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February 25, 2013 at 07:00 PM
A few years ago, I did some publishing consulting work for Elliot Weissbluth, the CEO of HighTower Advisors in Chicago. After learning about his firm, as I subsequently wrote in these pages, I came to believe that HighTower’s “hybrid” merger of independent client-centered advice with sophisticated financial solutions and products—traditionally found in brokerage firms and private banks—represents the future of financial advice. Recently, I realized that while I had learned a lot about HighTower’s products and services, I didn’t know much about how the firm structures the relationships with its affiliated advisors. To fill this gap, I caught up with Weissbluth recently, and he was more than happy to further my education. What I learned is that HighTower is as innovative with its advisory firms as it is with its product line, and I was even more impressed with the power of HighTower’s business model to provide competitive advantages for its advisors.
I’ve been fascinated with firm valuations since I stumbled across fledgling FP Transitions (now Business Transitions) more than a decade ago. FP Transitions was a pioneer in providing listings that matched firms for sale with potential buyers, as well as sophisticated valuation services based on the going market prices for similar firms.
Initially, that is to say 10 years ago, FP Transitions found that most firm transactions were valued at around two times gross revenues. In those early days, the idea of selling an advisory firm was a novelty: Independent advisors had only been managing client assets for a fee for little more than a decade. Consequently, there was considerable debate over what the value of those assets might be, if any. I remember many conversations with Mark Tibergien, then head of consultant Moss Adams Advisory Services (now CEO of Pershing Advisor Solutions), in which he fervently maintained that the market overvalued advisory practices and that most firms, when valued on profitability, were barely worth the equivalent of 1.5 times revenues, depending on their overhead.
However, David Grau at FP Transitions was steadfastly reporting that advisors were buying firms for multiples of two times revenues or higher. And, of course, we all heard rumors of institutions such as banks paying far higher multiples for larger firms, but those numbers were hard to verify. Grau realized that the key issue in acquisition was the retention of the clients, and his firm created a program to facilitate the transition of clients from the old advisor to a new one with astonishingly high success rates (over 90%).
FP Transitions’ revenue-based valuation model always made sense to me and still does for acquisitions by other advisors. If one advisory firm is simply buying the clients of another firm to be absorbed into their business model, then the efficiency or inefficiency of the operations of the seller are irrelevant: The buyer knows what its margins are and structures its valuation accordingly. Aside from particularly high-maintenance clients, the only issue is successfully transferring the clients to the buyer.
Over the years, Mark Hurley, CEO of Fiduciary Network, a Dallas-based financier of succession-oriented advisory firm buyouts, has consistently maintained that the market has woefully undervalued the AUM at independent firms when the growth of those revenue streams over the next 10 or 20 years are considered. The market for advisory firms seems to have borne out both Grau and Hurley: Grau recently told me that independent firm acquisition prices have pushed well past three times revenues.
While the structure of Fiduciary Network’s deals are confidential, FP Transitions’ acquisition structures have always been an open book. Typically, the acquiring firms pay one-third of the value of the selling firm in cash up front; one-third in a promissory note; and one-third is contingent on successfully transferring the clients to the new owner. Grau has found that the shared risk of the client transfer by the seller creates significant motivation to actively participate in a smooth transition.
