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Getting the Price Right

Sam Oakes talks to Oliver (Ollie) Couchman, Head of Partnerships at Sanlam, about ways of maximising the value of an Advisory firm


Value is in the eyes of the beholder. Obvious, but no less true.Couchman

You might know a wealthy Saudi Arabian Oil Sheikh (or a neighbour) who already wants to invest in your business – but, barring this eventuality, we are talking about maximising the objective chances of meeting a higher valuation, when the marketing/networking moment arises.

Professional advisers (Solicitors, Corporate Finance Accountants) – and Lenders – will also rely on accepted metrics/objective assessments to validate the value that’s being discussed.

How do we make ourselves look as good as possible?


Getting the Metrics Right

Maximising embedded value is about:

  • Reducing (or certainly controlling) Costs;
  • Maximising Revenues;
  • Reducing Risks

These 3 steps are more likely to lead to ‘Sustainable’ profit which acquirers will pay more for – on the basic “P/E multiple” principle. Which says, that the price an acquirer pays will be a multiple of the average annualised earnings they anticipate. Mathematically, (and simply) this “p/e” ratio will give the number of ‘years’ it will take for the deal to pay for itself.

Some acquirers (much like those who buy Premier League football clubs) may buy for kudos, or other emotive reasons – but for most people acquiring a business, it’s the return that is important.

So the price someone is willing to pay for a business is linked to the belief in the return that the acquirer is likely to get over the journey of the investment.

When someone is conducting their review or ‘Due diligence’ into a vendor’s business, they will look for both the ‘Detractors’ and ‘Enhancers’ to the valuation. These will conveniently spin-off the same tripod of Cost, Revenue and Risk, that we have just examined.

Sanlam final logo blue

 

Enhancers and Detractors

So it’s important to take a long, cool, unsentimental look at your business before you begin the process. Here, for instance, are some of the key things a buyer will be looking for:


Sanlam diagram 1

And here are a few of the weaknesses that might count against you:


Sanlam diagram 2

 

Not to mention, of course, anything that increases Cost and Risk – or limits Revenue.

How Do We Market Ourselves For a Sale?

Acquirers will value based on the likelihood of a return – but, as with a house purchase, acquirers will be more likely to ‘take notice’ of the positive traits of a business if they are well-packaged and well-presented.

So – Management Information (MI) which is the right blend of concise summary – and – supporting information, is essential. A ‘Vendor’s pack’ – much in the way you would put your house on the market.

How Do We Make Ourselves Stand Out?

We live in an intangible financial services industry – however, if you can tell the personal story – and include what makes your business different – this will attract more attention. Testimonials or  citations from clients will help. So will a strong articulation of your brand. In a way that is meaningful and grabs belief & attention.  


What Sort of Deals Can be Done?

Some deals are done to “buy the client bank” – the asset of the business – and in old language, this was commonly done on “X times renewal”. Say, 3 times renewal.

Remember, no one “owns” clients! – only the right/opportunity to market clients. So this is about how loyal/attached the clients are to the vendor’s business – and, how likely this is to transfer forwards, with the transition to the new acquirer.

Since the language of RDR came in (meaning ‘adviser charging’), we widen ‘renewal’ to cover predictable, repeatable annual revenue which can be expected to come in each year.

(As long as any acquirer would expect (realistically) to collect the same predictable fees when they roll forwards the transaction, these can be included – in the way “renewal” was treated as a multiple).

Other Deals?

Other deals are more commonly done on a figure of “X times EBITDA” – (Earnings Before Interest, Tax Depreciation & Amortisation) – or the annualised earnings and picture of profit generation.

This seeks to find an annual figure for the ‘cash generation’ within the business – the purpose of EBITDA is to find a figure that can be more easily (fairly) compared and takes out any unusual / variable spending so the raw cash generation is shown. The strength of trading from normal operations.

A figure of 5-7 times EBITDA is common.

It is important to underline that an acquirer, as part of their due diligence would ‘discount’ their offer based on perceived risks – from regulatory risks through to financial performance, or other staffing risks.


How Is the Deal Completed?

What about the actual mechanics (method) of payment / in completing the deal?

This is a very common issue.

It is all about the negotiation. Although (often), if a vendor seeks a large (or even entire) payment of the deal being ‘upfront’ or immediate, then all the risk sits with the acquirer and the acquirer will discount their offer, based on this risk.

  • Fast Versus Slow

In other words, a vendor might find they achieve a lower lump-sum price if they wish to walk off to their early exit (from the business) in a matter of days or weeks.

For a pure client-bank purchase (say, at 3 times ‘renewal’), the vendor would be likely to receive an initial payment (of 1.5 times the renewal) – with the balancing payment (of another 1.5 times renewal) made when the client bank was successfully novated through to the acquirer.

For a going-concern business (not just a client bank sale), sale routes move through different spectrums, of the business owners ‘remaining on board’ – either going almost immediately (more rare) – or through an ‘earn-out’ period.

