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Understanding M&A And Current Valuations

 

Bruce Cameron is the co-founder of Brookshire Global Advisors, and he leads the firm's wealth management practice. He's advised on a wide range of M&A transactions in the real estate, mutual fund and institutional sectors. In his remarks, he'll share an overview of the industry and some insights into today's evaluations.

 

Thank you. It's a pleasure to be here. I thought I'd talk a little bit about what's going on in the M&A world. I would be remiss if I didn't tell you that back in March and April I wasn't sure there was going to be a lot of M&A to talk about at this point in the year. But the world has evolved fairly quickly and it is as robust as we've seen in a long time, so a testament to the economy and to the demand to this industry.

 

As we look at what's driving a lot of the activity in the marketplace right now, there are a number of different themes that are going on. But I'd certainly say one that has become very prominent over the last few years is the need for scale. It used to be that firms differentiated themselves based on their expertise, unique special approaches were appreciated when this was largely an institutional world. Special managers, people would seek them out and that was kind of part of the game was to find the gem out there that no one else had found. But in a world where people are much more sensitive about making sure they don't make mistakes were perhaps as Warren suggested the difference between different players is harder to define. Buyers and investors tend to be looking for things that have all the pieces in place. So we find whether it's in the wealth management side, the mutual fund side or the institutional that scale is becoming more important.

 

It's useful in terms of having the range of services and capabilities. We've worked with a large multifamily office and the founder of that business said of the ten things we need to do to wow, we probably do seven very well. But there are three we could improve. I won't tell that to the public, but that's sort of the perspective. He ended up merging with another firm in part because that helped bring those other capabilities. We see organizations that now need capital in terms of the way they build their business. Historically this is a business that is capital-light. But as you see, some of the institutional players, particularly in the alternative sector, where they happen to put in co-invest capital or seed funds, having capital available is important as well.

 

You think about just the process of running businesses, means that it's necessary to have infrastructure, to have management team, to have compliance regulation and all that is expense and it is sort of a fixed expense and a large infrastructure and so organizations look to sort of leverage off of that by getting larger. The whole need for scale is important. Lastly, and in my opinion perhaps most importantly, since this is an industry that is incredibly as we've already noted competitive in attracting and retaining people, it is important to have opportunity in these businesses, be able to pay them well to give them a chance to extend their careers and things like that. And for that, often it is the ability to make sure you're generating enough cashflow to pay those people and give them a view of how they can keep growing.

 

That is certainly one big aspect of what's going on. We see a demand for alternative products. Certainly a number of the larger players have been trying to add on capabilities in the alternative world. We see that a lot in terms of the real estate sector infrastructure, but there are others as well. The global aspect of the world has perhaps reduced in importance for the last eight or nine months when it's been harder to travel. But still that is an aspect as people are trying to make sure that they're able to distribute their product or generate capital from investors in multiple markets. And so we see a number of organizations looking to get access to, whether it's investment capabilities or investor base in different markets.

 

One of the last things, certainly not the least, is the whole technology aspect of the market and the way that's been evolving. Whether it ranges from being able to add overlay capabilities or specialty investment products, you think about the recent merger with Morgan Stanley and Eaton Vance and part of the argument is that they were looking for what Parametric brought to bear there in terms of their overlay capabilities, and that's born out of some of the technology that Parametric had been developing over time.

 

The ability to deliver products or investment services through tech-enabled platforms, we find a lot of the distribution players are focused more in their tech stack now as a way to differentiate themselves and their distribution for it. So there's a range of different aspects here, but certainly we find that all those things are causing people to look at acquisitions as a way to accomplish some of their goals.

 

The next slide gives you a little bit of a sense of sort of the history of what's gone on from our view in terms of the market and going back to 2007, and a couple of things you might take away from this. We view it as there were certain themes at points in time over the last ten years or so. It's certainly there was an era of during the financial crisis back in 2009 of players coming together and going through difficult periods, if you think about the acquisition of Barclays Global by BlackRock was sort of a result of that downturn in the market. And then as people started trying to expand geographically, but I think what you might take away from this as well is it's been a fairly consistent level of activity in the marketplace in any given year. We may have slightly more or less. The assets sort of moving can vary quickly if there's a large transaction. But it's a fairly active and consistent marketplace.

