Twenty-one months ago, a cover story in Financial Advisor predicted that prices for advisory businesses were about to go up big time over the next five years. That prediction turned out to be wrong, since 21 months later, it's already happened.

In the last six weeks, a newfangled type of acquirer has entered the advisory market. Fiduciary Network (FN), a holding company created by former Undiscovered Managers CEO Mark Hurley and New York investor Howard Milstein's Emigrant Savings Bank, has agreed to acquire minority stakes in two leading wealth management firms, Regent Atlantic Capital LLC of Chatham, N.J., and Evensky & Katz of Coral Gables, Fla. Terms of the transactions were not disclosed, but FN reportedly has about $600 million in capital and is looking to buy 15 to 17 firms.

Also in mid-February, Private Wealth Management (PWM) opened its doors. Founded by former Royal Alliance CEO Mark Goldberg, the New York- and Greenwich, Conn.-based firm has access to $250 million in capital with the objective of acquiring minority interests in successful wealth management firms.

Asked about the new metrics being used to value substantial advisory firms, longtime consultant and merger advisor to the profession, Mark Tibergien of Moss Adams LLC, offered a quick comment. "It's tulip mania," he said.

The multiples that Goldberg and Hurley cite, typically in the range of eight to 14 times cash flow, are double to triple the traditional yardsticks of four to five times cash flow and two times revenues. But is it really tulip mania?

"If you look at this business, assets go from custodian to custodian, broker-dealer to broker-dealer, but the relationship stays between the advisor and the client," Goldberg observes. "That's where the real value is. Over the next decade, there could be a value shift from broker-dealers and custodians to the real owners of the business [relationship]."

The financial engineering models of PWM and FN represent a sharp contrast to old-fashioned consolidators like National Financial Partners, Boston Private Financial Holdings and Focus Financial Partners. In this aspect, the new strategies illustrate an emerging trend in private equity, a willingness to buy "strips," or percentages of a business's cash flow over time, rather than outright control.

Borrowing a page from Norton Reamer's Asset Management Finance (AMF) , FN and PWM are not interested in controlling advisory firms or converting individual firms' shares into one common class of stock with an eye towards an initial public offering (IPO). Each transaction is a separate deal, so one acquired firm won't find its financial or regulatory fate linked to another's. Both FN and PWM also will provide loans for junior partners who want to buy into their own businesses.

While both firms share similarities, there are differences. FN is structured as a holding company, while PWM is a finance company. According to Hurley, his Dallas-based company is looking to make "passive, long-term intergenerational investments" over a 30- to 40-year horizon. PWM has an exit strategy of five to seven years, and firms in which it acquires stakes will participate in any upside.

Fiduciary Network takes a dogmatic stance in that it will only consider investing in fee-only firms. Hurley says that he and Milstein agree that it is "best for the client" and the best business model. For his part, Goldberg maintains PWM is agnostic on the fees versus commission issue, but it is seeking to invest in wealth management firms with between $500 million and $3 billion in assets. "We're interested in real firms, not books of business," he says.

Fiduciary Network's deals are being structured with two classes of equity in a manner similar to the structure at Dow Jones & Co. and the New York Times, leaving the advisor/owners in control. "If we think there's any chance we might have to step in and take control, we won't do the deal," Hurley says, adding that his control is limited to certain "veto rights" that would prevent advisor/owners from "recutting" the transaction without Emigrant's consent.

The private equity firms backing PWM aren't seeking to control wealth management firms, either. "They want investment in them because they see small businesses providing excellent service with high-quality earnings, margins double or triple broker-dealers' and growth rates at least as high," Goldberg says.

What both FN and PWM are keenly interested in is growth, with the goal of purchasing a piece of an advisors' cash flow in return for providing capital for the firm's growth and succession plans. This strategy differs from AMF's in that they are looking for real equity investments; Reamer will buy a portion of an asset management firm's cash flow for a predetermined time period, say 20 years.

Hurley, in particular, says he is interested in allowing firms to stay independent by financing the gap between what the next generation of advisors can afford to pay and the firm's true value, while allowing the founding partners to monetize their equity. "The risk is that if we don't grow, we owe the bank a lot of money," says Regent Atlantic partner David Bugen, speaking on an afternoon when the Dow Jones Industrial Average was down more than 400 points. "Hurley may be a character, but he has been very honest and listened very hard."

FN's deal terms also worked for Evensky & Katz. "There are other good people and good deals out there but their return needs were different," says Harold Evensky, CEO of the Coral Gables firm. "This is exactly what we wanted and it fits us, our people and clients. Hurley is talking with some of the best firms in the country."

