An infusion of private equity is changing the nature of mergers and acquisitions for financial advisory firms, according to a report from Fidelity Clearing & Custody Solutions released Wednesday.
Large firms are receiving private equity funds to grow organically and inorganically, which is allowing firms that are acquired to, in turn, acquire or partner with even smaller firms, according to Fidelity’s Insights on Sources of Capital and Independence report.
The report shows that established firms with demonstrated track records of consistent growth have been receiving the bulk of capital funding, resulting in the formation of unique ecosystems, as platform firms and strategic acquirers increasingly use this capital to fund and acquire smaller firms. Fidelity said. During the first quarter of this year, strategic aggregators were responsible for two-thirds of mergers and acquisitions, compared with 47 percent in the first quarter of 2017.
“As external capital providers are increasingly drawn to larger firms, assets are further concentrating at the top,” Scott Slater, vice president of practice management and consulting for Fidelity Clearing & Custody Solutions, said in a statement. “Those large firms are then investing in smaller ones, often using a model that keeps the owners involved as the business grows and develops. That’s a significant shift in attitudes, and is opening up new opportunities for small firms that are open to embracing this more collaborative perspective.”
The report was compiled through interviews with leading acquirers, including members of Fidelity’s M&A Leaders Forum. There are two main types of private equity investment in acquiring firms.
In one, direct investments are made in a platform firm that uses the funds for organic and inorganic initiatives. For example, private equity firm Lightyear Capital acquired equity positions in large advisory firms, including Wealth Enhancement Group, Advisor Group and HPM Partners. The large advisory firms then made smaller firm acquisitions, helping to build significant scale, the report said.
In the second, a strategic acquirer uses private equity funds to support a network of affiliated firms through mergers and acquisitions. For example, an investor group led by private equity firms KKR and Stone Point Capital took a majority stake in Focus Financial, a strategic acquirer. Focus Financial then helped one of its partner firms, Buckingham Strategic Wealth, close more than 30 deals, according to the report.
The report also included advice on how acquiring firms should find and work with private equity partners. Firms need to decide how much growth is desired and how much control the firm wants to retain, and firms should use outside consultants to guide the process. Firms also need to be positioned for additional growth in order to attract more funding in the future.