And whilst with earn-out an upfront % (of some 10 – 50%) is possible, the balance would then be earned over a 1-5 year period, post-deal. This moves the risk further toward the vendor, who would essentially have ‘targets’ to meet, in order to achieve the fullest valuation pot figure.

  • Business Plan

The way the earn-out deals are normally done is that a “business plan” is completed through dialogue between the vendor and the purchaser – and the business plan will show a certain predicted business ‘performance’ over the earn-out period.

If the business plan is ‘met’ – this would be calculated to bring in “£-X” amount of profit over the journey.  If this is then divided by (for example), the 3 year journey, we would get the annualised profit figure – and this can be given the “X times EBITDA” treatment.

Also, more detailed deals are also looked at, where the annualised profit (or even perhaps loss!) is more carefully predicted for each individual year on the journey – and then each of the (say) 3 years, is given a “2 times” EBITDA, which will also add up to a “6 x EBITDA”. A slightly sharper tool, which also allows the multiplication of losses!

This comes up with a ‘pot’ of deal money which is planned/anticipated.  If this pot was, say, £1 million, then the parties might agree a 20% initial up-front payment (£200,000) with the balance of £800,000 only being earned if the business plan comes to fruition. 

The above is unlikely to be an ‘all or nothing’ balancing payment – but there would be a proportionate lessening of the balancing payment where the business plan was proportionately unfulfilled.


How Can I Get My Business Ship Shape?

Firstly, we need to recognise the need for change. This is actually harder than people think.

Change in our Industry, is about our heart and our head.

When change happens, be it moving house or the retail purchase of a shiny iPod… M.R.I. scanning of our brain shows that it is emotion that drives our inclination to accept (or reject) the change presented before us. Not logic – but emotion. We are all humans, after all.

The following is a helpful ideogram that we use with Financial Advisory businesses:                                                                                                          

                       

Sanlam diagram 3An important lesson is to ensure inclusion & engagement (early on) from staff with allocated responsibilities for their own aspects of the ‘ship-shape’ change. People naturally prefer their own change ideas, over those given to them, from on high.

So, To The Practicalities

What is going to help a business enhance its readiness?

We begin with a list of the proven “Value Enhancers” which saw above – the factors that due-diligence professionals use whenever they value the monetary worth of Firms in our Industry. And which will in turn define what they are willing to pay for a particular business – based also, of course, on industry comparables.

A due-diligence professional will apply a collective of these criteria and will use a set of spreadsheets to apply scorings and “Monetary equivalence” calculations based on them.

They will further discount the valuation figures where they perceive uncertainty and risk (sitting either within the client bank or across the wider Firm’s governance). A due-diligence professional will not be swayed by emotional persuasions or standalone statements of belief! – but will ask for evidence and data that supports the case.           

How Can I Address These Points, Then?

By making a start” would be a common reply – and by receiving help and expertise.

For instance:

  • By applying the FCA’s strong Risk Profiling guidance to demonstrate a clear coverage of “Tolerance, Capacity and Goals” in client risk profiling.
  • By using the IFA’s own data and testing the “Flexing” of customer propositions in order to show how loyal the business is to the different segments declared. Is there discrete daylight between the propositions, or do they all morph into one another?
  • By testing the different remuneration models against a mapping of client case sizes and client need scenarios – to examine the satisfying of TCF as well as expected profit margins for the IFA business.
  • One area overlooked is the quality of client information – & “Contact” data. There is a habit in our Industry of clients going on marketing-suppression lists. This is something that could devalue a client book, as in the modern, digital era, if you can’t keep in touch and understand your clients’ preferences, you can struggle to add and deliver value.

The Regulatory Side of Things

Elements of regulatory uncertainty remain; and whilst changes to the urgency & nature of any change is relevant, a business implementing consistent, clean & de-risked processes (even outside of RDR) is a savvy one, for succession & competitive advantage. 

Richard Komarniski (“The Human Factors”) comments on “Distraction” and “A lack of focus” being the most common blockages to change – and whilst we all provide different quantities and qualities of guidance, the honest truth is that IFAs have much of the required ability & some (carefully apportioned) capacity to implement RDR change.

  • Mapping Advisory Time & Profitability

The following chart represents a Firm’s test of the average time spend (in hours) for different client case sizes. On simple mathematics, different remuneration charging leads to different profit margins (or losses). The empowerment this exercise offers the financial adviser is to add their own “hourly rate worth” and unique hourly spend data into their own calculations, to work out profit and loss.

The next step is to map a full spectrum of “Fit for purpose” Investment Solutions (from Full DFM, through Model Portfolios, OEICs, Index/Passive Funds/using an online Web/Portal) to ensure the Advisory Firm can offer robust advice, within a profitable framework.

 

 
  • Sanlam diagram 4

And Finally…

  • According to David A. Ricks “Blunders in International Business” – by far the most common reason for business goals failing is a lack of change – not too much change! Don’t be afraid to challenge yourself, and your assumptions.
  • Aim high – a changing business should result with empowered, able staff who have the skills to leave but the desire to stay.
  • An ideal purchase target is a company that has processes that are robust & scalable – but hard for other businesses to copy from the outside.

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