John Temple, managing director at New York-based Cambridge International, which advised Regent Atlantic, says the FN offer had several attractive components. "First, management remains independent. Second, it established a very complex equity recycling mechanism allowing new partners to buy stock in perpetuity that is not replicated in other models," Temple explains. "Third, it commits to pay at pre-agreed prices and multiples over the first ten years. AMF is a wonderful financing resource for this business, but they don't do all these things and it didn't work as well in this situation."

Hurley says the payouts to Regent Atlantic principals could reach into nine figures over the next decade. However, Temple cautions such payouts would require the firm's staggering growth to continue. Remember, Regent Atlantic is a firm with more than $1.5 billion in assets and 740 clients. Of that, 106 first retained the firm in 2006. Using a general rule of thumb that asset management businesses are worth 2% of assets, Regent Atlantic today would be worth $32 million.

Its blistering growth rate probably also merits a premium. Back in 2000, its assets stood at $270 million. "They've gotten seven people [partners] to work together and subordinate their own egos for the good of the firm. They also have to start transitioning to the next generation or they will have a prison riot," Hurley notes, with his characteristic under-statement.

The dynamic financial and interpersonal characteristics of a firm growing as fast as Regent Atlantic don't lend themselves to a single, one-time financial transaction, Temple observes. "The present value of the business' future cash flows is worth a lot more than near-term cash flow," Bugen adds.

With three partners in their sixties, one in his fifties, another in his forties and two in their thirties, the situation is very fluid. "The monetization of the founders is too big for the next generation, and the transition of ownership is going to be over 20 years," Temple says. "They don't know who all of the new partners are going to be."

Hurley also could find himself a hostage in the middle of the potential prison riot he describes, and he's making a nine-year commitment to the business. "Because he is never buying too much of the firm at one time, he's in partnership with them and his fortunes are going to rise and fall with theirs," Temple notes.

Still, it's a value proposition that's suddenly very hard to ignore, and one that's likely to send other financial and strategic buyers back to the drawing boards. Both PWM and FN aren't interested in smaller firms, where some principals are mainly interested at cashing out, while making sure their clients and employees are taken care of.

For its part, PWM will only acquire controlling interests in wealth management firms at the principals' request as part of their succession plan. "If you look at most of these wealth management [firms], they have real value built up but they can't access capital to grow," Goldberg says. "Banks look at them as brokers so they can't get any liquidity."

To justify the multiples FN is offering-and for advisors to realize the full potential value of their offer-the firms in which it acquires equity stakes must achieve and sustain strong growth rates. Hurley says that the lion's share of his time spent negotiating with both Regent Atlantic and Evensky & Katz involved the younger partners and next generation far more than it did the founders. And he is extremely high on the abilities of the key marketing and sales executives at both firms, Margaret Prentice at Regent Atlantic and David Evensky at Evensky & Katz.

Indeed, several advisor/owners who looked at the FN deal thought it was a good deal for them but could place tremendous stress on younger, junior partners and want-to-be partners. To a large extent, the appeal of this deal hinges on the strength, depth and ambitions of the next generation.

That's because a dirty little secret of this business is that few of today's largest advisor/owners ever imagined a decade ago that their firms would reach their current size. Everyone wants success, but the scale of today's largest firms, coupled with the lack of liquidity for the businesses, is spawning a series of challenges that pits the founding partners against the next generation.

As Hurley describes it, owners of RIA firms face very few attractive succession alternatives. "They can sell it to the next generation at only a de minimis price, like an 80% discount, because that's all the next generation can afford to pay," he says. "That gives the next generation a huge incentive to flip the business very quickly." And while many founders would like to offer the next generation a fair deal, the last thing they want to do is sell the business that they labored decades to build for a song so someone else can hold it for a year and get a 400% return.

The other alternative facing wealth management firm owners is to swap their shares for those of roll-up firms and wait for an IPO. The problem is, if there is no IPO in five to ten years, the roll-up operation probably would be sold to another private equity firm at a discount, diluting the original RIA firm's shares.

Until now, advisors looking at exit and succession strategies have faced an array of either high-risk alternatives with a shot at high returns or options with low risks and returns that at least offer some certainty. These options include swapping a portion of an advisory firm's shares for those of a consolidator like NFP, selling all the firm's shares to a financial institution like a bank or allowing junior partners and senior employees to buy out part of the founding partners' interests over time. All these different transactions involve some or total loss of control.

Swapping shares with a consolidation firm offers the most potential upside if the consolidator can complete enough transactions, probably 60 or 70 deals, to pull off an IPO. That's because these roll-up vehicles typically purchase control, say about 60%, of a firm's equity at five times earnings and, when they accumulate a critical mass, take them public at 15 times earnings or more, creating enough value to justify ceding control. But in the noninstitutional asset management space, only NFP has done an IPO, and most of its acquisitions have been estate planning/insurance firms or benefits administrators.

