Over the past decade independent registered investment advisers focused on wealth management have been targeted by Focus Financial Advisors, HighTower Advisors and other private equity–backed businesses seeking to gain scale through acquisitions. Independent RIAs have found it much more difficult to pursue an M&A strategy of their own, however, owing to a scarcity of capital. But now that’s starting to change as banks, asset managers and other willing lenders step forward.
Without access to credit markets, mergers between small- and midsize RIAs have largely been executed via structured acquisitions, with a down payment and so-called workout payments, contingent on revenue goals, that protect the buyer from a client flight. For advisers who are considering retirement and don’t have junior partners to take the helm, finding a purchaser with a compatible culture is difficult enough; finding one with the capital to make a significant initial payment is often even tougher.
“We have a saying here that having capital and wanting capital are two very different things,” says Paul Lally, co-founder and president of Gladstone Associates, an investment bank headquartered in Conshohocken, Pennsylvania, that advises financial services firms on strategic planning, succession planning and M&As. Independent RIA operators typically have little cash left in their businesses at the end of the year, making them complex credit risks for most banks, he notes: “Traditional lending sources can’t easily work with a creditor that has no assets, that is 100 percent goodwill, without personal guarantees that advisers often wish to avoid.”
Over the past year Lally has seen many new potential participants sizing up the opportunity to enter the fray. “We receive several phone calls a month from lenders contemplating bringing capital to the independent adviser market,” he says. Some adviser custodians have begun financing mergers among their client base selectively, he adds, and banks and specialty lenders are starting to dip their toes in the water.
Alternative asset manager Aequitas Capital recently launched lending programs for RIAs. In July the $500 million, Lake Oswego, Oregon–based firm, which focuses on the private debt and equity markets, announced the creation of a unit, Aequitas Capital Partners, to provide capital as well as advisory services and administrative support to growing RIAs.
Keith Gregg, president of the new venture, says this isn’t really a new market space for Aequitas. “We have been partnering with RIAs on their product allocation for seven years,” Gregg says. “We are now expanding our approach to be much more of a broad-based partner to these firms.”
Aequitas will focus on independent RIAs in search of $1 million to $10 million of growth capital to acquire other firms, finance “lift-outs” — hiring a team from a rival — or buy out a retiring partner, explains Gregg. Clients will also gain access to the parent firm’s asset management products.
Wealth management RIAs often have a corporate structure resembling those of other types of professional practices such as medical offices and law firms, which are typically partnerships or single-owner operators. It makes sense that lenders with experience extending credit to such businesses would learn to value credit risk in the financial advisory space. One such player is Live Oak Bank, a Wilmington, North Carolina–based firm whose practice lending specialities include medicine. Live Oak established an investment advisory lending group in late 2012 and extended its first loan to an RIA the following February.
General manager Steve Smits, who oversees all lending to financial services firms, says they were a natural fit: “We are the only bank that I am aware of with a business model that exclusively caters to niche markets and takes a deep dive to become a leading provider of financing in each.” According to Smits, Live Oak has extended more than $110 million to wealth managers since its initial loan, with roughly 61 percent of that going to practice succession or acquisitions and the rest divided among helping brokerage teams go out on their own, refinancing and working capital. The bank’s average loan to investment advisers is $850,000.
The key is understanding just what kind of owner operator will succeed in such a competitive market, Smits contends. “When you are a cash-flow lender, you are always looking for professionals with skin in the game and shared risk, those that have proved themselves to be successful in their industry,” he says.
If more lenders do arrive, they’ll find a host of opportunities. Gladstone’s Lally reports that merger activity among independent financial advisers has been brisk of late as adequately capitalized firms make acquisitions without much attention from the financial media. “It’s been a quiet consolidation,” he notes. “Private equity–backed aggregators announce their deals because they want to draw attention to themselves, something that traditional wealth management firms have little interest in.”
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