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Poor M&A due diligence will come back to haunt advice firms

‘Smart buyers’ are starting to accurately value a business

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The rise in M&A in the financial advice market has seen many different firms look to acquisitions to bolster their operations in the UK.

But according to Matt Timmins, chief executive of financial services firm Fintel, the M&A sector is beginning to change for buyers and sellers.

He told International Adviser: “I think what has changed for the seller, which is a really good thing, is that the avenues by which they can sell their business have multiplied.

“The number of consolidators and aggregators out there is huge now. The market was nowhere near this size, and to sell your advisory business two or three years ago, it was a difficult task. I think that it is a seller’s market in that sense, much more than it ever was.

“For buyers, I think what has changed is the availability of capital for the big consolidators is there now. It almost feels like we are seeing a new firm launching every week, and they all got the same story.

“They’ve all got a war chest because private equity money is coming in and supporting these businesses.”

Slow movement

Timmins also believes that what is changing slowly is “the ability to be able to properly and accurately value a business”.

“I see a lot of conversations where the first thing that a seller will ask is what times revenue are you going to pay for my business, or what times recurring income or what times AuM,” he added.

“From the sellers point of view, I see exactly the same conversation with firms saying ‘we pay four times, we pay three times’. I think that is starting to change because people are realising these are really poor ways to value a business.

“To value a business properly, you have to understand the underlying components of the client bank and you have to understand what people are invested in for how long and why, not just the attrition rate of a client, but the actual fundamental underlying investments, the goal that they invested for.

“I think that is changing among the smart buyers, and the smart sellers are making sure that that information is on a piece of technology that is readily available and can be accessed by a buyer.”

Poor due diligence

But “smart buyers” did not always exist, and some firms’ lack of knowledge about legacy issues might start to become a problem in the future.

Timmins said: “I think we will see the effects of bad due diligence (DD) and I also think we’ll see the detrimental effects of light touch due diligence.

“It goes back to the valuation, if the valuation methodology used is just a percentage of recurring income, guess what your DD focuses on. I think that poor DD will yield poor results in the future for many acquirers.

“The smart new businesses and consolidators, who really understand this sector well, are using different methodologies for valuing and due diligence.

“I think it’s getting better, but there will be some mistakes of the past that come back to businesses.”

Innovation of M&A sector

SimplyBiz, the subsidiary of Fintel, rolled out an exit and acquisition scheme called Horizon for its member and client firms.

During the interview with IA, Timmins spoke about how the scheme is bringing innovation to the M&A advice market.

“The two areas that probably matter the most are the quality and depth of the client bank, and the technology and systems with which the practice operate,” Timmins said. “I think, traditionally, it’s been very hard for a buyer to do that analysis work and really understand the value of the client bank, and really understand the systems.

“It’s been very hard for a seller, if they don’t have one of those two things absolutely right to be able to do something about it before they sell their business.

“What I believe we have done is to help both buyer and seller when it comes to those two key things. We can assess an advisory business’ client bank and we can install appropriate technology, and systems and controls into a practice in relatively short order.

“We’re helping people who want to think about selling in several years’ time to go through a relatively short but important programme to get their business in the right shape for sale.

“Then, we’re helping buyers be able to quickly and accurately value a proper client bank, rather than just say, we think is worth three times. Those kinds of conversations are old and irrelevant.

“What you need to understand as a buyer is how to properly value the client bank. Because we have access to the technology systems that advisers are selling, we can do that work really quickly and importantly.

“It helps the seller get a better price for their business, and it helps the buyer to make sure that they are buying a great business. I think that’s the most important fundamental around acquisition. What we’re also then doing is putting buyer and seller together who are in similar geographical locations.”

Growth of the scheme

Timmins believes Horizon will have a “natural” growth.

He added: “You’re not going to persuade someone to sell a business who doesn’t want to sell because they’ve got 10 more years left. We do have an adviser population, where there is 5% or 6% churn every year. There will be natural growth.

“The next thing for us to do is to ensure that as many firms as possible, who go through this process, use the same core technology systems, because that helps the transition, and it helps the value of a business.

“If one business is all paper driven, and another is all on a tech system that the buyer is also using, the latter business will be more valuable.

“I think the growth for us will come naturally for firms selling and then there’ll be growth in technology usage as a result.”

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