Where some might expect the pandemic to have slowed wealth management M&A activity – if not almost grind it to a complete halt – the opposite was in fact true. The sheer volume of deals covered by Portfolio Adviser over the past two years is, frankly, staggering.
While this is a global phenomenon, the UK market, in particular, has been attracting a lot of overseas interest given how attractively priced it is. It is also highly fragmented with an abundance of opportunity.
A report from corporate finance boutique Dyer Baade & Company, M&A 2022 – Outlook for the UK Wealth Management Industry, found that there are circa 5,000 firms in the UK target pool for would-be acquirers.
In addition to the domestic players looking to buy their peers, there are a record 31 private equity-backed consolidators operating in the UK that also want to add to their respective stables.
Of these, 22 are at the beginning of their acquisition cycle, the report found, meaning they still have big appetites.
All of this interest is driving up competition and, therefore, prices. So, what does this mean in an era where cheap money is becoming scarce, and the costs of borrowing and servicing debt are only going to rise?
Could this be the beginning of the long-expected slowdown in M&A activity?
See also: Bank of England votes 6-3 to deliver further 25bps rate hike
What are companies paying?
“Prices have been skyrocketing,” says Louise Jeffreys, managing director of M&A broker Gunner & Co. “The size of our market is extensive and we’re getting more and more competition for every vendor that we see come to market.
“Companies with profits in excess of £500,000, particularly those in excess of £1m, are highly competed over and, as a result, the multiples of adjusted Ebitda and income are really going up.”
On average, Jeffreys says her team has seen multiples go up one point this year. The average multiple was 6.5x over the past two years, according to Gunner & Co analysis. “Now, we’re seeing a lot more at 7.5x,” Jeffreys says.
While she dismisses recent rumours of offerings in the realm of 12x, Jeffreys says “there are some buyers going up to 10x, and that just wasn’t happening two to three years ago”.
“What we’re seeing at the moment, is lenders are not significantly changing the cost of debt. But we are seeing a real tightening on the criteria to qualify for debt.
“When it comes to an acquisition, typically, a lender will want to look at the combined Ebitda of the buyer with the target business integrated in. They will then lend a multiple against that. What I’m hearing is that lenders are being more prudent in how much they will lend against potential consolidated Ebitda.
“Banks are also slashing their investment growth expectations following the acquisition, leading them to be a lot more cautious in terms of what they are willing to lend,” Jeffreys adds.
Paid in installments
Dyer Baade & Company chief executive Daniel Baade says: “The reality is that most of the larger acquirers have significant dry powder. So, the interest rate change that we have seen over the last three to six months hasn’t affected their willingness to pay, or their financing costs.
“The other important factor, in this context, is that the majority of deals – not the mega ones, but the smaller-to-medium-sized ones – are not paid 100% on completion, usually there is a portion paid up front and the remainder is deferred.”
He added that the third consideration is, factoring in the cash generated by the business, the need for financing is not as high as might be expected.
Baade has not seen deals in the past three-to-six months undergo any significant changes, in terms of how they are structured, but he does expect that might start to appear in the next 12-24 months.
While the PE firms are sitting on sufficient cash and they are driven to acquire businesses “to get their balance sheets to grow”, Baade thinks little will change. But, when the market starts running out of steam in the next year or two, he expects there will be a “price correction”.
‘We don’t like debt’
One of the most prolific acquirers recently has been Martin Gilbert’s Assetco, which bought six firms in around 16 months. But the latest deal, which saw Edinburgh-based SVM Asset Management join its stable, took on a slightly different format.
As previously reported by Portfolio Adviser, the acquisition will be satisfied by the issuance of up to £9m worth of 1% fixed rate unsecured convertible loan notes in Assetco. A further £1.7m in cash will be paid on completion.
All of the previous acquisitions were funded using cash and the issuance of new shares.
Assetco chief executive Campbell Fleming (pictured) says the structure of the deal was specific to that particular acquisition and it was done because it was “the most beneficial for the owners of SVM”.
“In terms of us going forward, we prefer to do things by way of issuance or with equity. One of the reasons we decided to go the listed route was so we would have currency and we could use the shares.
“And that has proven to be pretty attractive to many people where our sweet spot is at the moment. Namely investment-led, active management companies that have gotten to a certain point that need help to go further.
“They want a capital event, we can give them liquidity and listed shares, along with capital backing.”
Fleming acknowledges that debt is used “effectively in the private market space to gear returns”, but adds the Assetco team “will almost definitely avoid [using it]”.
“We don’t like it. We will predominately do things using our equity and will always use a small component of cash because we need to buy the cash that’s in the company for regulatory and working capital,” he adds.
But where would-be buyers don’t have the luxury of the Assetco approach, Fleming does expect there to be a lot more focus on the acquisition price.
“Before, people may have been prepared to be less vigilant on the overall price, I think now you’ll get a tightening of the spread.”
Writing on the wall but we’re not there yet
The factors driving the almost gravity-defying UK wealth market M&A have not yet run their course, meaning that a substantive change is unlikely in 2022 and, if Baade is correct, not before H2 2023 – at the earliest.
The UK is still cheap, there is an abundance of acquisition targets and access to reasonably-priced money has not yet evaporated.
Before too long, however, the industry could look remarkably different, as more and more players are scooped up by rivals. Given its fragmented nature, this is arguably not bad for the wealth management sector.
But, as Gunner & Co’s Jeffreys’ points out, the part of the converation that is not being put front and centre – as it ought to be – is what happens once the deal is done.
“One of the things we talk about as dealmakers is, with a transaction, there is a constant magnifying glass on the deal, the details and the legal contracts. While forgetting the really important discussions about client integration, office locations, the client experience, and so on.
“All of the focus is on the wedding and not on the marriage. What happens after the deal is the most important parts,” she adds.