Brian Hamburger on RIA's Biggest M&A Mistakes

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This is Greg Bartolis for Barron's The Way Forward. My guest today is Brian Hamburger, the President and CEO of Market Counsel Consulting. Today we're going to talk about growing your business by making deals. Brian, welcome.

Hey, thanks, Greg. Appreciate you having me.

Absolutely. So let's start about talking about the state of play today with M&A. Just let's set the scene for listeners.

Happy to. Happy to. M&A seems to dominate headlines. It seems to be all over the inbox. And what we hear from advisors most often is this concept of FOMO, right? There's this fear of missing out. There's all this talk about this hot M&A market, record prices. And so should I be doing something? And should I be buying? Should I be selling? Interestingly, when you poll a room in a conference like this, right, at the Barron's Independent Summit, almost all the advisors you're going to poll are going to say that they are actively buying or they anticipate that they'd be buyers, not sellers. To me, what that tells you is that despite record valuations, the market still has room to grow because there are so many more buyers than there are sellers that are engaged. And but it certainly has generated and garnered an awful lot of interest over the last several years.

And as the pace has been just on and on, bigger, ever more, ever bigger. And do you still believe that it has legs or are you getting nervous about evaluations and deals?

So as a lawyer, I have the great benefit of not having to really project the potential run rate and the direction of the market. That said, I think that the number of deals that have been consummated over the years have been really minuscule compared to the number of advisors and practices that are out there. So if you— yes, if you look at it historically, the number of deals have been growing year over year. There's no doubt about that. But if you look at the number of deals compared to the number of advisors and practices, it seems really low compared to other industries. You know, we talk about this graying and this generational shift and how there's this great retirement that's been going on. But we don't see an awful lot of exits. And so on that basis, I do believe that there's room for a lot more deals. And on the basis of there being so many more buyers in every room that I seem to be in than sellers, I would think that the prices are apt to rise. That said, the only thing I'll temper that with is I think it's largely dependent on the market, right? Because what is the one factor that really plays important in an advisor's revenue mix? And it's what is the vector that that AUM is based upon. That's obviously subject to change.

What assumptions are buyers making right now vis-à-vis the Fed or general? I mean, if you can characterize it.

I think buyers are generally jubilant and they're looking more at recent historical growth rates than they are any other external risks. When I speak to them, they say, well, we price in those risks. Those risks haven't come to fruition in the last several years. So they're not necessarily priced into these deals. As we know, past performance is not necessarily an indication, but it's a pretty good tell.

And what can you tell me about acquihires?

You know, it's an interesting term and it seems to have been making its way around over the last several months. And I think when I hear the term acquihire, I think it's probably trying to get to The fact that we've always called acquisitions any type of inorganic growth that a firm engages in. So a firm sits there and says, hey, we're going to hire a team of individuals. Well, they call that an acquisition, even though it's not an acquisition in the legal sense. They— and that term covers making a minority or majority investment in a firm, and it covers buying a firm Wholesale. So I think acquihire is more of a generic term that recognizes sometimes it's an acquisition, sometimes it's a hire. Either way, we want to bring in this talent to augment the capabilities of our organization.

I guess also in the tech industry you have that term quite often too with deals.

Well, you do. And I think it's important that advisors don't go into the deal with, with a real predefined notion of what that deal ought to look like in the end. Uh, so many times we look at, uh, what some would look at as a traditional hire, but there's such a significant intangible value, there's such significant goodwill that we may indeed structure it as an acquisition, even if traditionally it would've been just an acquisition of talent. And so, uh, I think bringing in objective advisors, whether they be attorneys, accountants, I think really help flush out the ideal structure for any potential deal. And I really think deals win or lose based upon their structure.

Are there any trends you're seeing in how deals are manifested, who's buying, selling, or how they're being put together?

