RIAs expect M&A activity within their sector will continue to increase for more than five years as high valuations are playing a major role in bringing more of them to the negotiating table, DeVoe & Co. said Monday.
Nearly 40% of RIA principals report that those valuations are affecting their decisions on whether to consider selling their firms, according to the latest DeVoe RIA M&A Outlook Study. For respondents from firms with more than $1.5 billion in assets under management, the number jumped to a much higher 62%, it said.
Sixty percent of respondents said they expected RIA M&A activity to continue growing for more than five years, according to DeVoe & Co. Advisors in the $1 billion-$3 billion segment of the sector had an even more upbeat projection as 74% of the principals at those RIAs predicted the momentum would continue for the next five years, the report said.
Industry dynamics that pointed to the continued RIA M&A activity included advisor age, rising costs and the ability for consolidators and private equity firms to continue their interest in acquisition, according to DeVoe & Co.
The willingness of RIAs to sell their firms to an external party jumped significantly from just two years ago, with 50% of respondents saying they were open to it now versus only 33% indicating in this year’s survey that they were open to that option just two years ago.
As announced in the Q2 DeVoe RIA Deal Book, RIA valuations have reached an all-time industry high. The average seller size (excluding transactions over $5 billion) ended Q2 at $821 million, that report said, adding acquisitions of RIAs with $250 million to $500 million increased momentum with 27 transactions, representing 42% of all transactions in the first half of 2019.
“Record valuation levels are not lost on RIAs as they contemplate potential sale timing and the possibility of expediting plans,” according to David DeVoe, managing director at DeVoe & Co. “We know that advisors don’t put economics as the top decision driver,” he said in a statement Monday, but added, “it’s still a factor.”
The report also painted a gloomy picture for the potential of internal transition at RIA firms across the sector as only 32% of RIAs indicated they were confident that next-gen advisors at their firms could afford to buy out the founders.
“There’s a new revelation that succession planning needs to start much earlier to account for timeframes when next-gen advisors can work up to an ownership stake,” according to DeVoe. “If advisors wait too long, an external sale often becomes the only answer, like it or not,” he said in his firm’s announcement about the new study’s findings.
Advisors need to make these critical business decisions based on a variety of strategic elements, DeVoe & Co. said. But, for advisors that want to execute an internal sale, they must start much earlier than they may think, the firm said.
“These findings provide a wake-up call for those who seek to maintain independence,” according to Tim Kochis, special advisor at DeVoe & Co. One main takeaway is that RIAs must “start planning today” and then “start selling shares tomorrow,” he said.
As advisory firms grow, that dynamic escalates and the inability to afford to buy out an RIA firm’s founders increases with company size: Fifty-six percent of firms managing $1 billon to $1.5 billion said that was the case, compared with only 27% for firms with $250 to $500 million.
DeVoe & Co. projected that with the openness RIAs have to sell their firms and expectations to buy them at similar levels, “firms should have opportunities to find willing partners” for such transactions.
“Many in the RIA community are showing an increasing sophistication in mergers and acquisitions and a greater comfort in using M&A as a path to achieve their goals,” according to DeVoe. But he said: “A surprising number don’t have clarity on key questions like ‘can your next gen afford your firm?’ Overall, advisors have work ahead of them to determine how their succession will come together. As fiduciaries, advisors owe this information to clients and should have a plan sooner than later.”
Another key finding of the latest study: Fear of a stock market decline wasn’t influencing RIA firms’ consideration of a sale. Only 17% of respondents said it was affecting their decisions, according to DeVoe & Co.
As part of the annual survey of RIAs to gauge current and shifting perspectives about M&A within the industry, DeVoe & Co. said it surveyed 168 RIAs from April to May, and at its RIA M&A Summit in June. Respondents included senior executives, principals and owners of firms ranging in size from $100 million to more than $5 billion in AUM, it said.
— Check out RIA M&As at ‘Unprecedented Level’: Wealth/Stack Panelist on ThinkAdvisor.