Among the other ways the coronavirus has hurt the economy, it has hurt the valuations of financial advisory firms. Falling asset values have a domino effect on RIAs: falling stocks mean falling AUM fees, falling revenues, falling profits and, finally, the falling worth of RIAs themselves—and at the worst possible time when many advisors were thinking of selling as they look toward retirement.
“I believe multiples will come down a little,” said Marty Bicknell, CEO of Mariner Wealth Advisors, in an email reply. His Overland Park, Kan.-based company is an acquirer of RIA firms. “If the range was 6-9 times EBITDA, I think it’s 5-7 now. That’s for firms $2 billion and below. Firms $10 billion and above are still mid-teens, 15-17.”
But a 30% drop in the S&P 500 doesn’t mean your firm has lost 30% of its value. For one thing, many firms had a balance of stocks and bonds to blunt the pain.
Echelon Partners, a firm focusing on wealth management M&A, uses an example of a $1 billion portfolio (as of December 31, 2018) that’s invested 60/40 in stocks and bonds and is charged a 0.18% quarterly fee at a firm with fixed costs of $1.26 million. The valuation multiple for the firm is 8.0. A mixed portfolio that Echelon calculated saw a 12.7% decline in the first quarter of 2020, but the three previous quarters saw growth. The rolling four quarters of EBITDA on March 31 of this year would be down only 1.8%, and valuation for the rolling four-quarters is based on a similar number (and not on an annualized quarterly drop in the valuation multiple, which would have been a huge 29.9% decline).
“Emotionally you’re in one place, but I think cognitively you should be in another place,” said Dan Seivert, Echelon’s CEO, in a recent webcast.
“Eighty percent of the time there’s a general agreement that buyers and sellers will use the four quarters prior to the close,” Seivert said. “Quarters are much easier to use than months are. In our industry, there’s a high inclination to want to close at a quarter end.”
But there’s going to be compromise, and it’s likely that buyers in the future won’t want to look at your past when considering whether to buy your firm. They are going to look at your future. Do you have a strong middle management? Do you have a young clientele that’s going to build assets rather than start scraping them off? Can a buyer keep your clients when you leave?
“When the markets are great, the sellers tend to want to be looking backwards at four quarters worth of performance,” said Mark Bruno managing director of Echelon Partners, in the webcast. “When the markets are falling as they were for a period of time now … you see how it tips in the buyer’s favor to want to use a more forward-looking time frame to assist with the valuation.” It’s about finding a compromise, he added.
Matt Cooper, the president of Newport Beach, Calif.-based Beacon Point Advisors, a firm that’s been acquiring RIAs, says he’s not totally comfortable looking at things like a target firm’s trailing-12-month measures, which assumes there will be a V-shaped recovery.
“We aren’t buying the past 12 months, we are buying today and into the future,” he said. “What if three of the best advisors left the firm and took clients and team members, permanently impairing revenues and earnings? What if the markets are hampered and down for several quarters?”
He says it’s for that reason he prefers to use a discounted cash flow of future expected cash flows that results in a multiple of the most recent quarter of adjusted “run rate” EBITDA.