Yeah, I think there are. I think there's a lot more join opportunities out there. There's a lot more opportunities where advisors who thought they were looking for independence ended up finding what they were looking for in an existing firm. So I think that's pretty interesting. I think these minority deals are pretty interesting, right? The minority deals, you know, we're seeing grow at a faster pace than outright acquisitions. But, you know, I think that it's harder for advisors to really understand and demystify a minority deal. I think that quite often they go to sell, let's say, let's say 20% of their practice, and they could— let's just assume that they come to a fair agreement on what is that 20% worth. Well, all of a sudden we've got these minority investors coming in with outsized expectations and really demanding more of a deal than the 20% should have purchased them. I can give you some examples. We're seeing a lot of acquirers coming in with negative covenants or restrictions saying that they want to say on anyone who's being hired with a comp of over $100K, for example. We've seen restrictions that the existing owners can't change managing members or expel a bad actor without consent of the minority shareholder. We've seen requirements to use certain service providers, sometimes affiliated service providers, which bode well to the minority investor because they increase the margin on the deal. We've seen restrictions on changing corporate governance documents, can't acquire new businesses, make investments, borrow money. I mean, can't make capital calls. I mean, all sorts of restrictions that normally a 20% minority stake investor wouldn't be entitled to, but they're getting them. They're getting them because, you know, there's, there's a real good demand for someone coming in and taking a minority stake in a business.

For how long has this been going on? I mean, this dynamic you're describing where they're kind of encroaching further and just getting more creative, digging their hands into, you know, ever deeper. I assume it's been going on for a while. Or, but what can you speak about the trajectory of this?

I don't think it's been going on for a while. Like, I think that it's a 2 to 3 year phenomenon.

That recent?

Yeah. I think beforehand we did see minorities investing but it was normal, right?

Like a handshake, we got a deal, everything's understood and we're— not a handshake, but I mean, the terms are explicitly clear and there was no gamemanship or whatever.

Right. Or it was someone, you know, saying, hey, 25% and I get 25% of the stock, 25% of the votes. You know, here's the deal. It's nice and clean. And we saw that a lot where advisors wanted their clients to invest in their firm, some of their largest clients. So those deals continue. But what's come upon the last 2 to 3 years are these deals where, where there are serial investors who are coming in and making minority investment on a regular basis. I mean, some of them were— I should say it's rare not to see a right of first refusal on one of these deals. And so just imagine that, right? It's a throwaway term that most advisors just give the minority acquirer as a formality, basically. Yeah. And just think about deal 2, right? Deal 2. All of a sudden, they're going to sell the other 80% or 75% of the firm. And any potential acquirer is going to ask in their initial request, do you have the right to dispose of these assets? And they say, yes, but, right? It's yes, but I do need to run it through this party first because they have right of first refusal. That in and of itself will turn off a number of acquirers saying, I don't want my deal to basically be the benchmark for what you get from, from this other firm. And so they'll opt out of the bidding process. So with that one minority investor, you've reduced the aggregate value of the firm, arguably, unless you know that that's strategic capital and what you could specifically do with that capital.

I'm sure a lot of these sellers are aware of what you're talking about. I mean, it's— I'm sure this isn't a secret per se, but why do then so many continue to do what seems to be not in their interest?

It's the same reason why I look in the mirror and I see a really fit, you know, physically fit individual, right? Having an objective check is critical when you are the subject. And so keep in mind, advisors are looking at, you know, this is their baby, right? This is what they have cared for and cultivated.

So they'll see it in the best light at all times. They'll see what they want to see, right?

And if they see, you know, if they see a check with an awful lot of zeros to the right of a number, they tend to be swayed. Now, I don't think that they tend to be blinded by it. Most advisors keep their head about them. But there's also often a very significant disconnect between what the acquirer says and what the deal documents say. And unfortunately, we have to play the role as lawyer and to temper them and say, hey, I know they said that you would have complete autonomy after this deal.

Look at what's in print. However—

For some strange reason, we've got these 14 covenants that they've insisted on putting into these documents, right? So our job is to match up people's words with their actions, and that's not always easy.

Do you ever experience it where you'll bring this to clients' attention and they still kind of are not seeing, or they still defer to the, you know, presumed goodwill of the person making the investment? Like, I know, but I'm really, really sure, like, I really trust him and I don't think— I mean, You ever get those situations?

