Succession Planning: A New Beginning or the End of the Road?

Many advisory firms grapple with the possible benefits (or consequences) of participating in a merger or acquisition; a panel at the inaugural Virtual PLANADVISER National Conference discussed the importance of succession planning. 

Joining the discussion were Paul T. Lally, President and Co-Founder of Gladstone Associates; Randy Long, Managing Principal of the Sageview Advisory Group; and Michael Paley, Senior Vice President of Focus Financial Partners, LLC.

Why consider a merger or acquisition? 

2010 was a record year for merger activity among registered investment advisers (RIAs) (see “2010 Record Year for RIA M&A”).  Lally of Gladstone Associates saw this in his firm as well; he said merger conversations have increased by 20% from a year ago.  What is driving this trend towards M&A? The panelists highlighted several reasons.   

Paley of Focus Financial Partners said it’s simply a realization that “no one’s getting any younger.” Many entrepreneurs of RIA firms are in their 50s or 60s today; perhaps they’re starting to think about who will take the reins when it’s their turn to retire.   

Lally also pointed out that the recession hurt everyone’s wallet, which, in turn, has led to decreased revenues.  “At the peak of a raging bull market, a lot of firms are feeling good about themselves; they have new clients, healthy profit margins…but then the downside looked like a roller coaster,” he said. “Now, asset levels have dropped, and revenues therefore are down…[RIAs] used to be fiercely independent, now they say, ‘I still want to be independent but I don’t know how fierce I am about that.’”

Long of Sageview said a merger is not just a result of fear–it can also be used as a tool for growth and scalability.  “It’s hard to grow a business on your own,” he noted.

A form of succession planning? 

The panelists were asked why advisers generally avoid talking about succession planning. Lally pointed out that there aren’t clear “reference points” for how it should be done. “Not many firms are second or third generation,” he said.

Paley brought up the point that many advisers may see succession planning as a form of “selling” their business; and selling the business may feel too much like an “end game” for someone who built up a successful practice from scratch.  But, he cautioned, succession planning is not a matter of saying, “on this date, I am going to pass my practice off to the next owner.”  It’s an ongoing process that needs to start much sooner than many expect, he said.

Long brought up the notion that this is a “relationship business.” Having a succession plan in place is in the best interest of your clients; it’s a long-term approach to let them know you’re with them for the long haul. Keeping your clients and your practice in mind, teaming up with another practice may help get you to the next level of client service. “It doesn’t have to be an exit strategy,” Long concluded.     

What’s your business worth? 

If teaming with another firm seems like the best choice for your practice, the panel discussed the importance of knowing the value of your business.  Lally said it starts with looking at cash flow and where that cash flow can lead. “Tongue in cheek, sellers care more about the multiples than the buyers,” he mused. “Buyers or investors are looking for a return on investment; they have a threshold, they will do calculations, then back into the multiples.”

He added that there are two key points to the valuation discussion.  There is the financial valuation, but there is also the “intangible component; the strength of the management team, the client base, the demographic of the client base, and the structure of the practice,” he said.    

Things will look different for a single-adviser practice, said Paley. A single-adviser practice is built entirely on the relationships that an adviser has with his or her clients, he said, and these advisers are being squeezed out of the marketplace.   

Long said his firm has had great success adding single-adviser practices.  He said they bring in solid client relationships, and the acquired adviser gets the benefit of the larger structure already in place.   

Mergers and acquisitions; the cold hard truth.  

While there are many upsides to “teaming up” with another firm, part of which is the necessity of having a succession or “continuity” plan in place, advisers need to see the two terms for what they really are.

“There is usually never a merger, one will always have to be in charge,” Lally said. Sometimes there are   “lateral acquisitions,” which are more like a true partnering, “but at the end of the day…you may not have full control of your business,” he cautioned.  He also said there can be “true mergers,” between two large companies, when money isn’t even exchanged and it’s just a matter of combining structures. “Lots of firms talk about mergers, but someone is usually a lead dog,” he asserted.

Lally also gave five suggestions for what goes into a successful merger or acquisition. First, he said, you need to have a “defined vision” and know where you are headed. Second, think about the infrastructure of your firm and the firm you will be joining. How will they mesh? Third, Lally says every firm should have a well-defined story. Fourth, understand your culture.  Lastly, and most importantly, according to Lally, remember the importance of capital. “Having capital and wanting capital are different.  Know what you have, and don’t go after an acquisition without having capital.”

Lally had said earlier that interest in mergers or acquisitions has increased over the past year.  But, he warned, don’t handle a merger or acquisition like a Las Vegas wedding: “you meet on Friday, married on Saturday, and divorced by next weekend.”