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Adviser firms valued at 1.5x-3.5x recurring income

Financial advice businesses are being ‘realistically’ valued at 1.5x-3.5x recurring income advisers are told. But deals risk failure at so many levels, not least for clients, unless a structured process is followed.

In a two-part article Rob Kingsbury reports from the IFP Practice Management conference. Part one looks at valuations; part two at the process, the pitfalls and where deals fail.

Professional advisory businesses typically are being valued for sale at multiples of recurring revenue in a range from 1.5x to 3.5x that income, according to Dominic Rose, sales and acquisitions director at Bellpenny.

Speaking at the IFP Practice Management conference, Rose said that 3.5x recurring revenue “is the top figure I’ve seen realistically paid for businesses.” He added he had seen higher figures “promised” – up to 6x – but he warned business owners to ensure they conducted full due diligence on the buyer and the deal. “It comes down to achievability; how sure you are about actually getting the money you are being promised.”

Rose added that 1.5x to 3.5x recurring income “was the broad range of realistic offers” and if any firm offered below or above that range “then I would be sceptical about the deal”.

An alternative valuation method is based on multiples of profit (EBITDA). But this is more typically used in larger firms, Rose said, “where the buyer is acquiring the whole business – i.e. all the shares in the business and where the infrastructure is going to remain – and payments will be linked to future profit targets.”

Smaller companies achieving higher valuations

Currently, Rose said, smaller businesses are achieving higher valuations than other firms in the market. “At the smaller end of the market there is greater price competition because there is a greater breadth of potential acquirers, with local financial adviser firms also with money looking to acquire smaller businesses.”

Rose stressed while the 1.5x-3.5x valuation range was what was being seen in the market currently, it was “rule of thumb” and ultimately a valuation would depend upon a range of factors including:
• Client demographics
• Employed v self-employed advisers
• Adviser cost v gross profit margin
• Existing profitability
• Ease of revenue uplift

“All these factors will be considered by an acquirer and if they match the acquiring firm’s needs then your business can command a premium,” he said.

Payment process

Rose stressed that sellers were unlikely to get all the money up front. Depending on how the acquisition is structured, he said, there would be a payment initially (a proportion based on the purchase price and “a number of metrics”) and then a payment at month 12, 24 or even 36, with the deferred payments contingent on another set of metrics, for example, recurring revenue remaining flat or increasing.

A deal offering 6x recurring income may have deferred payments contingent on metrics that simply can’t be achieved, he warned. “You’ve got to look in a lot of detail at the contingents. If you are signing away the business you’ve built up over years you’ve got to be clear that the contingent requirements are in order for you to get your deferred payments.”

Advisers should be aware that various acquisition models exist in the market and, notably, they will differ in their payment structure, Rose said. “Some will sacrifice the upfront payment and pay over a longer period but for a greater capital sum. It’s basic time, value and money calculations, i.e. if you’re getting less money now and more over a deferred period you should be getting a higher overall figure. If you are getting more now, you’ll get a lower number but you have the certainty of payment.”

Some acquirers won’t pay anything upfront but will give the owner shares in the enlarged entity, on sale of which the seller will receive payment, he added. “That’s the least secure [deal] but may have the most upside. These are the differences you should be aware of when considering your options.”

High cost of a deal failing

What is vitally important, he stressed, is that the sale process is structured and takes a measured approach, ensuring there is a good fit between buyer and seller. If that process goes wrong then it can be a costly mistake for all parties involved but particularly for the adviser firm.

“Trying to extricate yourself from a deal is very difficult and very costly, it leaves a bad taste in the mouth and it can take ages to rebuild the value of the business. I’ve seen cases where advisers have had to extricate themselves from entities they’ve sold their business to; it’s exhausting, draining on the firm and where that proves too much for the clients, they walk out of the door.

“Get it right at the start and it’s a good long term, value accruing decision for all parties.”

There is no one-size-fits-all model for acquisitions, Rose added. “The right one will depend on your circumstances, so make sure you are considering more than one deal and see which one best fits you and your business.

“Don’t sell if you are going to get less than your business is worth or if you have any uncertainty about what you are going to get for it. This is one of the most important decisions you will make as a business owner, so make sure you have the trust in the other party and you know what you are getting yourself into. If you do that it can work well for you, the buyer and your clients. But only if everything is carefully considered as part of a well-defined process.”

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