Rob Stevenson – October 2019
There are a growing number of advice firm owners, who see an opportunity to grow exponentially. Indeed, the word ‘scale’ was one of the buzzwords for this conference season. For clarity, I’m not referring to a new website, recruitment, new offices or even the acquisition of another firm per se. I’m referring to a commitment to grow a firm inorganically. To identify the points of leverage in a business and to engineer structures that help drive top line growth and enable the firm to profitably satisfy the resulting increase in demand without excessive disruption, or additional short-term capital injections.
And the issue of capital is critical. In order to create exponential growth, you are highly likely to need funding. If you own or manage a financial advice business, this will not be a familiar process, given that professional services firms are almost exclusively cashflow businesses, rarely requiring significant long or indeed short-term capital. If, however, you do need capital (an acquisition is a classic situation where this is the case) one of the first questions to consider is debt or equity finance. In theory, a business can be funded either way (or a combination of the two), but there are key differences. Use debt and you must repay it (annoying right), use equity finance and you’re likely to seed some control as investors will need an entry point, an ongoing return on capital and an exit at a multiple of what they put in.
Most of the equity finance that exists in the UK financial advice sector, resides in IFA consolidation businesses. These firms have a significant finance requirement and professional investors are happy to fund the business model. The fact that professional investors demand shareholder value above all else, also explains why the predominant consolidator operating model is vertical integration (VI). If we had an efficient market for financial advice in the UK, informed clients may well demand more of the benefit of VI, but until that happens it remains favourite driver of returns for investors.
The equity gap is also a consideration for financial advice firms. When raising finance, the size of the investment is important. At the bottom end of the scale, family, friends and business angels are active. For reasons of risk, tax and so on, these sources of capital dry up at around £250,000 and there’s precious little to work with until you hit the venture capital and/or private equity markets, who invest from funds, where the cost of each transaction (and several other factors besides), mean they will generally only consider larger deals (think say £2m plus). They are also keen to invest in a business model that requires additional debt finance, which they will provide for a fee, so they need strong cashflow with which to service increased debt.
Financial advice firms generally don’t need £2m plus of equity finance (most still have a turnover lower than this figure), can’t demonstrate a requirement for excess debt finance and would rather avoid a VI operating model for the sake of increased revenue generation. So that leaves debt finance and that’s where we have had a significant challenge over the last decade. Few debt providers have been willing to consider lending to IFA firms and the kind of human relationships that used to help get one-off decisions made, have also been largely ironed out of the banking system in recent years.
The good news is, this situation is finally changing. A few years ago, I came across a firm called Vertus Capital. Several people had mentioned them to me (and their collaboration with Transact), but it was only when someone I was chatting to at Celtic Manor, told me his firm had just acquired another and paid some cash up front. Proof of concept box ticked, I contacted Matt and we started talking about the opportunity and what needed to be done. Since then he has completed a significant number of transactions. What’s more, he has helped those firms that were selling to prioritise the welfare of their clients and secure a good deal in the process.
A few months back they secured an institutional investor in TruFin plc and working with James van den Bergh and his team, last week they secured further senior debt from an institutional source. This gives them enough capital to service their growing pipeline of transactions, as firms discover the possibility of selling their firm to a like-minded buyer. While Vertus are the first, I’m quite sure they won’t be the last, as the UK financial advice sector continues to mature.
Last year, Matt published a paper called ‘The flow of capital in the UK financial advice market’ and you can download from their site here http://www.vertuscapital.co.uk/introducing-our-capital-discussion-paper/ It’s an interesting read and positions the need for debt finance and provides some useful pointers when considering this challenge, particularly with reference to financing acquisitions.
A few weeks ago, the PFS announced that it had collaborated with SJP to create a new qualification, unique to SJP. A cursory glance at Twitter suggested that advisers were ‘up in arms’ about this. Keyboards across the country took a pounding as the aggrieved vented their anger. Now the dust has settled a little, perhaps some individuals capable of scaling their firms and taking on the likes of SJP, should consider taking on the challenge. We’re ready when you are.
Full disclosure, I’ve worked with Matt and the team at Vertus Capital on several projects, including collaborating on some of the content on their website, so we know each other well.