The widely anticipated restructuring of the IFA landscape ahead of the implementation of the retail distribution review – driven by increased capital requirements, adviser qualifications and changes to commission-driven models – coupled with the significant number of players in the market, gives rise to substantial consolidation opportunities. This makes the sector particularly attractive to private equity investors interested in following a buy-and-build strategy.
Following a period of low investment activity as a result of the lack of available debt finance and the need to focus on existing highly leveraged portfolios, private equity firms are now actively seeking out opportunities in financial services. For many, the IFA sector is of particular interest.
This interest is not new. Several years ago, Barclays Private Equity acquired Financial Options and Momentum, both of which were successfully exited. In 2003, Palamon Capital Partners identified that significant changes under way in the IFA industry would open up opportunities for market consolidation.
The purchase of John Scott & Partners formed the first part of a buy-and-build strategy that led to further buyouts, including Towry Law in 2006 and, most recently, US stockbroker Edward Jones’ UK IFA operations in 2009, establishing the group as one of the biggest in the UK.
The success of Towry Law to date has fuelled the appetite of private equity in the sector and its plans to float, possibly next year, will cement this interest, if successful.
The key challenges for private equity are to find the right management team to back and the right business to act as a platform for consolidation in the sector. However, private equity firms are more willing to make concessions and start with a smaller initial investment than would normally be the case in order to find the best match. What does the right platform look like?
First, private equity will back a management team that can deliver the growth story. A sale to private equity is not necessarily an opportunity for the continuing management shareholders to cash out and private equity will typically look to management to roll over the majority of their investment aligning interests to build capital value together.
Second, the right business model that will be able to meet RDR requirements with a fee-based/funds under management model, delivering high quality, stable, recurring revenues with appropriately qualified employed advisers that will generate capital value rather than short-term commission revenues.
Third, many firms seek to build the right model but fail to deliver sustainable profits.
Finally, private equity will look for a strong regulatory and compliance track record and will be extremely cautious in its approach to due diligence, both in review of the historic compliance record of a business and the strength of its internal compliance controls and procedures.
Richard Clarke is a partner in KPMG’s corporate finance practice