Over the past two and a half decades of working in this industry, as a regulator, an attorney and now at FP Transitions, I can safely say that I have never seen a better time to be the seller of an independent financial services or advisory practice. The commonly applied term, “a seller’s market,” barely does this observation justice. We are seeing so many supporting elements (price, terms, taxes, financing, demand, etc.) come together right now, that this may be the peak for sellers for years to come.
So here is my message: If you’re thinking about selling what you’ve built and handing the reins to a strong, next generation acquirer at any time in the next two to three years, you need to start thinking about these items today. You really need to understand why this may be the perfect time to call it a day and to sell for the full value you’ve built over the length of your career and to let someone else be responsible for the future. In a nutshell, here are the elements that are creating, perhaps simultaneously, this great opportunity at the peak of your career:
- Market-based valuations are more accurate than ever. This year, we will complete our 10,000th market-based valuation. If you’ve ever bought or sold a house, you intuitively understand this valuation process. Home values tend to rely on “comps,” or comparable sales within a reasonable distance and timeframe. Independent advisory and financial service practices are different than real estate in many respects, but the valuation logic still applies: does the valuator have enough good comps with all the underlying data to offer an accurate opinion of value?
As a testament to the accuracy of our market-based valuations (called a Comprehensive Valuation Report), at the end of every year we look at the valuations we performed that were used for a sale to a third-party, and we compare the value we opined to what the buyer actually paid to a selling advisor. In each of the last five years, our valuations have been plus or minus 3.5% the actual selling value of the business. That’s because our comps are solid and our valuation process is tied to the reality of the market place. This isn’t about academics or wishful thinking.
- Highest values to date. When we first started our competitive, open-market listing service almost twenty years ago, gross revenue multiples (GRM) hovered around 1.50 x trailing twelve months. Today, the GRM has steadily climbed to around 2.40. With that said, some practices and businesses are worth more because they’ve built a transferable business and revenue streams that are profitable and growing steadily; others are worth less. It’s hard to know the difference, and it’s even harder if you’re not objective. Only a formal valuation by a neutral third-party can determine an accurate and reliable sales price.
- Qualified, experienced buyers are increasingly the rule. Ten to twenty years ago, buyers were learning right along with sellers; having two rookies in a single transaction was, well…exciting! Today, most qualified buyers have built durable, strong, valuable businesses of their own, and they’ve grown, in part, through acquisition and merger. They know the ropes and that’s a good thing. Put it to work for you, your staff, and your client base.
- Great deal terms are increasingly the norm. For sellers who own an RIA or who are selling practices with 75% or more fee-based, recurring revenue, earn-outs are a thing of the past. Revenue-splits or revenue-sharing arrangements are found only on the shelves of antique stores. Buyers must compete and improving deal terms mean large, non-refundable down payments paid out of reserves (not borrowed), with the balance paid using a promissory note with one look back at about a year out.
- Bank financing. Ten years ago, bank financing in M&A transactions below $5 to $10 million in value was almost unheard of. But times have changed. Over the past five years most bank financing has been of the SBA variety, but with increased competition and experience, even conventional lending is now available to buyers. Bank financing isn’t needed in every transaction, but when used correctly, it shifts more of the risk to the buyer and the lending institution, and puts much less risk on the seller’s shoulders post-closing (and a lot more cash in the seller’s pocket at closing). Low interest rates also support the use of this strategy.
- It’s been how long since the last recession? Who knows what the economy will bring a year or two from now, and values cannot continue to go up forever. Hanging on for one more year, or two, might mean hanging on for seven or eight more years, or even selling for much less a few years from now should a sudden health issue cause a change of plans. We don’t have a crystal ball either, but more and more of the sellers who approach us and choose to sell sooner rather than later cite this as a key reason: they don’t want to wait that long to sell for maximum value ever again.
- High buyer to seller ratio. Our competitive, open market listing system is designed to provide sellers good choices. The typical fee-based seller listing between $350,000 to $2,000,000 enjoys a 50:1 buyer to seller ratio; it drops a bit as seller values climb above $4 to $5 million, but even at 25:1, the point is that sellers can audition the buyers in order to select the best two or three candidates. I’ve always felt that the best way to find a great buyer or successor is to set aside the money talk and focus on best match in terms of personality, skill sets, relationship building, and education/experience, as these are the reasons your clients originally chose you as their advisor. Once the best match is in place, however, then it is about best offer.
On this point, never, ever, start the negotiation process on a 1:1 buyer to seller basis – as a seller, the only benefit is that the sale will be easy. In terms of value, terms, tax results, and client satisfaction, the seller almost always loses; kind of like walking into a Vegas casino and trying to teach the house a thing or two–there’s a reason why those buildings are so tall.
- Favorable Tax Treatment. No, not the recent tax cuts, though that doesn’t hurt the typical seller. We carefully track the tax allocation structure that buyers and sellers agree to and we make it part of our comparable deals database. In fact, every market-based valuation we issue provides the current tax structure that results from an arms-length transaction. You see, in an asset-based sale (i.e., not a stock sale), buyers and sellers, can agree how much of the purchase price they want to allocate, within reason, to each of the assets being sold. Ten years ago, 75% of the purchase price resulted in long term capital gains tax treatment to the seller, and 25% of the purchase price resulted in ordinary or earned income tax treatment. Today, with a very competitive market place, buyers are typically offering a deal structure with tax allocations resulting in 85% to 90% long term capital gains, and the remainder at ordinary income tax rates.
All this sounds pretty good, and it should. But also understand that the M&A arena is not a forgiving place–experienced buyers are skilled at their craft and in this market, the largest and strongest buyers have far more experience than any first-time seller. Buyers also tend to have the backing of their broker-dealers or custodians in order to retain the assets. To that end, our entire system is built around creating a level playing field, ensuring that well-prepared sellers obtain fair market value on competitive terms at the best tax rates. We handle every transaction on a non-advocacy basis because we firmly believe that every transaction should be win/win/win for the seller, the buyer and the clients who are our ultimate judge and jury.
The FP Transitions open-market listing system is extremely efficient and succeeds for almost every prepared and serious advisor we work with. Coming back to my original message–if you’re thinking about selling to a buyer/successor at any time in the next two to three years, put experience on your side and talk to us. You only get one try to do this right.
My second book, Buying, Selling and Valuing Financial Practices: The M&A Guide, was written for you. This is personal, and we understand.