There are different ways to affiliate and grow your business as a financial advisor. Some advisors choose the traditional route and work for a brokerage house or larger RIA to gain experience. Others go independent right way—by either building or buying a practice.
Regardless of which direction, developing a client base is hard work, and it takes years to grow a solid client base. Is it better to simply buy another practice? There are pros and cons to buying a practice. There’s also some due diligence you need to attend to before putting together a purchase agreement. Here’s what you need to know about buying a practice.
Considerations Before Buying a Financial Advisory Practice
Like any other business transaction, it’s important to do your homework before buying an advisory practice. How much are you able to spend on it? How much is the practice worth? The first question is easy to answer. You know your own finances. The second is more difficult.
Traditionally, the purchase price is determined by calculating present and future net profits, then applying a multiplier to the profit margin. The current going rate for a successful practice with a reasonable growth rate is roughly two to three times the average annual revenue rate depending on the makeup of the revenue for smaller practices. Larger practices are typically priced as a multiple of profit or free cash flow also called EBITDA (earnings before interest, taxes, depreciation and amortization). A multiple on EBITDA is based on the size of the firm and can range from 4-6 for smaller firms to 8-10 or more for larger firms.
That’s a big investment for something that is smaller than the smallest microcap. Building a practice would be cheaper, but you’d have to wait for the revenue to grow before getting paid. Do the math and figure out which option is more profitable for you.
Another consideration is the transition of the existing client base. Is the seller going to facilitate that process for you? The projected future revenue numbers will be invalid if half of the clients leave to go elsewhere. Study the culture and history of the firm to make sure they stay.
Pros of Buying an Advisory Practice
All that being said, there are some definite advantages to buying an existing advisory practice, if you do it right. Complete your due diligence and then review this list of pros to reinforce your decision. Here are a few potential benefits:
- Existing Client Base: Not having to build a client base is the biggest benefit to buying an existing advisory practice. Adding new clients can open up new avenues for marketing, referrals or other client niches to expand your business.
- Existing Revenue Stream: This goes hand-in-hand with having an existing client base. That comes with an existing revenue stream that can start to pay back your investment from the moment you take over. Often the long-term revenue can far exceed the price paid for the practice.
- Growth Potential: It’s up to you to grow it. Some growth can be achieved immediately by asking for referrals. The firm you buy should also have growth potential based on reputation and brand awareness. Growing the firm increases the overall return on the investment of what was paid for the advisory practice.
- Malleability: This is a pro that is often overlooked. Once you buy an advisory firm, you can shape it into what you want it to be. Do some research into processes and cultures first, so you can keep what’s working, but you should feel free to make changes where they are needed. Often, the increase in revenue generated can offer other advantages in how you gain scale and use that additional revenue.
Cons of Buying an Advisory Practice
Don’t let enthusiasm drive you into making a bad deal. There are some significant considerations to keep in mind before buying an advisory practice, particularly when you weigh cost versus value. You can usually address these in the due diligence process, but not always. Here are some things to consider:
- Client Transition Problems: Future revenue projections are a variable when calculating the valuation of a firm, but that number is estimated for a reason. Clients may choose to go elsewhere after the deal is closed. That can skew your revenue numbers.
- Upholding Pre-Existing Standards: The advisor you’re buying the firm from built a relationship with his or her clients, so they will have expectations that you’ll need to live up to. This may not be possible in some cases, meaning you could lose clients.
- Changing Existing Infrastructure: Are you just buying a book of business or taking over an entire firm? If you’re doing the latter, there may be personnel and infrastructure that needs to be changed. Expect resistance. It may take a while to get it right.
- Faulty Processes & Old Technology: Older firms may have outdated processes and antiquated technology. Those need to be changed, and it could be expensive to do so. This is a con if you didn’t prepare for it in your budget.
Contact Bridgemark Strategies
Buying an advisory practice is a big step, especially if you’ve never run one before. Be prepared to be in it for the long game, because selling right away if you can’t make it work could result in a significant financial loss.
If you are interested in buying practices and haven’t independently assessed your readiness, Bridgemark Strategies can help you assess your strengths and weaknesses and work closely with you so you can get the edge in this competitive market. Learn More