The end of the bull market for stocks could alter the dynamics of consolidation among registered investment advisers, potentially putting buyers in the driver’s seat.
With advisory firm valuations tied to assets under management, the 23% drop in the S&P 500 Index is a direct threat to the record-level valuations that have helped fuel record-level merger and acquisition activity.
“It’s been a seller’s market for a long time, but now you might see a balance of the power shifting toward the buyer,” said Scott Slater, vice president of practice management at Fidelity Clearing & Custody Solutions.
While advisory firm valuations are generally tied to assets under management, Mr. Slater said buyers also consider multiple factors related to geography, owners and employees, client demographics, client wallet share, and organic growth rates.
“If you’re a seller, focus on the things that will make you an attractive property down the road,” he said. “We might see a little pause in M&A activity as people recalculate, but I think you’ll see a resumption in activity after that.”
David DeVoe, managing director of DeVoe & Co., pointed out that unless an advisory firm’s assets are 100% allocated to equities, the valuation hit will be less severe than the stock market correction.
Reflecting on the slowdown in M&A activity that followed the 2008 financial crisis, Mr. DeVoe said the industry is smarter now and more mature, both factors that could keep consolidation going strong.
“Advisory firm valuations became compressed over time following the financial crisis, but 2008 was still a record year for deals,” he said. “However, 2009 saw a 50% drop in deal activity, which could have had something to do with advisers spending more time with clients as they tried to right the ship.”
Some of the factors that have been driving deal activity for the past decade have become more pronounced, Mr. DeVoe said.
“In 2009, a lot of advisers decided to wait it out until valuations came back, but in today’s environment a lot of the advisers don’t have that luxury because they’re either older or bigger,” he said. “The owners are either closer to retirement or the firms have gotten so large they are exceeding the grasp of the next-generation advisers.”
Because the market correction is directly linked to the uncertainty surrounding the coronavirus, it is difficult to gauge the full depth or length of the decline, but even if valuations stay low, the aging-owner factor is not going away.
“If this drop is temporary, it should accelerate advisers’ retirement plans because they’ll want to lock in their price,” said Carolyn Armitage, managing director at Echelon Partners.
“But if the market drop is more enduring, it will slow M&A activity given the decrease in valuations,” Ms. Armitage said. “However, do keep in mind that advisers are still aging and in need of continuity and succession plans.”
Rush Benton, head of wealth management M&A at Captrust, believes the M&A activity will follow a pattern similar to what he saw during the tech bubble in 2000 and the financial crisis 10 years ago.
“If a firm is already in the process of selling, most of those deals will push through,” he said. “And if you’re not already in the process, they are absolutely hitting the brakes, because they’ve got to deal with clients and they don’t have time to deal with people like me.”
Captrust, which just completed its 40 acquisition since 2006, will be poised to make deals when the sellers come back to the table.
“I think the activity slows down for a while, but it absolutely comes back harder when this is all behind us,” Mr. Benton said. “Getting through something like this is hard, and a lot of advisers will realize it’s even harder if you have to go it alone.”