What’s the future for retirement plan adviser M&A?

The COVID-19 crisis will change the defined-contribution adviser industry in many ways, but perhaps the most immediate will be the hot mergers and acquisitions market. Valuations have peaked and will be lower for at least for several years, and deal flow will slow.

Are deals still happening in this environment? And are retirement plan advisers still likely to sell?

“Deals are still getting done,” said Dick Darian, founder of the Wise Rhino Group, an RPA M&A advisory firm. RPAs are still calling, “but [deals] are being pushed out one to two months, and buyers are slowing down their activity. There will be an increase in the use of escrow accounts over a one- or two-year period, as opposed to full up-front guarantees, to allow both sides to get the right deal.”

Just as now is not the best time to be prospecting for new clients, it is not the ideal time for RPAs to sell or even go to market. Once the crisis subsides, the factors that drove RPAs to consider selling their practices will only increase, even as valuations rationalize.

“Selling a retirement advisory business has been less about the money and more about the need for a new model,” Darian said. “And although there are too many unknowns to determine the exact extent valuations will be impacted, their direction will most likely be lower.”

Before the crisis, it was clearly a sellers’ market. Many of the 14 aggregators competed with each other on every deal, driving valuations sky high – in many cases more than 10 times earnings before interest, tax, depreciation and amortization.

New benefits firm backed by private equity were emerging. Those buyers’ valuations were even higher, though they counted on cross-selling to accelerate growth and efficiencies to boost profits.

It’s too soon to call it a buyers’ market, but RPA M&A is trending in that direction, Darian said.

“Buyers are evaluating how the crisis will affect their businesses,” he said. “Their own valuations may be lower, slowing the pace of deals.” Those same potential buyers are also busy focusing on integrating their newly acquired retirement practices, thus “taking longer to conduct due diligence on selective firms.”

The factors that drove many RPAs to market have been exacerbated by the COVID-19 crisis. Case in point: Larger firms now have as many as 20 people focused on supporting clients through the crisis, including through webinars and websites that are updated regularly.

Increasingly, it will be harder for smaller regional firms, even those with relatively strong books of business, to compete. Well-financed national firms can deliver higher levels of service, augmented by a local presence. Not only is their technology more robust and integrated, national firms have greater leverage with providers to get preferential pricing. They also have scale, allowing them to shift from asset-based plan level fees to participant- and activity-based flat fees.

And age matters. Many RPAs are older, with no near-term viable succession plan. Some might not have the time to wait until valuations increase.

The crisis will accelerate what is the beginning of the maturation and consolidation of the RPA market that, according to Wise Rhino, includes three major groups:
1.   14 national aggregators.
2.   60 large regional firms, plus 600 practices with at least $1 million in revenue.
3.   6,000 firms, including almost 20,000 advisers, that receive at least 50% of their revenue from DC plans.

There are also more than 100,000 financial advisers estimated to have at least one DC plan under management.

Aggregators are focused on the larger RPAs, hoping to create seven to nine regional hubs. That is akin to what many did with their benefits practices – and those practices in turn could look to buy or partner with the smaller firms. And smaller firms they acquire would look to buy the few plans from the roughly 100,000 wealth managers, or perhaps partner with them. In other words, the bigger fish eat the smaller ones.

The great RPA consolidation will be played out over the next five to 10 years as advisers, providers and broker-dealers figure out how to monetize relationships with more than 100 million DC participants – a base that is expected to keep growing. To do that, firms will have to harness the combined power of people, process, technology and data.

After the crisis subsides, smart buyers will likely continue to buy RPA practices. That will include benefit and property & casualty insurance companies that pick up practices at lower valuations, and at a slower pace.

Baron Rothschild, head of the eponymous banking empire that made a fortune acquiring property after Napoleon's defeat at Waterloo in 1815 and the ensuing panic, once said, “The time to buy is when there’s blood on the street.” 

[More: How the COVID-19 crisis is affecting 401(k) sales]

Fred Barstein is founder and CEO of The Retirement Advisor University and The Plan Sponsor University. He is also a contributing editor for InvestmentNews’​ Retirement Plan Adviser newsletter.