 

You can see that it trended up a little bit in the last couple of years and part of what you have to look at is whether we at Berkshire are capturing every deal. I think Fidelity does a list where they think there's even more transactions if you're talking about very small transactions or practices. In any event it's picked up. The other thing you can see there is sort of the trend in valuation and we tend to focus on multiples of EBITA. And you see that it sort of went up. It was high back in 2007 and actually stayed reasonably high through the crisis, which might arguably make no sense. To a certain degree, transactions were adjusted in terms of pricing to reflect some normalization of where people expected the businesses to operate even if they were running below that at that point in time.

 

The multiples sort of dropped off a little bit as we came out of that, again in part because buyers probably were a little sensitive about whether the world was fully going to turn around, even as the businesses started to leverage off at the upturn in the market and their own new flows. We saw that the multiples started to run up a little bit towards the last couple of years. Right now they're actually running relatively high as well. I think that's again in part because of normalization where people expect things to come back. I'd say one other aspect that has driven that to a certain degree is an evolution over time of a greater focus on ability to get efficiencies in the marketplace. If I go back 20 years, most transactions were done based on the opportunity to grow and leverage the business or to increase it.

 

Increase, as there is this consolidation there's more of can we cut out expenses, are there things we can do to be more efficient, and that ends up being some expense savings that play into it, and so that tends to drive up the multiple to the seller from the buyer's perspective, the multiple's lower because they expect so many sufficiencies.

 

In the next slide, I'll just try to give you a little bit of a sense of the mix of players and transactions that are occurring, and so we tend to look at this in terms of wealth managers, traditional, which include traditional mutual fund groups, and then alternative products. You can see that in terms of the number of transactions, wealth managers are almost always the most active sector, certainly in recent years, and there's been a lot going on in the alternative sector in terms of the assets. It tends to be more the traditional and the alternatives that are the larger ones that wealth management deals tend to be smaller. That stands to reason.

 

On the upper right we try to give a little bit of a sense of the relative multiples, while in the previous slide gave you a sense of the medians, this gives you a little bit of sense of the volatility around that so you can see the 25 percent and 75 percent band there. It's been fairly consistent. I think people ask me on a fairly regular basis whether in difficult times whether multiples come down dramatically and in good times they go up. There's certainly an element of higher evaluation and good times, but these businesses have tended to trade at a fairly consistent range over time, so that's worth considering.

 

This slide gives you a little bit of a sense in terms of we view it as we talked about the consolidation and a little bit of what's going on. On the right there, we have some of the examples of some of the players, all of which I'm sure you remember and can think about is just there are a lot of different players that have sort of consolidated over the years and sometimes when the acquired firm is the name that carries on in the marketplace it may be the better-known name or the more logical name to carry forward. But there has been a fair amount of consolidation I would say from my selfish perspective. Thankfully, people are constantly starting at new firms. There seems to be an endless array of organizations out there, but these are some pretty major players that have traded and consolidated over the last two years and we expect that to continue.

 

It's driven by some of the things I mentioned on the first slide. Certainly cost increases play into this, decompression does. There's an element that plays into this as well that is related to the psychology of these firms. And we find that with a lot of the larger players they struggle with the culture, the compensation arrangements, the ownership arrangements that are necessary in this. And so sometimes our sense is that certain large organizations that may have a fairly solid business just struggle with the ability to deal with the personalities involved in here with the special treatment that's often demanded to succeed and firms that are focused on this that have decided they're going to be in the business are better able to compete on that.

 

That's a side aspect of this where it's hard to put a percentage on that, but I think that certainly as you look at some of these players, I look at Colonial First State back in Australia that I think struggled with some of the special compensation arrangements. They had problems themselves, but that has driven some of the change there, but there are others like that as well. GE, you can argue about all the reasons for that, but in part to keep that separate from the rest of GE was something that they struggled with.

 

Fee compression, this slide gives a little bit of a sense of what's going on. As I look at this and walk through it, it's not like it's dramatic in one sense. But what's gone on is that in most cases other than active ETFs, fees over the last five or six years have been gradually coming down. Not huge but if you're going from in terms of the US equity markets you're coming down from 52 or so to 50 basis points on average. Not huge, but that's coming basically off the bottom line when you think about it, and in a context of the fact that expenses and other things are going up, it's just one more pressure point in the marketplace. So we watch that. I've been thankful that it has been frankly less than some people argued it would be, but it is certainly a factor in terms of driving some of the people to move towards exiting or selling.

