Terms Bridge Seller Expectations and Market Realities
The secret of selling your RIA for peak pricing lies in the terms, but it’s not as straightforward as it may seem. Investment management transactions these days involve creative deal terms, risk-sharing and evolving market conditions that keep the market bustling, despite a host of economic challenges. From managing buyer-seller relationships to balancing risk and reward, we explore how industry players are adapting to maintain the appearance of peak pricing, while carefully guarding against market downturns. Find out how the art of the deal is being redefined and learn how to navigate the market to achieve your transaction goals.
Old Rules of Thumb, Recent Headlines, and the Endowment Effect
The endowment effect has an impact on your RIA and oftentimes rules of thumb and recent headlines can lead to overvaluation. We share the nuances of valuing your firm, from assessing cash flow, growth, and risk to understanding the relevance of non-systematic risks. Uncover the factors that truly influence your RIA’s value and learn how an independent valuation can help you make informed decisions for your firm’s future.
RIA M&A activity has remained resilient through the first quarter of 2023, even as macro headwinds have emerged for the industry over the past year. Fidelity’s March 2023 Wealth Management M&A Transaction Report listed 68 deals through March 2023, up 19% from the 57 deals executed during the same period in 2022. These transactions represented $108.3 billion in AUM—a 21% increase from the first quarter of 2022.
RIAs started the quarter strong, but bank failures and interest rate hikes led to underperformance. Alternative asset managers, however, saw a last-minute rally during the final few days of the quarter, leading to this category outperforming the S&P during the period.
Last weekend I had a chance to join my dad for the annual Concours on Amelia Island, a fantastic gathering of car collectors and interesting automobiles of all kinds and eras. Coinciding with the weekend’s events were collector car auctions from all the major houses. A cursory review of prices paid and those auction sell-through rates suggest that there’s not much of a recessionary cloud hanging over the economy yet—at least not the economy inhabited by classic car buyers.
One car that caught my attention last weekend sold for a comparatively modest sum. The beautiful 1949 Packard convertible pictured above and featured at the RM Sotheby’s auction brought just under $45,000. If you’re younger than 65, you can be forgiven for not knowing Packard, as the marque was discontinued in the late 1950s. Bad markets and a bad transaction got the best of a great automaker, which is a cautionary tale for anyone planning the future of their business. This week, we review lessons from the consolidation of the automobile industry that have merit in the RIA space.
Early last year, as market conditions began to deteriorate, we (along with many others) predicted a coming slowdown in RIA M&A activity. Despite this environment, we were initially proven wrong: RIA M&A activity seemingly defied gravity as the pace of deal activity continued to keep pace with record 2021 levels. Now, the data suggests that deal activity is beginning to lose momentum. So, is the slowdown here to stay? What does this mean for the future of deal activity? In this week’s post, we discuss a few predictions for the year ahead.
Investment management is a people business, and there are aspects to a people business which do not yield to financial modeling. This week, Matt Crow addresses industry conundrums for which there are no easy answers.
2022 proved to be a challenging year for the stock market as a whole and the RIA industry. With persistent inflation, rising interest rates, a tight labor market, and heightened geopolitical tensions, it’s no surprise that this resulted in the decline of nearly all stock market sectors over the last year, which was especially true for the RIA industry. But with the prospect of a potential recession in 2023, the worst may still be ahead.
RIA M&A activity set new records in 2022, even as macro headwinds for the industry emerged throughout the year. However, deal volume was most significant in the first half of 2022 and began to cool in the second half of the year, particularly in the fourth quarter. Although transaction volume is still up over the prior year, there has been a decline in the size of these transactions.
The RIA industry saw a strong fourth quarter rally, driving most categories of publicly traded investment managers to outperform the S&P in the last quarter of the year. Alternative asset managers, however, declined from their early-November peak to perform in line with the S&P during this period. In our blog this week, we take a look at the performance of the RIA industry by sector and AUM in the fourth quarter of 2022.
It has become a tradition for the RIA team at Mercer Capital to end the blog year with a “unique” annual summary of industry events, riffing off Clement Clark Moore’s classic “A Visit from St. Nicholas.” We hope all of you in the investment management community are enjoying the holiday season and looking forward to the many opportunities of the new year. We look forward to hearing from you in 2023. For now, please enjoy the finest only holiday poem written about money management.
As the RIA team at Mercer Capital looks back on 2022 and ahead to next year, we’ve noticed a few themes emerge in discussions with clients that we expect to hear more about in the new year. Don’t think of these as predictions but simply the current state of market behavior—the implications of which will soon be evident.
Two weeks ago, Westwood Holdings Group completed its acquisition of Salient Partners’ asset management business. The deal is expected to add $4 billion in AUM and $31 million in annual revenue to WHG, pricing the total consideration at 1.5% of AUM and just under 2x revenue. Masking losses through acquisitions is typically a risky proposition, but this may be an instance where it actually makes sense.
