For those of us who have been in the wealth management industry for many years, the new reality of top advisers fleeing the wirehouses to go independent as opposed to the decades-long wirehouse to wirehouse "prisoner exchange" is as strange as Vietnam becoming a popular tourist destination. Yet, here we are.
There are many factors that account for this trend. Some are "push factors" that are driving advisers away from the wirehouses, such as annual payout changes, relentless reorganizations, and managing all advisers the same, regardless of compliance history, productivity or client satisfaction. Independence is attractive because it solves for these problems, for this aggravation.
Top candidates at wirehouses now are reluctant to move to another wirehouse because even with a big payday, moving from one large firm to another usually does not solve these "push" factors. More importantly, these traditional moves are increasingly harder to justify to clients as being better for them.
And these big paydays are far off their highs. In the halcyon days of the recruiting wars, top deals came close to 400%. That means a total package for a top-level adviser would be four times his or her annual revenue in the form of a forgivable loan. There were caveats, contractual obligations and hurdles, but the extended bull market of the past 10 years made it more likely that a larger percentage of advisers who took those deals met those conditions than at any other time in my 30-plus years in the industry.
Today, few firms are giving as much as 300%. Critics of these deals logically question how the recruiting firm would ever make its money back with even these types of multiples. In their latest quarterly earnings calls with analysts, wirehouse CEOs now proudly tout increased profits with more and more forgivable loans falling off their books.
The other significant driver of the independent movement is the ability to build equity in a business that can ultimately be sold. News of RIA sales in the trade press is at least as common as recruiting moves.
But the RIA world, always critical of the wirehouse prisoner exchange, ironically is now paying a similar, if not greater, multiple because of competition driving acquisition prices higher. The numbers are arrived at differently but the net result is about the same. So, if a $5 million-dollar-revenue RIA firm with 50% free cash flow sells for as much as eight times that cash flow, the total selling price will be $20 million. What a coincidence! It's the same as four times the revenue, derided by the RIA world as overpaying. Yes, the RIA acquirer will have similar caveats in terms of performance and not all the money is paid up front.
The top wirehouse teams are paying attention to the multiples. Not only does going independent solve the cultural issues that can make being a wirehouse adviser so unpleasant, the equity built into an adviser owned practice can be rewarded with a big payoff when the business is sold. Furthermore, the seller is taxed at capital gains rates, not as W2 income like a recruiting check.
Yet, I see a risk that the RIA buy/sell frenzy is mimicking the same troubling behavior of the decades old wirehouse prisoner exchange. Here are some things to consider:
1. Is the transaction good for the client? Of course, both buyer and seller want to make money. But the benefit to the clients whose successful transition is the key to a successful transaction is often unclear.
2. Are buyers overpaying? It's hard to imagine that the next decade will be as good for the wealth management industry as the decade since the financial crisis.
3. Is there a succession plan since the driver for the seller is often an end-of-career payday? Succession planning is the biggest challenge facing the industry over the next 10 years. RIA sales do not automatically address the retirements of a generation of advisers who have very personal relationships with their clients. If the clients flee after their adviser has retired, then the acquirer owns a business without clients.
The models change and the deal structures are different, but acquisitions are more like recruiting deals than the principals want to acknowledge: the deals that are not truly as good or better for clients and come without a succession plan in place are doomed to fail.
Danny Sarch is the founder and owner of Leitner Sarch Consultants, a wealth management recruiting firm based in White Plains, N.Y.