Advisors who overvalue their firms derail as many as 40% of pending merger and acquisition deals, according to Fidelity’s 2019 M&A survey of 150 serial acquirers and their transactions over two years.

Avoiding the mistake of overvaluation is a critical and strategic step that advisors need to take from the moment they get the merger sparkle in their eye, said Sandra Nesbit, a veteran wealth manager who last year launched her own M&A consultancy, Mainsail Capital Group, in Clearwater, Fla.

“Advisors confuse their cash flow needs with their firm’s actual value because it’s personal,” she said.

If advisors overvalue their firm and inflate their price tag, it means they’ve failed to recognize the traits and synergies sought by buyers or address their firm’s weaknesses, according to Nesbit.

She sold her own RIA firm in 2018, the Clearwater-based GFS Private Wealth, to serial acquirer Mercer, where she became a managing director of M&A.

She left Mercer last year and formed Mainsail to act as a consultant to advisors interested in pursuing a merger or acquisition.

Instead of fixating on purchase price, she tells firms, “start by solving for your situation,” Nesbit advised.

“You don’t want to jump at the highest bidder and then end up having an angry divorce down the road,” she said. “Start by working on what you want to achieve.”

As a longtime wealth manager, she conducted a yearlong search before negotiating the acquisition of GFS with Mercer.

“Succession and transition will be one of the most important decisions an advisor will make in his or her lifetime. Unfortunately, many advisors don’t know what they don’t know—and there may only be one opportunity to get it right,” she said.

Fidelity found that firms sold today have a median value of seven times their EBITDA (earnings before interest, tax, depreciation and amortization). That value has increased from five times the earnings level five years ago. However, owners expect to set selling prices at eight to 10 times the earnings level.

“Sellers appear to have inflated expectations of their firms’ values compared to the reality of the market,” Fidelity said. “As a result, buyers surveyed estimate that, on average, nearly 40% of their deal conversations fell through in the last five years due to unrealistic valuation expectations by the sellers.”

To avoid valuation missteps, Nesbit said, “advisors need to do a reality check all the way through and look at their business model, who their players are and who their clients and demographics are.”

“I could have this great business,” she said, “but if all my assets are from 70-year-olds and I don’t work with any younger clients, that will hurt my valuation. Advisors pay more for good quality firms that have top players, for instance CFPs and CPAs. That adds to the depth of the relationships clients will continue to have with the firm.”

She now helps the firms she consults with preserve both their talent and their clients in M&A deals, something she tried to do when she sold GFS.

“I made the decision when I was searching for an acquirer to keep my team involved throughout the process. I wanted to get feedback and provide reassurances that we were bringing them with us, not looking for a deal that would strip them out. We were very careful, and we help our advisor clients now do the same thing.”

That is critical to keeping your client base intact, Nesbit said. “You have to preserve your client base. We help advisors stay focused on the end client—their investors.”

Firm valuation is as much art as science, “and we believe the most successful firms will be those that take the time to understand all of the dynamics involved and align their own motivations with the value their businesses bring to the table,” said Scott Slater, vice president of practice management and consulting at Fidelity Clearing & Custody Solutions. “We continue to see a rapid pace of mergers and acquisitions, but our study showed that there could be even more deals happening if valuation expectations were better aligned.”

“With firms expecting increased M&A activity in the future, understanding deal structure is increasingly important,” said Fidelity, which found that 61% of buyers offer retention bonuses to the selling firms’ owners and that deals take an average of nine months to complete.