We call that falling in love. Right. And a long time ago, someone told me, never fall in love with a business deal. Never fall in love with real estate. Right. These are inanimate objects. And yeah, we get that all the time. But they'll say, but I trust them. Right. And we have the same objectives. Well, you don't have the same objectives. Right. You may have similar objectives. There may be a high degree of alignment, but during a deal, you sit on two sides of the table. You don't sit on the same side of the table. And there are some acquirers that try to negotiate by making it seem like you're sitting on the same side of the table. The best acquirers, I will tell you, the very best acquirers are the ones that say our interests are not completely aligned. And post-deal, we really want to make sure that our success is your success. But right now, you should go get your own independent counsel. That's what the best quality acquirers are doing.

Yeah, I mean, being very straight up, putting their cards on the table and not pretending it's kumbaya or whatever. It's like it's a deal and it's in a way a zero-sum game when you're negotiating terms and stuff. I mean, someone has the right to do ABC, the other person, party doesn't.

Well, but look, you know, they're the ones that are looking further downfield. They're the ones that know, hey, 2 to 3 years into it, if the seller has remorse, if the seller has any type of regret, they're going to exact punishment onto us, right? Because we're not, you know, aligned here. The best acquirers are looking further downfield and they want to know not just can we get to a deal, can we integrate, can we align our interests, can we really make sure that not just the advisor or the principal who's selling is satisfied, but all the other stakeholders, including the employees and including the clients are going to be interested in that deal.

There's no sign of this slowing down. This is very much of the moment right now.

Listen, I think it is of the moment. Seen trends, you know, stop and cease really quickly. And so I don't see signs of this slowing, and I'm certainly hoping that someone doesn't use this recording to show how wrong I was.

Well, it'll be on the internet, so anything's possible, right? Tell me, in terms of M&A, everyone's looking for talent. There just seems to be a talent shortage everywhere. And then particularly, I guess, what does it mean for top producers out there? I mean, just tell me about the market, how it's valuing it.

Yeah, I think it's actually interesting because if you look at all of the M&A studies that are out there, the most common reason cited for an acquisition is to bring talent into the firm. It's not to bring business assets into the firm or intellectual capital or business processes. It's bring talent. And so I think that's why a lot of advisors really don't lead with the deal. They want to know how to make it happen. And so I think the lesson there is what's of value is an advisor and their productivity and the relationship they have with their clients. And I think that's a really important end to keep in mind is that what you're essentially selling is the advisor's goodwill, right? The trust and the goodwill that they've developed with their clients over the years. That's not something that ought to go to the highest bidder necessarily, right? That's something that you want to find someone to be a caretaker for that trust and goodwill. And I don't mean to come off corny, and I'm not trying to say that money doesn't matter, but money isn't the only thing that matters. I have a unique perspective in speaking to people when they're considering starting a new firm and then when they're exiting their firm. And it's interesting how, you know, some of the most virtuous among them have very consistent views on putting the interests of their colleagues and their employees and the interests of clients ahead of their own. Not to say that they discard their own interests or they discount their own interests completely, but— and they continue with that throughout, all the way through exit. They run through the finish line with that same messaging. That person's not going to sell to the highest bidder because the highest bidder is likely someone who looks at that revenue and says, or the profits and says, we can make more money than they did. Right? We can run a more efficient practice. We can run with less people. We can use this advisor as a distribution point to distribute product or other services. Right? They just think they can do it better. That's why they're the highest bidder. Right? The laws of economics aren't suspended in the world of advisor M&A. I also find it interesting how few times advisors will apply their own perspective on securities valuation to this holding. Right? I mean, if you think of this business, this is their most concentrated securities holding, right? They own, call it 100% typically, maybe it's 50%. If you looked at their entire portfolio and you included this private security, which is their own business, it has an outsized valuation. And it's amazing that when we get down to deals, how all of their skills— and they've got a lot of skills in evaluating securities— how all of them tend to go out the window because they don't really draw the lines between what they're holding and, you know, their own capabilities.

And it's— but more specifically, do they overestimate the value of what they have or under? In which way are they going wrong in general?

I don't know if there's one answer or the other. Okay. I don't, I don't think that when I speak to most of them, they haven't applied the analysis. And so when I ask them about this, oh yeah, wait a minute, I know how to do this.

