This news service delves into the details around the recently-reported private equity bid for US-listed Focus Financial, a firm that's made a name by aggregating scores of wealth management firms in the US and overseas. We ask what such a move might mean for the sector.

What does Focus Financial Partners’ agreement to consider selling itself to a private equity firm after little more than four years as a public company signify for the RIA business? 

For starters, Clayton, Dubilier & Rice’s offer to pay a 36 per cent premium for Focus shares is widely seen as a ringing endorsement of the RIA model.

“Despite all the talk of a slowdown, it really hasn’t materialized,” said M&A veteran Peter Nesvold, partner at Republic Capital Group, who heads the merchant bank Nesvold Capital Partners. “The private markets continue to be highly enthusiastic about deploying capital into the wealth management industry.”

The buyout offer “tells us that the RIA business is so attractive that large PE firms are willing to take a bet and pay over $4 billion for a firm that trades in the public markets at $3 billion before the takeout premium,” said Daniel Sievert, chief executive of M&A specialists and investment banker ECHELON Partners.

End game for roll-ups?
Founded in 2004 by financial engineer and Austrian native Rudy Adolf, Focus pioneered the roll-up, or aggregator model that is now deployed by scores of competitors.

The move to go private is a “watershed moment” for that model, according to veteran industry analyst Alois Pirker, former research director for Aite Group's Wealth Management practice who opened his own consulting firm last month.

“The core question,” according to Pirker, “is what is the end game for roll-ups?”  

Changes in the M&A market including higher valuations, increased competition and higher interest rates may have forced Focus’ hand, according to a veteran industry executive and longtime Focus rival.

“The days of cheap financing and multiple arbitrages are over; buyers can no longer take advantage of unsophisticated sellers,” the executive, who asked not to be identified, said. “Sellers are demanding more fair pricing, and the buyers are no longer in control of the market. Focus never had anything to offer other than money; now that rates are rising and the sellers are smarter, their so-called business model of 'multiple arbitrage' is over." 

“What we have seen with the Focus model,” said industry consultant Tim Welsh, CEO of Nexus Strategy, “is that growth slows with the increased competition from other PE buyers and their platforms.”

Perilous public path
Focus was also one of the few advisory companies to go public, a path which proved to be disappointing.

“We were rooting for Focus stock to work because it was expected to lead to more IPOs in the area,” Nesvold said. “However, the deal seemed to be plagued from the start – the IPO was priced aggressively, then there were several years of confusion over what the true organic growth rate was, and lastly the debt issue kept reoccurring.”

Despite numerous acquisitions, Focus “has struggled to show a consistent increase in share price,” ECHELON’s Seivert noted. “In large part they have not done a great job for those who invested in the company or those that took stock as part of transactions.”

Focus’ experience does not appear to bode well for other RIAs considering going public, most notably CI Financial.

To date, the industry consensus had been that the “ultimate exit” for a private equity-backed aggregator was an IPO, said RIA executive Grant Rawdin, president of Wescott Financial Advisory Group in Philadelphia. “That’s now under question,” he said.

Focus’ share price faltered because Wall Street wasn’t impressed by Focus’ true organic growth, according to Nesvold, who also founded Nesvold Capital Partners. “That would be the key takeaway if I were advising CI on its IPO,” he said. “Make sure you have a compelling organic growth story to communicate to investors.”

Leverage is the key for CI Financial’s IPO prospects, said investment banker and consultant David Selig, CEO of Advice Dynamic Partners.

“If CI isn't overly levered at this point, a public offering could work,” Selig said. “But if they lever up like some of their competitors, one of which is rumored to be levered at eight times EBITDA, the public option isn't attractive given where interest rates are.”
 

Sell off coming?
Ironically, Clayton, Dubilier & Rice may end Focus’ legacy as an aggregator by selling off its most desirable properties, most likely St Louis-based Buckingham Wealth Partners and Boston-based The Colony Group.

“I do expect CD&R to divest selected affiliates to recoup a portion of the purchase price,” Nesvold said. “After the portfolio is pruned of some of its lower growth firms, perhaps there’s a new story that can develop while the company is outside the public eye.”

Selig also said he would “absolutely” expect a new PE owner to assess its spin-off options. 

“Some of their larger partner firms are likely worth $1 billion to $2 billion alone,” he noted. “I had a confidential call with the CEO of another RIA roll-up who confirmed they'd be interested in acquiring many of Focus's top partner firms and would be willing to pay top-of-the-market multiples.”

Rawdin, however, is more skeptical.

“I don’t think you can sell off the parts per se…unless you sold or rearranged non-core firms and rolled up some of the firms that probably shouldn’t be platform firms,” he explained. “But that’s not what the RIAs signed up for so depending on the management agreement that would be a negotiation process. The question is would any of the firms fare better [by] not being part of Focus but being part of the PE ecosystem?”

Seal of approval
Whatever the ultimate fate of Focus Financial, the PE offer has already validated the appeal of the RIA industry.

“It certainly tells us that the RIA space is viewed as one of the fastest growing segments of the wealth management industry,” said Ed Friedman, director of business development and growth for Summit Financial. “It also tells us that there is a lot of gas left in the M&A tank and that PE firms still believe there is tremendous opportunity.”

Investment banker Selig agreed.

“This potential move by Focus tells us that PE sponsors remain hungry to get into this space,” he said. “While we can debate whether the public markets are ready for the wealth management aggregator model, we know these properties, when scaled, have tremendous enterprise value.”