What next for the consolidators? M&A in the IFA and Wealth Management sector

Tuesday August 15, 2023

Associate Director, Ed Shurville-Darlington considers the impact of market dynamics and investor demand on IFA and Wealth Management M&A

Growth in the UK’s wealth management and Independent Financial Adviser (IFA) sector shows no sign of slowing. With revenues around £6.3 billion each year, compound annual growth is expected to hit nearly 6% by 2027.

The sector has long caught the eye of Private Equity (PE) investors, with record inflows of new capital in recent years, focused on mid-market businesses that can, in turn, acquire smaller IFAs.

Despite the fact that 35 or so PE-backed IFA platforms are already chasing similar acquisition targets, more mid-market PE investors are still looking to enter the market. This mix of market dynamics, buyside demand and record levels of committed capital is anticipated to accelerate consolidation. But could further interest rate rises and the new Consumer Duty rules impede M&A in the industry?

Impact of market changes

Introduced on 31^st July this year, the new Consumer Duty regulatory framework will effectively demand that financial advisers prove that their services provide fair value.

Many consolidators have maintained legacy charging structures, brands and customer propositions rather than implement a standardised approach across their business. While it has yet to be seen if such differentiated client propositions contravene the FCA’s drive for “good outcomes for retail customers”, bringing differences in operating models to order could slow the pace of consolidation, as investors elevate their due diligence and analyse potential targets’ client bases in greater detail.

Furthermore, rising borrowing cost are piling pressure on the consolidator model, transferring investors’ returns to debt providers. ‘Buy-and-build’ M&A strategies are founded on the availability of funding and, as existing facilities mature or are depleted, refinancing becomes more challenging and costly for both existing consolidators and new market entrants.

So, what should leaders of wealth managers and IFAs be considering in the current climate, and how should they factor the new landscape into their future exit or growth plans?

For vendors, increasing regulation and scrutiny will add an additional layer of complexity to what is already an admin-heavy industry. Smaller firms may therefore be more compelled to consider a sale, especially those already reviewing their succession plans.

Conversely, larger consolidators who typically standardise client propositions post-acquisition – and which have experienced compliance and support functions – should be well placed to adapt and thrive in the new regulatory environment.

There continues to be a limited supply of quality acquisition targets of scale, and competition among consolidators is fierce, so prices are likely to remain high.

While in the past some PE platforms have used adviser autonomy as a key differentiator from other acquirers, some firms may need to revisit their approach to ensure they are in step with the new rules. Of course, the impact on any given firm will be dependent on the fee structures they operate and their client base.

While the sector continues to see hunger from both new and experienced PE investors, current pricing, debt market uncertainty and ever-increasing regulatory demands can undoubtedly make it difficult for new entrants to establish themselves, particularly as they are unable to benefit from the cost synergies their competitors can achieve.

Will this impact deal volumes?

Our research suggests that 2023 deal volumes are down on 2022, even though the second half of 2022 was heavily disrupted by Lizz Truss and Kwasi Kwarteng’s mini-budget.

Some PE-backed financial advisory firms have shown signs that their acquisitive growth rate is slowing. This could be because they’ve tightened their due diligence and become more discerning in the current climate. However, it’s also feasible that they simply can’t compete with the substantial valuations currently circulating in the market. Lastly, the supply shortage has been exacerbated by smaller IFAs and wealth managers embarking on their own acquisition programmes to quickly scale and achieve a more lucrative exit in a few years.

At the start of the year, many expected consolidators to turn on each other in the search for acquisitions, while PE firms looked to exit and capitalise on attractive pricing multiples. However, as ongoing interest rate rises make funding for transformational deals increasingly expensive, PE firms appear to be content in kicking the proverbial can when it comes to considering an exit.

Whether you’re an IFA business owner wanting to sell, or a PE investor looking for the right investment, it’s important to take the right advice to navigate the complexities of completing a transaction.

Many firms are still considering a transaction as part of their succession plans and PE investors remain eager to deploy committed capital in a market with a proven track record of investor returns. But it remains to be seen whether the supply of quality acquisition targets can meet the high demand from consolidators to maintain the whirlwind of M&A activity of recent years.

One thing is for certain, we continue to operate in a sellers’ market. FRP Question Time

First published in August 2023 in Money Marketing.