 

Next slide relates to manager concentration in the fund business. And again no surprise to anyone, but this is another aspect of business certainly in the fund area, which we find causes some organizations to conclude that it's a tough fight. The top ten managers in the fund business for a very high percentage of the total back in '14. It's even higher as we go into '20. In the ETF market, frankly the top five have been very consistently large. It seems like actually some people are making a little progress there at the other end and there have been positive flows for ETF players in general. But if you're not in the top five it's tough to break into that, and so we find that some of the groups just conclude they're not going to get there and look at what they ought to do.

 

This slide has a couple of take aways. Certainly there have been a couple of areas of focus in terms of acquisition searches and people trying to grow. So one has certainly been a focus on small cap or specialty types of products where there has been an ability to differentiate. So we've seen a number of searches, a number of transactions pursuing small cap managers. There's been a high demand for fixed income. That's been an area that's had continuous interest throughout this marketplace. So whether it's in specialized credit types of managers, you can see a few of the transactions that have gone on there in terms of Blackstone or Brookfield diversifying or adding onto their already significant capabilities, as well as fixed income.

 

There we've seen actually quite a bit of interest in muni-bond managers as an attractive segment to the marketplace. So things like that, that are harder to index have been areas that have been a fairly attractive type of sector. We expect there will be a fair amount of interest in global. There has been sort of a continuing interest. There just haven't been that many that have been available, but that's an area that we expect there will be activity in as well.

 

As I think about the key aspects of this market and what they mean, size, is fundamental in terms of this business. It used to be that I thought size was the enemy of a lot of these organizations, but it's really the ability to withstand the changes in the marketplace and to deal with the difficulties are important. As I said before, the ability to attract and retain people is also a key factor in this. We're also seeing that it is for a lot of them the ability to control some of their expenses as an aspect that they benefit from in terms of the size.

 

Another aspect that is important in all this is just in terms of transactions we're finding that it's difficult to do transactions when performance is week. There's basically too much risk, certainly in the fund arena, but even on the institutional side when performance is low to do transactions. It just wakes up clients who might be thinking about doing something to pursue it at that point in time. So that's a consideration in terms of timing in this marketplace and in terms of the demand. Another aspect that we think about is what are the metrics in terms of valuation in terms of driving value. And certainly growth has been a key factor, but at this point it is also a fair amount of what sorts of ability is there to adjust expenses in these businesses and whether that's cutting staff, whether that's leveraging your distribution – those are the sorts of things that a lot of the larger organizations are looking at fairly extensively as they look at how they pursue or how they consider doing acquisitions.

 

We expect that there's going to be continuing activity in the sector, a lot of it. But I guess one of the things that we're always looking for is there's something that's going to drive this activity and there's been consolidation for a long time and is this something that's going to push everybody over the edge or not. And that continues to be – there's no bright line out there, but the pressure on people is causing people at various points in their career to continue to think about this. It's an active market and I have no reason to think that that's likely to change in the very near term. I have no reason to think that pricing is going to change dramatically in the near term. But for each organization they sort of come to their own conclusions about when they want to consider that.

 

Q&A

 

Did the acquisition of Oppenheimer by Invesco improve their competitiveness, or are they just another big average firm?

It's a very interesting point. Part of the dynamic there I think was that Mass Mutual had concluded that they didn't want to really be on the equity side of the marketplace as much. They are focusing more their attention on fixed and alternatives. And so I think part of it was driven by their interest in getting out. I think from Invesco's perspective, they've added a considerable amount of assets and so they've been able to leverage their platform a little bit more. Have they upgraded their skillset? I think they'd argue to some degree they've added some capabilities that perhaps they didn't have before. But I wouldn't want to tell you that I think they've transformed their organization as a result of that.

 

How much has the limitation on travel had on global deals?

I think it's caused some slow-down I think in the context of our own business, one of our partners in London, which is very pleased we sold a real estate asset manager in Europe and that was done all virtually. People never met. On the other hand, I know we have several transactions and I know of others that don't involve us where people have put them on hold because they're sensitive about whether they can visit with people and understand, get a sense of the culture. I've been wrong. I'm first to admit it. I would have said six months ago that people won't do deals without meeting each other in person and that is clearly – I have been proven by our own firm, as well as others, that that is not necessarily true.

