We’ve blogged about the external headwinds facing asset managers relative to other sectors of the investment management industry with scant reference to what actually causes many of them to fail: toxic cultures.  As valuation analysts, we’re more fixated on the quantitative measures of an asset management firm, like investment performance and client retention, so we often turn to actual industry participants to get the story behind the numbers.  Paul Black, CEO of WCM Investment Management, a $67 billion asset manager headquartered in Laguna Beach, California, provides great insights on the impact of culture on the viability of a money management firm.

In this article, Mr. Black notes that many founders of asset management firms do a poor job of creating a “founders mentality” among the staff, and this dynamic can lead to four “silent killers,” especially as the firm reaches critical mass:

1. Institutional bureaucracy. The once scrappy culture made up of entrepreneurs and risk-takers is replaced by entitled bureaucrats who believe in a fixed way of thinking — a mindset that values pedigree, politics, and positioning more dearly than hunger, scrappiness, and humility.  In time, those responsible for the original success of the firm leave, and institutional bureaucrats take over, causing continued erosions of what once made the firm great.
2. Cynical factions. A group (or groups) gets together and cynically criticizes from the backseat.  Candid criticism and disagreement are vital, but such dissent has to stay open; it has to be guided by respect for all, and it has to be clear who makes the crucial decisions upon which everyone stacks hands.
3. Ulterior motives. People blindly or selfishly fixate on their own career progression, on building out their resume, on acquiring a title or rank as a means of status/monetary rewards, or on creating their own fiefdoms and protecting their own turf (by, for instance, not hiring people better than themselves).
4. The failure to create a second generation. Ultimately, few firms endure if they fail to create a second generation with both a founder’s mentality and the financial incentives for healthy growth.

The WCM chief attributes the pervasion of these culture killers in the asset management industry to the temptation of finger-pointing after poor performance since there usually is someone (or some people) to blame.  A different mindset is required to remedy this toxicity.  A culture that promotes humility, self-awareness, and respect for one another will negate these silent killers when performance is down so the team can learn from its mistakes and right the ship.

Toxic (or incompatible) cultures are also the silent killers of asset manager dealmaking.  The buyer and seller can agree on everything else, but if they ultimately can’t work together, the transaction doesn’t make any sense.  This is because (perhaps more than any other industry) RIA and asset manager deals almost always require the continued efforts of the seller(s) after the closing date to transition clients, manage the business, and oversee the investment strategy.  Buyers have to be patient, and sellers will have to accept the inevitable:

1. You’re not going to be the boss anymore.One seller was apoplectic when the bank that purchased his wealth management firm changed the color of his firm’s logo to match the bank’s.  It’s going to happen.
2. You’re going to have a boss.Sellers often seem surprised that there is a reporting structure of which they are a part, despite being assured that the buyer will give them “maximum autonomy.” Autonomy doesn’t mean you get your own island.
3. Your employees are going to have a new boss. And they might like that boss more than they like you. You think you want that for them, but it won’t do much for your ego.
4. Your clients may question your commitment after the sale. If you start to enjoy your reduced responsibility and increased liquidity too much, your clients will assume you are “calling in rich” and take their assets elsewhere.  Best to keep the overt transition low-key until the earn-out period is complete.
5. The same “founder’s syndrome” that helped you build the firm will now fuel your frustration. Founders are driven by senses of identity and autonomy that are completely undermined by selling. So, when you get up from the closing table, head straight for the therapist’s

Every bit of this is easier said than done but critical to ensuring that the deal will ultimately work for both sides.  Incompatible cultures can be more costly than irrational pricing or deal terms, so conducting your due diligence on the other side is always worth the time and effort.

About Mercer Capital

We are a valuation firm that is organized according to industry specialization.  Our Investment Management Team provides valuation, transaction, litigation, and consulting services to a client base consisting of asset managers, wealth managers, independent trust companies, broker-dealers, PE firms and alternative managers, and related investment consultancies.