M&A Integration Survey Report. March 2017. ¹¹Ibid. ¹²TD Ameritrade Institutional. 2017 Financial Planning Program Directors Survey. November 2017. ¹³ Fidelity Investments. Fidelity RIA Benchmarking Study. 2017. This document is for informational use only and may be outdated and/or no longer applicable. Nothing in this publication is intended to constitute legal, tax, or investment advice. There is no guarantee that any claims made will come to pass. The information contained herein has been obtained from sources believed to be reliable, but Mariner Capital Advisors does not warrant the accuracy of the information. Consult a financial, tax or legal professional for specific information related to your own situation.