Your IndustryMar 17 2021

Will private equity interest shake up the advice sector?

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Will private equity interest shake up the advice sector?

Now, from a certain perspective, financial advisers and platforms, even life offices, have suddenly become the place to be.

Hundreds of millions are being invested in the sector, the vast majority of which is coming from private equity.

Just last week, the platform Parmenion was sold to private equity business Preservation Capital Partners for £102m, while a bidding war over rival Nucleus was ultimately won by James Hay’s private equity owner Epiris.

Advice consolidators are also in the spotlight. At the start of March, Flexpoint Ford came back with an improved bid for AFH, to be voted on at the end of the month, after shareholders rejected its initial offer.

They’re very good at analysing markets and opportunities, and they see that the amount of money coming into financial services is huge Christian Kent, Houlihan Lokey

Many will be wondering what has prompted this flurry of interest, and whether it is a force for good. The consensus seems to be that, as professional investors, private equity companies know when a good opportunity to make money presents itself. Whether that translates into a good outcome for businesses and their clients is another question. Either way, some think private equity’s presence could reshape the financial advice industry long into the future.

Private equity businesses are set up to invest client assets – for institutions such as pension funds and family offices – with a very specific goal of making an exit several years down the line. This may be three, five or seven years, but the intention is to have an exit strategy, not to be a lifetime investor, and to achieve a return on their capital.

This may be through finding cost efficiencies, or bringing various companies together – be they adviser businesses or platforms – and achieving economies of scale, all done with varying degrees of quality.

Very often, they move from industry to industry, having invested and exited earlier opportunities. Evidently, such businesses now see an opportunity to do a deal in the financial services sector.

Andy Bell, chief executive of AJ Bell, who has kept an eye on other platforms being bought up, says: “Private equity goes where the action is and that action is in the platform space. Platforms are where the money’s going, and platforms control distribution – it's what the asset managers rely on.

“If you’re an advised customer or direct customer, or seeking help on an investment, you’re far more likely to use a platform than 10 years ago.

“10 years ago you would fill in a sheet from the Daily Mail and send in a cheque. People don’t do that now, they go into Hargreaves, or us, and they get an Isa online.”

Structural shift

A similar structural shift in financial advice models has drawn private equity into those businesses.

Mark Smith, co-founder of Truinvest, a new consolidator who spoke to private equity businesses when looking for a financial backer, says it is the post-Retail Distribution Review business model that is drawing attention.

“Since RDR, where firms were before being paid by commission, they now have ongoing remuneration, and it’s created really exciting recurring revenue, and that’s really attractive for anyone wanting to invest – you know that these recurring revenues are going to stick around for the long term.”

But it is also the shape of the advice industry that is focusing minds.

Christian Kent, managing director at Houlihan Lokey’s financial institutions group, says it is the traditional fragmentation of the market that is attracting the business.

He says: “The overarching theme is market fragmentation and the opportunity to invest in a platform and make a series of follow-on acquisitions.

“We’ve reached a point in the market where there are a number of small firms owned by individuals who have reached retirement age and are looking to monetise their back book of clients and they’re set to retire. 

“There are also the increased costs of regulation and oversight and increased cost of professional indemnity cover – a lot of these drivers are causing small firms to look to be acquired; private equity is looking to provide the capital to consolidate that position.”

New companies have been set up from scratch, specifically with that plan in mind, backed by private equity, often with experienced financial services executives at the helm.

For example, The Socium Group, headed by former Openwork chief executive Mary-Anne McIntyre, has backing from Penta Capital, launched as a business in 2019 and recently bought Beaufort.

Peter Mann, a former chief executive at Skandia, has recently launched a similar vehicle with backing from Apiary Capital.

The Covid-19 pandemic has accelerated this attention over the past 12 months. Kent says: “Some sectors have not been resilient to Covid, whereas the wealth management sector has been resilient. These periods of turbulence are a time when you want to talk to a financial adviser.”

Understanding retail

But there are many questions about what a private equity company brings, and whether they truly understand the retail financial services sector.

Some bring new insight from other sectors, as well as more modern technological skills; however, others simply see the upside potential without understanding the nuances of the adviser/client relationship.

