After an almost 10-year bull mar- ket, the investment manage- ment sector is at an inflection
point, resulting in robust M&A activity. According to the S&P Global Market
Intelligence, the number of deals in the
space almost doubled from 96 to 180
from FY14 to FY17, with FY18 slightly
lower than FY17.
Several key themes are driving this,
such as aging firm owners and their
succession plans, the need for operational efficiencies and strong infrastructure, and the influx of private-equity
capital which also is raising valuations.
Incremental to these factors is market
volatility during the fourth quarter of
2018, driven by interest rate fears, tariffs,
and skyrocketing corporate debt.
The impact of the aging baby boomer
demographic has been widely documented. It is also influencing the direction of investment advisory firms and
whether founders decide to either transition to existing teams or sell to a corporate or private equity buyer.
Naturally, the industry is heavily
dependent on personal relationships and
firm culture is critical. We believe that
M&A activity would be even stronger
than current levels if not for deals falling
apart near the finish line due to insurmountable differences in cultures and
personalities between buyer and seller.
Therefore, the importance of succession planning within an organization is
critical for founders, whether they decide
to keep the business intact or sell it.
Recent volatility in the markets and
fee compression have caused investment
advisors to focus on trimming operating expenses and streamlining processes
in order to maintain profitability levels.
There has been a significant amount of
investment spend in the space recently as
companies have aimed to enhance systems
and improve the customer experience.
This is even more important as the client market shifts from baby boomers to
millennials, who would prefer to monitor
and adjust their portfolios from a mobile
app, rather than meeting at a branch. Aside
from technology spend, founders also face
rising internal costs to satisfy increasing
regulatory and compliance requirements.
These factors create a crucial cost/benefit
analysis and in most cases may result in the
founder looking to join forces with another player in the space or private equity.
INFLUX OF PE INVESTMENT
Fee-based investment management businesses have historically been attractive
to private equity firms due to their stable cash flow generation. However, the
current economic climate has fostered
heightened interest from private equity
buyers, because other financial services
sub-sectors, such as specialty lending
and other balance sheet intensive companies, may experience an economic
downturn sometime in FY19 or FY20.
As a result, private-equity buyers are
reluctant to pursue these types of busi-
nesses until there is further certainty of
when the next credit cycle will occur.
Consequently, record amounts of dry pow-
der have been put to work in investment
management and other consistent fee-
based businesses over the last few years.
This has caused an uptick in valuations
and providing more incentive for founders
to sell a portion or their entire business.
Along with the above factors, market
volatility in the fourth quarter has had
implications for investment management
M&As. Assets under management lev-
els are declining which, when combined
with fee compression, is causing com-
panies without robust sales functions to
struggle to stabilize AUM levels.
Because of this volatility, founders
who were considering selling in recent
years will likely look for an exit or partial sale in the near term. From the
buyer perspective, this can also bridge
the valuation gap between their and the
We believe the factors outlined above
will continue to lead to more M&A in the
investment management sector in FY19.
Some headwinds that may impact this
activity in the space include potential
weakening in credit markets, continued
lofty valuation expectations by sellers,
and increased client/asset outflows. More
specifically, client portfolios remain heavily concentrated in baby boomer accounts.
To the extent further market volatility
causes this customer base to accelerate
cash withdrawals, buyers may be cautious not to purchase a potential “
melting ice cube.” Notwithstanding these
factors, we expect continued strong
M&A activity for the sector in FY19.
Pete Gougousis is a managing director and Sam
Jones is a director with Alvarez & Marsal’s
Transaction Advisory Group.
RIA LESSONS & LEADERS
By Pete Gougousis and Sam Jones
Where Are RIA Deals Headed?
Due to several trends, firms may want to join forces with other players.