Key Points to Understand While Buying or Selling a Firm
Last week, the Wealth Head of a Financial Services company (Rakesh – name changed), reached out to me to seek my inputs on an acquisition they were considering. The promoter of this firm knew me and had asked Rakesh to reach out as we had the right expertise, skills and experience in this space. More importantly they knew we would help them. Rakesh mentioned that they were considering a distributor who had Rs.400 Crore. He jumped directly at the valuations like most people do. He asked me about how they should structure the deal and how much they should pay for it. This post attempts to cover some of the important points to consider.
I must make an important point before I progress further in the post. While I have written on this topic before, this point is often misunderstood by most people. An ARN Change is not a Sale. Like I have mentioned before, your ARN is simply a role number in the system. It does not matter whether you are ARN -001 or 007. In this post we are simply covering the M&A model and not the collaboration model that is possible with a change of ARN (with everything else remaining the same).
I told Rakesh that the simple answer is “It Depends.” There are 50+ variables to consider here (Covering most or all is not the scope of this post, but I will touch upon a few key ones). First, there are a few critical questions to be asked. Ask yourself, “Why do you want to buy?” Write the answers down. You will be surprised to know that many buyers have not even articulated this with clarity besides buying revenue or AUM. On the other hand, ask the seller, “Why do you want to sell?” This is an extremely important question for a buyer to understand as this helps to determine the motivation, and objectives (emotional and rational) of the seller. This will also help you figure out the roadblocks you are likely to face during the process. You will also be surprised here to know that many sellers too have not thought about why they want to sell. Some just want to know the value they can get. Some just want a number to negotiate.
Some reasons for why you want to buy are that you get access to a certain geography, a particular niche of clients, access to expertise, or services that you can additionally offer to your clients. I asked Rakesh, “What is this purchase going to get you?” Are the answers better clients, a fantastic team, processes, technology, skills or simply AUM and revenue? If this is not done properly, someone else’s problem will become your problem. Thus, it’s critical to think through this. I also gave him an example of why we did not go ahead with a firm that had around Rs.500 Crore AUM. However, this is the subject of another post (and I will cover it shortly).
On the seller’s front, while it’s usually the price that is highlighted and spoken about, the most important thing is the way your clients and team will be treated and taken care of under the new ownership structure. How will things be addressed when you hit a wall or when there is a disagreement? Do they have a track record of caring for their partners and treating them with respect? Will your clients be treated in a world class way?
While it is tempting to go for the highest (unrealistic) bidder, I can guarantee you that this is a recipe for disaster. There are some players who just want to window dress and buy AUM in anticipation of an IPO. Beware of such players who are likely to squeeze your clients and team to cover the unrealistic pay-outs made. Also beware of firms where there is no clear value proposition. Their only value proposition seems to be distributing a tiny portion of their equity which feels nice, but it actually has no value on its own because no investments have been made by the firms whether in terms of exceptional people, processes, technology, and client experience. Such firms are also asset gatherers and are simply building their value by gathering AUM.
Now that you know the reason(s) why the seller wishes to sell, the second step is to understand that there are different types of deals/agreements depending on whether they want to continue working, slowly transition out of work over a period of time or move out immediately. I told Rakesh, unlike other industries, we are in the trust and relationship business. Personal Finance is more about Personal than it is about Finance. Hence it is extremely important that the seller continues to be with the firm for a well-defined period of time. Now this depends on the number of clients the firm has, the kind of client relationships and the scope of services this firm provides.
This period can be lower for a firm with only 30 odd clients but will need to be much higher when there are hundreds and thousands of clients. Again, there is no one answer but with hundreds of clients, this period must at least be 3 years. Clients need to know that the seller is not disappearing overnight and most importantly, they need to know that they will be getting to work with a world class firm that truly goes beyond their duty to care for their clients as they would care for their parents and best friends. Well, this is never the expectation in our industry but isn’t it high time that clients should expect this from their firms. And isn’t this the real benchmark that you as the buyer or seller need to set?
I told Rakesh that each seller is unique, just as each buyer is. You have to personalize the way you work with them based on what’s truly important to them. There is a lot of work and effort that needs to go in working with the seller’s team and clients. This is often underestimated but is also an important point that must be considered to arrive at the valuations. A few questions to think through:
• What is the value proposition made to the clients?
• What will it take to deliver the value proposition and service the incoming clients?
• Is there a team or is it just the founder(s)?
• What happens when they move out?
• Will you have to build a new team?
• Is the service high touch or low touch?
I end this post with a wonderful quote by Simon Sinek – Mergers and Acquisitions are like Marriages. If you wouldn’t marry someone for the ‘operational efficiencies’ they offer in running a household, then why would you do that with two companies with different unique cultures and identities for that reason?”
P.S. There are many other nuances and points that I could not cover in the post. But if you are interested to learn more about this, we shall be conducting a workshop on this in our HRAC – The Mastery School for Financial Professionals.