Right, right.

Okay.

So it's almost just like laziness. So they're shorthand looking at what a similar firm would fetch and as a multiple or what have you, or—

I just, I don't think it's laziness. I think they care so much about this asset that they suspend the logic and belief as to what it—

They're too close to it almost. They're too close to it to be proud. They are.

Yeah. Which is where objective advice really comes in. And I know that as the lawyers, it's obviously a bias of mine to make sure that there's an objective party in on the deal. But those are the deals that succeed, right? And when I say succeed, it's interesting. I don't mean those are the deals that go through and are consummated. Sometimes a deal succeeds because it fails, right? Some of the deals that advisors are most fortunate and most grateful for are the ones that we've advised them to walk away from.

Right?

And that's okay, right? Because you think about an advisor's own investing discipline, some of the best deals or the best stocks aren't the ones they bought, right? Or the ones that they either didn't buy or they didn't sell. Doing nothing is still an action when it comes to purchase and sale of securities.

What else can you tell me about anything high level important about M&A that maybe is not being reported about in the media that you think should be reported or that might be emerging that you think will be in the news, let's say in a year or so?

Well, I think, listen, I think employment transitions and hiring out of other firms is constantly evolving, and I think it's a fascinating area. We spend an outsized amount of time working with advisors who have identified a target that, you know, one or more folks on a team that they want to hire. And now it's time to assess a risk, develop a plan, and help implement the plan. And so, you know, we're spending more and more time in that area. I think the days of people making assumptions based upon what worked for someone else years ago, I think those days are generally over. I hope they're over. When we pull advisors, we do an after-action review, uh, and we, we try to figure out what they got right and what they got wrong coming into this thing, right? What effectively, what impact have we had? And, um, about three-quarters of the advisors we talked to, uh, had something wrong about how they could transition their business. Either their plans were taking on unnecessary risk, or interestingly enough, they were leaving chips on the table. And of those 3/4, it was the 3/4 who were actually about to take a more conservative approach to the departure than we were recommending. That's impossible to measure, right? How do you measure how much people left behind because they didn't know the answer, so they took a more conservative approach than what was otherwise necessary, and perhaps they didn't transition over as many assets as they could have? And so, I think there's a lot in this industry that we're not measuring effectively, and largely based upon forbearance. And I think I'd be curious to see how those trends play out over the next few years.

We're just about out of time, but I did want to ask you in the Barron's tradition for an actionable idea.

An actionable idea. Well, I shared an actionable idea during our session today. And the most actionable idea I can come up with on the fly was get your books in order. And I say that because so often we sit down at the time of a prospective deal, right? Whether it's an offer or otherwise, and the advisor reveals their books and they're a mess, right? And that's not the time to get them in order. If you want to give an acquirer confidence about what they're about to acquire, give them something that's familiar. And that means going to an accountant who's been here before, you know, someone who's been through deals and it's not, it's not foreign for them. Obviously working with, with legal counsel that has done that before. And while investment bankers play a pretty critical role and recruiters play a pretty critical role in this whole process, they're not objective.

Right.

And that's not to say that they're not valuable and that they're not worthwhile because they are. They're a critical component here, but they're not objective. And so going in with clean books that show 3 to 5 years of performance where someone can read them and really understand your business very quickly and going in with objective counsel, I think are the two most useful tools that an advisor can bring to bear to ensure that they're successful in this endeavor.

Great. Good piece of advice there. So thank you so much for joining us. Really appreciate it.

Thanks so much for having me, Greg. I really appreciate that.

Thank you. My guest has been Brian Hamburger. For more advisor-specific podcasts, please check out barons.com/podcast. For The Way Forward, I'm Greg Bartalus.

This podcast was brought to you by Wells Fargo Advisors. Looking for a firm your clients can't outgrow? Wells Fargo Advisors offers financial advisors full balance sheet solutions with wealth planning, investment products, banking, and lending that meet the needs of affluent to ultra-high net worth clients. Build your practice your way and on your schedule with independent and employee model options designed to meet your needs today and tomorrow. Learn more at joinwfadvisors.com.