Yet keeping advisors from 60 or 70 firms on the same page is no easy task. While a roll-up vehicle like NFP may provide lofty potential returns, the downside can be very unattractive. "If one of 70 firms in a roll-up gets tainted, you get tainted even if you've never met them," Regent Atlantic CEO Chris Codaro says.

Consequently, many long-tenured advisors have avoided making a choice, opting instead to downshift their work schedule and transfer some responsibilities and ownership to younger partners. Many firms are already doing this.

Lou Stansasolovich of Legend Financial Advisors in Pittsburgh has been selling small amounts of the firm's shares to employees for almost a decade. "If I ever wanted to sell the bulk or a lot of my equity, it would be tough to do," he concedes. "Something like this could make it happen."

It's a huge conversation topic inside firms all over the nation. "I have a few stars here, and you want them in this for the long haul and thinking like owners," says Columbia, Md.-based Financial Advantage's Michael Martin. "The employees are the ones who make what I do possible."

Of course, other acquirers still abound. Recently, Martin was approached by a representative of Ken Fisher's Fisher Investments, who offered two times revenues and told him all Financial Advantage partners, prospective partners and employees would be gone in three months. The offer was declined.

So how good and how fair are the FN- and PWM-style deals? Tibergien of Moss Adams calls Hurley's deal "very intriguing." In particular, it's a good solution for Regent Atlantic, where you have wide age disparities between partners. "Milstein's multiples are fair if not more than fair. It depends completely on the depth of the bench," he says. "But David Bugen will need to identify five new shareholder/partners before he retires [in about ten years]."

Typically when a firm gets big, it requires two successors for every retiring founding partner to sustain its growth rate. "It's only recently that advisors have gotten that big," Tibergien continues.

The transactions can work well for the founders, but how about their successors? "For the younger people, is this the cheapest form of financing?" Tibergien asks. "If they could arrange a loan, would they be better off? Equity is almost always the most expensive form of financing."

That's a dilemma about which many advisors probably have counseled clients looking to sell or buy into a business, and the answers aren't easy. Would you tell clients to leverage themselves to the eyeballs in return for the possibility of an eight-figure net worth? To get the highest multiples, Tibergien says Regent Atlantic's next generation must continue to grow the business at 25% annually. His question is: "If you can grow it that fast, do you want to share it? But the appeal of instant liquidity is nice and solves some short-term problems."

What's in it for Milstein and Emigrant, which reportedly is the nation's largest S corporation? It's hard to argue that someone like Milstein, who graduated summa cum laude from Cornell, has both law and business degrees from Harvard and whose family ranks ahead of Donald Trump in the Forbes rich list, is some innocent bumpkin who fell off the turnip truck.

According to Hurley, Milstein is looking for a 40-year investment and is willing to accept a return in the teens, when most private equity firms are looking for returns in the twenties or thirties. As the owner of Emigrant, he also has access to very cheap capital and the ability to leverage it.

Like Hurley, Goldberg maintains that wealth management firms' value hasn't been understood by the market to date. "The market is paying 18 to 24 times earnings for big broker-dealers, amalgam firms that are only proxies for the real relationship. Custodians and investment managers also get rich multiples," Goldberg says. "Forget four or five times earnings. If I can get wealth managers two-thirds to three-quarters of the market multiple [for amalgam vehicles], that's a big step forward."

He is convinced this is fair economically. "Who is in the control position? Advisors are, and the value that's there should be unlocked," he continues, adding that the private equity community is intrigued. "When private equity firms see this, they understand it and they believe the capital markets will recognize it as well."

Hurley claims that Milstein doesn't want an exit strategy, just a sound, long-term investment. But 30 or 40 years is a long time for any investor. And the RIA business as it exists today has been around only for 20 years at most.

Sure, this business has been sporting 30% profit margins, 20%-plus growth rates and stunning client retention rates for most of the last decade. But the pharmaceutical business did much the same thing for 50 years-and look at it now. The folks at Regent Atlantic know this all too well, given that they have lots of clients who work for Pfizer, folks who, like much of the investment management community, never could conceive that once-great business' current condition.

So it's a good idea for everyone to keep their eyes wide open. The FN deal is very creative but it has an awful lot of moving parts, conceivably too many. In the meantime, both Hurley and Goldberg have become very popular guys and have tony new headquarters under construction in Dallas and Greenwich, Conn., respectively, spanning tens of thousands of square feet.