Acquisition Best Practices Can Boost ROI

Financial advisers looking to purchase or merge with another practice must implement some key best practices to ensure the acquisition is successful, according to NFP Advisor Services.

NFP Advisor Services provides technology support and asset management platforms to financial advisers, including registered investment advisers (RIAs) and hybrid RIAs, and is a business segment of National Financial Partners Corp. The firm recently published a white paper, “Alpha Acquisitions: Maximizing the Return on your Practice Investment,” describing how advisers can maximize their return on investment (ROI) during the acquisition process.

“An aging adviser population means many mergers and acquisitions can be expected in the adviser space,” explains James Poer, president of NFP Advisor Services. “In order for these acquisitions to be successful, a diligent implementation of best practices is required. By taking control of the process, buyers improve their chances for an ‘alpha acquisition,’ and their clients experience smoother transitions.”

Indeed, recent research from Schwab Advisor Services placed the volume of RIA merger and acquisition activity for the first half of 2014 at a healthy $32.6 billion in assets under management (AUM). Transaction activity picked up somewhat in the second quarter of the year, the research shows. Sixteen deals were inked in Q2 2014, totaling approximately $19 billion in AUM, compared with 13 deals totaling $14 billion in AUM completed in Q1. This second quarter activity nearly reached the record high levels of Q3 and Q4 of 2013, according to Schwab.

It’s likely that at least some of this acquisition activity will have less-than-ideal results, according to NFP research, which defines an “alpha acquisition” as one in which advisers say they are “very satisfied” with the ROI coming out of said acquisition. Strikingly, only about 25% of acquisitions enacted recently by advisers surveyed by NFP were found to be alpha acquisitions.

Key steps to achieving an alpha acquisition include carefully identifying a suitable practice to be purchased, ensuring client retention during the ownership transition, and agreeing on a practice valuation that meets the needs of both the seller and purchaser. These steps will challenge even the most skilled acquisition teams, NFP researchers admit, but they are critical for ensuring suitable ROI.

After reviewing and analyzing recent acquisition activity, NFP Advisor Services offers several steps that financial advisers should take to overcome these challenges and produce an alpha acquisition. These include:

  • Take your time to find the right match. Of advisers who have achieved an alpha acquisition, 32% looked for a target for three or more years, compared with 13% and 20% of advisers who made near-alpha and non-alpha acquisitions, respectively. Notably, 70% of non-alpha acquirers searched for an acquisition for two years or less.
  • Use a holistic, realistic valuation approach. The valuation process is seen as somewhat or very difficult across the board. Alpha acquisitions cost an average revenue multiple of 1.55x, compared to 1.34x and 1.27x for near-alpha and non-alpha acquisitions, respectively. NFP says alpha acquisitions are more likely when due diligence teams favor assets under management, client service model, revenue mix, business longevity and cash flow over other potential valuation metrics.
  • Manage the transition for success. The NFP research found that the most successful acquisitions required one year or less for the transition period—thereby minimizing client stress and confusion. Further, nearly 50% of alpha acquisitions involved one or several meetings with new clients to brief them on the change and transition. In 52% of alpha acquisitions, the previous owner left the practice in one year or less. However, it’s important to consider retaining staff, NFP says. In fact, 57% of alpha acquisitions retained all staff members versus only 19% of non-alpha acquisitions.

“The study confirms that advisers can achieve successful acquisitions, but a carefully planned approach is needed,” Poer adds. “Often, a seasoned professional with experience—such as your broker/dealer—can help navigate the many challenges that face buyers and sellers.”

Other recent research from CLS Investments suggests sellers have a tendency to significantly overestimate the value of their practices—which can make price-point negotiations significantly more difficult for purchasers.

Financial research firm Aite Group conducted a survey of 401 financial advisers for the NFP white paper, of which 100 advisers have recently made a practice acquisition. A full copy of the white paper, along with other NFP research, can be downloaded here.