Rich and Co.

Reality Check: M and A Options for TPAs and RIAs

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Let us share our experience that:

  • You will receive the biggest total return from your lifetime investment in your business by maximizing the growth of the business for the next 3-5 years.
  • Especially with a retirement-centered practice and the zero-sum nature or retraction of that market, you will be paid for the most for future net revenues.
  • The business you have built is then a platform for proving out net revenue projections, increased hopefully, on which you will be paid. Since this is a “net” number, cost reductions help your payout as well.

For our clients, we insist that revenue numbers are normalized going back as far as possible. Of course, there are extrinsic effects on both past and future numbers. The future increased costs from new regulation are a factor as is the natural shrinking of the DB market. So too the abnormal disruption of the financial market meltdown and special restatement and one-time consulting fees are normalized.

Counter-balancing these effects are marketing efforts to optimize channels of distribution, efficiency and new products/services.

ESOP – Continuity Not Price May Be Optimized
Let us share some experience on an ESOP. It is actually best to assure management continuity and reward employees.  We have not seen it maximize the pay-out for the owner(s).  Additionally, it does burden the business and management with debt so usually demands cutbacks in expenses and compensation, immediate term.

An ESOP also may limit your flexibility in valuation since you are required to get an independent valuation, by the lender/bank, and limited to that number. Generally, that valuation is 1x revenue. an ESOP can pay a fair value (that is supportable to the DOL) for the business, but not a strategic value. Much of it comes down to learning the owner’s objectives. If it’s simply to get the highest price and the company is attractive, the ESOP may not be the best option.

Here is an example of a recent firm:

  • Valuation was $5mm
  • The owner funded a 30% payment, or let’s say $1.5mm
  • Debt service was $330k p/yr. for term of loan and include interest
  • This needed to be paid before additional payments to could be made
  • The owner also had to personally guarantee the debt
  • This created an extended payout period of 10-15 years.
  • So the business again is faced with needing growth to serve this debt. Growth or expense cuts.

This is not always optimal.

Bottom line, there appears to be no way to avoid funding growth and/or cutting expenses to optimize the payout to you.



Written by Rich and Co.

July 9, 2012 at 8:00 pm

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