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Private equity's buying and building for profit ‘not that straightforward’

Private equity's buying and building for profit ‘not that straightforward’
Credit: Mateusz Dach via Pexels

The UK wealth management industry is catching the attention of private equity businesses at home and in the US, with wealth management companies surpassing £1.3tn of investment assets at the end of 2021, according to data analysis service ComPeer.

In April, Foster Denovo became one of the latest advice businesses to receive funding, with an investment of up to £100mn from Crestline Investors, a Texas-based institutional investment management company.

The increased appetite from US private equity has led to increased competition for assets in the UK, says Howard Garland, a partner at Pollen Street Capital, which invested in Kingswood in 2019.

“US private equity… currently sees UK wealth management as better value than US equivalents, which have traded at premium valuations to the UK peer set,” adds Garland. 

An industry prime for private equity

Analysis by Dyer Baade & Company, a corporate finance boutique, counts 31 active private-equity-backed consolidators at the end of last year, 16 of which received investment in 2021.

“Advice firms have a very high percentage of recurring revenues,” says Daniel Baade, chief executive and co-founder of Dyer Baade & Company. “Typically, 70 to 80 per cent of an IFA’s revenue is recurring. This makes the revenue and cash flow very predictable, which is very valuable for a private equity firm.

“The industry is also incredibly fragmented, with about 5,000 FCA-registered firms. Most of these firms are small, they operate sub-scale and it makes sense to consolidate them.

“There’s also a market where you have a lot of willing sellers, so it’s not hard to find targets, which also makes it quite attractive.”

Three in five owners of financial planning companies are looking to exit the industry in the next three years, according to a survey by business broker Gunner & Co, with private equity companies pursuing ‘buy and build’ strategies in the financial advice industry not uncommon.

“Buying a few smaller businesses, putting them together into one larger business, and then having a value premium is a strategy that quite a few firms have done over the past few years,” says Baade. “It works, but with more private equity firms being in the sector, prices have also gone up for smaller businesses.”

Indeed, businesses are regularly selling for more than four times recurring income, up from an average of 3.4 times in 2021, according to Gunner & Co.

A traditionally loyal client base is another factor that has driven private equity interest in the financial advice industry, says Andy Strickland, senior investment director at Palatine, a private equity company that sold Wren Sterling in December.

“It’s a sector that requires considerable understanding however, given a complex and frequently changing regulatory environment.”

Strickland, who cites robust and thorough regulatory knowledge as absolutely paramount for any investor in the financial services sector, adds that the regulatory environment has created a lot of opportunities for consolidation, with many smaller businesses looking to join larger organisations that have better resources and better-invested compliance operations.