I think there is a preference for that, so I think that we've had people try to do meetings – one of my clients is doing one today where they're meeting socially distanced to try and accomplish that. But that tends to be domestic. The international side is a little harder to accomplish. So my sense is that there's annulment of each of the different economies is reacting differently to the whole COVID event and what it's meant to their economies. But it has certainly slowed things down. I don't think it has put an end to it.

 

What do I think about the Vance merger and how that will play out?

It's going be interesting. I think part of this was probably driven by the fact that the senior management at Eaton Vance, Tom Faust and Laurie were getting to a stage where they're both getting close to retirement, so that probably played out a little bit. I think Brian Langstraat was not – I don't know whether he wants to run it or not. That was the other question. But Parametric will get an even bigger play at Morgan Stanley, which I think was the key reason why they wanted to buy into it. I think Morgan Stanley's been pretty smart about how they've been transforming their business.

 

I came originally from a brokerage firm and so I have probably a little bit of cynicism about the brokerage mentality, but Morgan Stanley has taken some real steps to diversify their business and to build out their asset management business and seem to have left the organizations they have acquired not alone, but they've been supportive of them as opposed to interfering. And so whereas I might have bet against them several years ago, I'd probably bet that they will do a good job of supporting that and to helping that build out.

 

How are you defining alternative?

That's a fair question and probably one we could spend a great part of the afternoon on. But I would think part of that is just we tend to think of it as typically other sorts of non-public market types of areas. I tend to think of it as private equity, infrastructure management, real estate, hedge funds I suppose, although I don't consider that as prominent in that sector anymore. Some of the special credit managers, the non-public credit managers, so things along those lines is I guess how I tend to think of it. I understand you could argue that there are other definitions around that.

 

What are the consolidation trends for smaller boutique managers in contrast to the mega mergers?

That continues to go on and I think there's a lot of interest in boutique managers, and that comes from a variety of different channels. So see, some of the larger organizations I said who are trying to add special capabilities and so they look at their specialty like smoke app or other particular sector expertise. That's one of the ways that some of the larger firms are trying to differentiate themselves by having some specialty capabilities. So I think the demand for that remains prominent. There has been a pretty strong demand by some of the multi boutiques as well – AMG and UAM, Brightsphere were prominent in those. Several of the Australian organizations, like Challenger, were also prominent at that.

 

Some of those had receded in the background. Brightsphere is basically breaking themselves up and Mason's gone to Franklin Resources obviously. But in their place, there are some others that are very much active in the marketplace. You can think of Dial and Peters Hill and some other groups like that you can think of. The wealth management firms with its focus or Hightower or Cap Trust, things like that. I think the demand for some of the boutique managers remains pretty strong, but it is basically in the context of do they fit a particular need for an organization and is their capability something that can be built upon or substituted for something that another organization either has and is doing poorly or would like to have in terms of adding onto their capabilities. I think one of the aspects for a lot of these organizations is the ability to keep their distribution forces and their distribution efforts supplied, if you will, with capability and product on a continuous basis.

 

While there's obviously a very strong argument for doing something that you do and doing it very well and not districting yourself with things that you can't do well, one of the aspects for some of the larger organizations that Warren touched, that sort of distribution importance in these businesses is that you want to make sure you have something for your distribution, your sales force to constantly market. And there are times when even the best strategy may not be in vogue or not in demand to the extent that something else is. So having a range of products can be important. And so we find that some of the larger organizations pursue or interested in some of these boutique managers to add that capability and they sometimes need to move quickly to address that.

 

How long will the consolidation of wealth managers go? Are there reasons to think it will slow down or end?

That's a very good question. It seems like there's an endless supply of these, and as I said before for what has been reassuring to me through the years is that as we worked on selling things and there were acquisitions in the industry, there seem to be a constant supply of new ones and no where is that more apparent than in the wealth management sector where people leave some of the large brokerage firms or they leave banks, trust companies or even insurance companies have started up wealth businesses of various sorts. And so there's a constant supply of those. I do think that as the marketplace is getting more competitive, as technology has made it easier to deliver some of the services for the affluent as opposed to perhaps the very wealthy, that that is making it perhaps a little harder to break into some of these areas.

 

I suspect that there's going to be a continued run at this and that some of the private equity money that is backing some of these rollups is going to see whether they can get large enough to go public and get out of the business in that way or sell to a larger player that's generally the objective it seems to me of a lot of these private equity-backed groups. If that keeps working, the consolidation will continue. If that starts to break down, my guess is that the capital that's been supporting a lot of this will start to dissipate and will get down to a narrower set.