If you’re considering buying an advisory practice, it’s important to gain an insight into why the seller is interested in selling.
To gain any such understanding, we will provide the buyer with useful pointers as to how they should proceed and how any potential transaction could be structured. A mutually beneficial, “fair and friendly” framework that addresses the concerns of the buyer, the seller and the clients of both should be the ultimate goal.
A seller will want to either exit the firm immediately or in stages over time. They may want to continue working with all clients, some clients or none. Each scenario presents a challenge for the prospective buyer and, if addressed effectively, can also provide opportunity and less unrest (for both buyer and seller).
The retiring adviser
According to our latest marketplace analysis, 70% of Australian practices are owned by a single principal who is fast approaching 60-plus years of age. Our research, together with our anecdotal experience gained through working with practice owners over many years, clearly indicate that in the next 10 years there will be an unprecedented number of advisers looking to sell their businesses.
The assets these firms manage present a significant opportunity for advisers who are looking to acquire – but, be warned, the competition to acquire these firms may be intense.
Understanding the seller’s goals and concerns can be critical to the successful negotiation of a purchase (and the ultimate transition of client assets to the buyer).
The most common concerns of sellers (in respect of a potential buyer) include:
- Continuity of client care and responsibility
- Continuity of staff care and responsibility
- Valuation, payment terms and the "Ts and Cs"
- The buyer’s access to financing – has it been approved? Is it easy to obtain?
- Tax and legal implications for the seller
- The seller’s role post-sale
Client care
Most advisers’ primary concern upon exiting their practice will be their clients. Consequently, the adviser will prefer a buyer who has similar values and a deep commitment to serving those clients.
As the prospective buyer, be prepared to articulate your strategic vision as well as the specific initiatives you propose to ensure these clients continue receiving at least the service and support they’ve been accustomed to. How a buyer presents the case for the ongoing care of the retiring adviser’s clients can be a critical factor in the seller’s willingness to continue discussions.
Typically, the seller makes several rounds of cuts among interested buyers – and client care is frequently an early determinant.
Valuation
Valuation of a practice can be a tricky exercise. Add to this the fact that every seller has unique needs and you’ll begin to understand why flexibility in structuring a transaction is paramount.
Valuation, payment terms and the tax impact of the transaction structure are interlinked. A buyer should take the time to carefully consider how the sale process (from initial discussions through to valuation and payment) will affect the seller and, ultimately, the success of the transaction.
The typical sale involves an initial upfront payment (60-80%), with the balance being payable in regular installments over a one- to two-year period. This is the structure most common in today’s market, and a buyer should understand and be able to work within this framework.
The buyer should also be willing to consider alternatives that address a seller’s individual situation, such as more or less money down, a longer or shorter payment period, ongoing consulting fees to the seller and so on. A potential buyer of a retiring adviser’s practice who can flexibly work with both the seller and their clients will stand the best chance of effecting a smooth transition.
A buyer’s ability to secure the funding needed to acquire a practice is obviously critical to success. You should be ready to demonstrate your financial capability early in the process (whether that be cash on hand, plans to borrow, or another source of funding).
The seller’s role post staying on
Often, a seller will want to reduce their day-to-day involvement in the practice but remain engaged to some degree.
The relationships that seller has with their clients, and often their staff, are typically deep and longstanding in nature. A seller in this situation might want to extract some of the value from the business now but still retain an ongoing interest.
Keep in mind that most advisory firms have very little in terms of tangible assets on their balance sheet. In many ways, the buyer is purchasing the goodwill that the seller has developed with their clients.
In addition to the concerns identified for the retiring adviser, the adviser who wants to stay with the business after its sale will have other issues which the buyer needs to be aware of:
- Remuneration
- Responsibilities and discretionary authority
- Practice culture and philosophy
- Trigger events for additional equity sales
- Ultimate exit strategy
The compensation arrangement for the adviser selling a portion of their business needs to reflect the nature of the relationship fairly. Does the adviser who remains with the firm receive a share of the total practice revenue, or simply a split on the income they directly generate?
What about an incentive program or bonus pool? The answers to these questions can have a material impact on the purchase price, the payment structure itself as well as the sources of money available to fund the transaction.
Similarly, the duties and responsibilities of each party should be thoroughly discussed and clearly defined. Who is responsible for communicating to clients? Who is able to authorise expenditure? How about the management of staff? While the spectrum of solutions can run from very passive involvement to an active sales and managerial role, resolution should ideally be reached as part of the purchase agreement and not left until later on.
Managing the expectations of both buyer and seller is the key to an acquisition where both parties remain engaged in the business. For example, the seller may have key employees that they wish to retain in the new organisation. A buyer needs to know as much as possible about how the seller envisions the new firm, from the sales culture to the operating structure.
It’s important to define what will trigger the acquisition of remaining equity interests held by the initial seller. Will the equity be sold over time? Should there be waiting periods in between purchases? Can the seller buy back their initial equity stake if they are unhappy with the transaction? Will a claw-back provision be inserted to protect both parties?
Careful consideration should be given to the valuation and terms for future sales of interest. For example, will a specific multiple of revenue be used in valuing any future acquisition in the firm? A clear and precise formula for future acquisitions is best decided and agreed upon before completing the initial purchase agreement.
Ultimately, how does the seller finally exit? Will the specific terms be settled now, or are they flexible? Will key person and/or buy/sell insurance be required?
Exiting the business is emotionally difficult at best and the seller may have a hard time letting go. Although they stand to be fairly compensated from a monetary standpoint, how does one measure the loss of importance to the clients and staff, standing in the community, elimination of control – and possible blow to the ego?
Mutual benefit
A buyer needs to understand the seller’s motivation for selling and is well advised to be flexible in structuring the purchase terms. On the other hand, the seller needs to appreciate the risk the buyer is taking and provide more than just financial disclosure.
In short: mutuality of the motivation for the deal should ideally encourage both parties to create a transition plan which addresses both sets of objectives.