Q3 RIA Performance Was Mostly Bad, But in Lots of Different Ways
Most of the 9/30 quarterly results are in, and public RIA performance was all over the map. Mostly, it was a rough quarter in a rough year. Sagging AUM led to revenue cuts which dropped straight to the bottom line. Some firms mitigated their downside by cutting bonus compensation and marking down earnout payments for acquisitions. We did a survey of a cross-section of asset and wealth management firms. Ultimately, it appears some business models are working better than others.
Higher RIA Aggregator Bond Yields Could Portend Lower M&A and Transaction Multiples in 2023
Before this year, yields didn’t move much and generally stayed between 2% and 8%, depending on the term and credit quality of the issuer. That all changed last November when the Federal Reserve and other central banks began raising interest rates to fight mounting inflationary pressures in the global economy. Now RIA aggregator bond yields are in the 6% to 14% range after fairly steady gains throughout this year.
While multiples for publicly traded asset and wealth managers have been hit hard this year, RIA valuations in the private market have been more resilient as a proliferation of professional buyers and capital in the space have supported deal activity and multiples. Nevertheless, market conditions are beginning to have an effect. Run rate performance for most firms is down significantly, and borrowing costs for leveraged consolidators are rising. The upward momentum in multiples that persisted throughout last year has stalled, and deal structures have started to shift more of the purchase price into contingent consideration to bridge increasingly divergent buyer and seller expectations. Read more about it in this week’s post.
Most RIA Stocks Have Lost Nearly Half Their Value Since Peaking Last November
The RIA industry extended its losing streak last quarter with all classes underperforming the S&P, which also continued its decline. The market itself is part of the problem as this industry is mostly invested in stocks and bonds, which have been down considerably since the first of the year. The additional underperformance for asset and wealth managers is likely attributable to lower industry margins as AUM and revenue fall with the market while labor costs continue to rise.
As September of 2022 came to a close, asset management is experiencing one of the most challenging years in history. Losses are both deep and widespread. The consequence is a tough quarterly letter to pen to investors, a hit to revenue, and an even bigger impact on profitability.
The continued strength of RIA M&A activity amidst the current environment dominated by inflation, rising interest rates, and a tight labor market is noteworthy, given that all these factors could strain the supply and demand dynamics that have driven deal activity in recent years. Rising costs and interest rates coupled with a declining fee base will put pressure on highly leveraged consolidator models, and a potential downturn in performance could put some sellers on the sidelines until fundamentals improve.
Last week, The Association of Trust Organizations held its annual meeting at the JW Marriott in Las Vegas to discuss industry trends, practice management, and recruitment during the Great Resignation. As a sponsor and panelist, we outline 5 takeaways from the meeting in this week’s blog.
The differential in interest in public investment management businesses and private investment management businesses isn’t sustainable. Will higher interest rates eventually wear down leveraged acquirers, as they have in other growth-and-income sectors? Will PE investors start to question the merits of trading companies from fund to fund instead of testing valuations in the open market? Will the public RIA group follow Pzena’s lead and go private? Or will public investors’ newfound interest in dividend stocks lead them to RIAs? It’s tough to forecast a public RIA resurgence but never say never.
We think of investment management firms as a “growth and income” play. The space has attracted capital specifically because RIAs produce a reliable stream of distributable cash flow with the upside coming from market tailwinds and new clients. For all the trade press touting interest in RIAs, investing trends over the past fifteen years have had a mixed impact on the investment management community.
For asset managers, cheap capital makes stock picking less important. Persistent alpha is harder to prove. Passive and alternative products are more competitive. Investment committees are surly. Fee pressure is rampant.
For wealth managers, cheap capital has made diversification look kind of pointless and bordering on stupid. In the rearview mirror, owning anything other than the S&P 500 has, since the credit crisis, looked like a mistake. While this may not have had an immediate impact on revenue and margins, it does nothing to cement advisor/client relationships.
But what about valuations? Where do RIAs fit in an environment that favors growth stocks?
Last week Pzena Investment Management, Inc. announced that it had entered into an agreement to become a private company again via a transaction in which holders of PZN Class A common stock would receive $9.60 per share in cash, a 49% premium to its closing price before the announcement ($6.44). In this week’s post, we attempt to rationalize this premium and any implications for the investment management industry.
Schwab recently released its 2022 RIA Benchmarking Study. The survey contains responses from over 1,200 RIAs representing $1.8 trillion in AUM to questions about firm operating performance, strategy, and practice management. The survey is a great resource for RIA principals to see how their firm’s performance and direction measure up against the average firm. In our blog post this week, we highlight some of the key results of the survey.