Kent says one positive is that private equity businesses can bring expertise on digital marketing, helping advisers with one of the industry’s biggest issues: attracting new clients. John Cowan, chairman of Sesame Bankhall Group, says their experience outside financial services can bring new "discipline" and "fresh thinking".

He adds: “They’re very good at analysing markets and opportunities, and they see that the amount of money coming into financial services is huge.”

For now, the emphasis is on investment rather than cutting costs. Cowan says private equity will transform the financial advice sector, where many advisers are currently reliant on just 200-300 clients, paying via adviser charging.

“They have lived very well on that and have good earnings, but the regulator is saying ‘you need to broaden the market’, and that’s going to be the challenge financial advisers are faced with.

“Private equity has seen these advisers have focused on a small part of the population, and they think these [advisers] can be based on a wider part of the population.”

For example, private equity investors may see an adviser ignoring the next, less affluent generation of a wealthy client, who could provide the pipeline of business over the longer term.

Drawing on conversations he has had with chief executives involved with private equity, Cowan says: “In a small business, you don’t have the luxury of having a strategist in your business. If you have someone like private equity they are able to analyse the market and talk about the future, that’s gold dust to the business.”

However, not all potential private equity investors understand financial advice in the way they need to, according to Truinvest's Smith, who chose a family office as a backer.

He says: “We had discussions with a number of different partners, all of whom were quite excited. 

“Once we started to get into the detail they either hadn’t understood what we were trying to do and weren’t aligned, or they had a very strong view and wanted to change our planning strategy to their planning strategy.

“We spoke to one firm and they started to talk about a three-year exit plan, but when you’re building this from scratch you’re still putting it together.”

He adds: “If you look at a lot of firms, when they're looking to bring a business together, [they think] if you can move all of your clients from one proposition to another, you can become more profitable, but if you force advisers to change their investment proposition and tell them they have to do it, that’s when you get the risk of them leaving.”

A similar issue is at stake in the platform world.

Bell says: “You can’t just treat the advisers as a commodity that can be bought and sold. You have to win the hearts and minds of advisers.”

Business pressures

The platform brings its own pressures when a new owner decides to build a business by merging several others, as is the case with James Hay and Nucleus – owners Epiris are planning to merge operations between the two platforms, once the Nucleus deal goes through. Technological concerns are paramount.

Bell adds: “[Winning advisers over] can be difficult in a long-running replatforming or migration. What’s the first thing advisers think about [with a merger]? Their minds will go to: are they going to replatform? What’s the exit route? Will that exit route involve selling to another trade buyer?

“It’s just a really tough job to do a replatforming. Private equity view it a bit more dispassionately; that if you spend the money on doing it there’s still enough money to make it worth it.”

Ultimately, for many heads of listed businesses, finding a new owner may be forced upon them – shareholders may want cash out, or sell at least some of their stake. For privately held businesses seeking to realise value, a stock market flotation may not be the right approach, especially if the business is small.

But private equity businesses typically want to keep management in place, which is different from a trade sale, when the management team have a far less certain future.

Bill Vasilieff, chief executive of Novia, who has just sold the business to AnaCap Financial, says: “The people involved in private equity are very bright, and very, very able, and in cases of 100 per cent equity sale, there is an element of management incentive.”

Mitesh Sheth, chief executive of wealth manager consultancy Redington – which brought in Phoenix Equity Partners two years ago as a private equity backer so that founders could partially cash out – says that private equity directors have no interest in running a company. “They don’t believe they can run your business better than you can. Their expertise is capital and introductions and markets, and strategic relationships.”

He expects Phoenix to be around for some time, and does not have a finite time frame for when the company intends to exit.

The lessons from all those who have done successful deals, and had control over the process, is that it is important to take one’s time over selecting the right partner.

Sheth says: “I spent three years getting to know [Phoenix], and a big part of my understanding of them was wanting to be sure we had control of day-to-day management of the business.”

For financial advisers looking to do a deal, the message appears to be: take your time, and it may not be all bad.

Melanie Tringham is features editor of FTAdviser