Are LPL and Cetera Financial Group a potential match?

At least one analyst thinks so, noting that LPL has acknowledged that M&A is a good use of the company's capital

Feb 27, 2018 @ 3:07 pm

By Bruce Kelly

A securities analyst who covers LPL Financial Holdings Inc. wrote a note on Tuesday morning saying that it makes sense for LPL Financial to pursue an acquisition of Cetera Financial Group.

"We believe the benefits of a Cetera acquisition are clear given notable leverage capacity at [LPL] to complete the deal," wrote Steven Chubak, an analyst with Nomura Instinet. "In addition, we see meaningful accretion potential given better economics on attachment fees as [LPL] is self-clearing."

On Friday, Bloomberg News reported that Cetera was exploring a sale that could fetch its private equity owners as much as $1.5 billion.

Cetera would not confirm the report, but on Monday said it had hired Goldman Sachs & Co. to conduct an internal review with the objective of optimizing its capital structure, lowering costs and maximizing continued investments.

A spokesman for Cetera would not talk about a possible merger with LPL.

"We are well aware of the kind of speculation a capital structure review such as ours might typically generate, and as a matter of policy, we never publicly discuss speculative chatter of this nature," wrote the spokesman, Joseph Kuo, in an email. "As part of this process, we have just engaged our investment bankers as of yesterday, so any suggestions that we have potential suitors for this process already is pure speculation, and nothing more."

A merger between LPL and Cetera would create a behemoth of more than 20,000 financial advisers. LPL is already the largest independent broker-dealer in the country with 15,200 brokers and advisers.

Mr. Chubak's analysis of such a merger implies another $172 million of EBITDA — earnings before interest, taxes, depreciation, and amortization — for LPL. His target price for LPL shares is $84. During trading early Tuesday afternoon, LPL shares were trading just below $66 per share

The economics of an LPL purchase of Cetera have improved since the fall of 2016, when LPL explored strategic initiatives, Mr. Chubak noted. Reuters at the time reported that LPL was exploring a sale.

Since then, LPL has boosted its capacity to carry debt and completed the acquisition of the four National Planning Holdings broker-dealers, he wrote.

The NPH deal, which LPL said yesterday it had closed, "has served as a litmus test for a potential roll-up strategy as management has acknowledged that, given the fragmented nature of the independent market, pursuing additional growth via M&A represents a highly attractive use of capital," according to Mr. Chubak.

The six firms that make up the Cetera Financial Group broker-dealer network are: Cetera Advisor Networks, Cetera Advisors, Cetera Financial Institutions, Cetera Financial Specialists, First Allied Securities and Summit Financial Services Group. With close to 8,000 brokers and advisers, Cetera generated more than $1.6 billion in total revenue in 2016, according to InvestmentNews data.

A spokesman for LPL declined to discuss a possible merger.

"As a matter of policy, LPL does not comment on rumors or speculation," said company spokesman Jeff Mochal.

Two years ago, Cetera's parent company at the time, RCS Capital Corp., filed a prearranged Chapter 11 bankruptcy reorganization. Its stockholders were wiped out, and the firm was left heavily in debt.

The IBD network is now owned by RCS Capital's former first and second lien holders, which includes some of the most prominent names in private-equity finance and money management, including Fortress Investment Group, Carlyle Investment Management and Eaton Vance.

In 2016, Cetera hired Robert Moore, the former president of LPL Financial, to lead the firm. In turn, he has hired other former senior LPL executives and last year recruited star LPL broker Ron Carson to join Cetera, leaving some to wonder if Mr. Moore and his team would look at a merger with LPL in a less than favorable light.

Cetera's current owners would ignore such sentiment, said Mr. Chubak.

"Our view here is that Cetera investors, including private equity, will have the final say, and will prioritize the outcome which creates the most strategic value vs. the preferences of select senior Cetera personnel," he wrote.

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