On the heels of Q4 2024’s record number of merger and acquisition (M&A) deals, many RIAs are looking to capitalize on that trend in 2025. While it can be tempting to jump headlong into the M&A market, it’s wise to understand what’s involved and how to get ready for the process. This article will explore ways to prepare for an acquisition, how to obtain financing, and some pitfalls to avoid.
M&A landscape for RIA firms
Last year (2024) was a banner year for M&A in the RIA space and that growth is expected to continue. DeVoe & Company notes that 2024’s record level of activity was due primarily to interest rate cuts. They also report that the share of acquisitions made by RIAs (as opposed to consolidators and other buyers) increased to 36% from 29% in 2023. Mid-sized deals (purchases of firms valued between $501 million and $1 billion) are on the increase.
While many deals are being struck for traditional reasons like reducing competition, gaining more clients, or expanding into new geographic areas, increasingly RIAs are using acquisitions to achieve additional aims. To deal with staffing shortages, some firms are buying up competitors to bring on their talent, a strategy known as acqui-hiring.
Another growing M&A trend is purchasing firms in RIA-adjacent industries, such as accounting and estate planning. This approach is a good way for RIAs to broaden their service portfolio and better serve the demands of their clients.
Judging the moment
As the saying goes, “There’s never a wrong time to make a good deal.” That’s true, but a deal is only a good one if the buyer is ready. Some questions to consider include:
- Is the buyer in strong financial shape? – If not, it’s vital to get the business in order before acquiring another. An acquisition is unlikely to fix a company that’s in trouble.
- How much debt is the buyer carrying? – It could be hard to get financing if the buyer has a high debt-to-equity ratio. Buyers may want to consider consolidating or paying off debt prior to making an acquisition bid.
- Are all principals on board with the plan? – Taking the time to get all principals fully committed to the deal will pay off. If some of the leadership team are uncertain about or hostile to the deal, it can lead to problems down the road.
Assessing the fit
The most successful acquisitions involve companies that mesh well in terms of company culture and goals. While there is value in bringing in new approaches and outlooks, too much change can cause employee friction and potential staff turnover.
Working with an objective third party to assess the cultures of both the buyer and the target company can help to ascertain whether the acquisition would be a good fit. Company culture consultants analyze organizational values, teamwork patterns, and leadership practices. Comparing the results for the buyer and seller can yield important insights about how the blended teams may perform.
Financing an acquisition
Buyers have many options for financing an acquisition deal. Which approach is best depends on the financial strength of the buyer, how much the seller will be involved post-sale, and the overall cost of capital. Often, the deal will include more than one type of financing. Here are several of the most common methods:
- Loans – Acquisition loans are similar to mortgages and car loans but have several key differences. With home and auto loans, the house or vehicle serves as collateral. Depending on the lender, the collateral for a business loan may be the owner’s home (often the case with SBA loans) or other personal assets. Some specialty lenders to the RIA industry, however, offer loans that use the expected increase in cash flow from the combined business as collateral and do not encumber the borrower’s personal assets. This approach is especially valuable for RIAs, as their businesses generally have few tangible assets, such as real estate or equipment, to serve as collateral.
- Owner financing – Owner (or seller) financing involves the seller holding a note for some or all of the purchase price and receiving payments from the buyer over time. Lenders often prefer to structure loan deals that include some element of seller financing, as the business benefits from having some of the seller’s skin in the game.
- Earnout — One form of owner financing is the earnout, in which the seller receives future payments contingent upon the new business reaching certain targets. This approach gives everyone involved a stake in the new business being profitable.
- Securities offering– It’s possible to finance an acquisition by issuing securities and selling them on the open market. While this approach is somewhat complex, it may be a good option for buyers who don’t qualify for a business loan or would have trouble complying with a lender’s covenants.
3 pitfalls to avoid
- Waiting too long to involve a lender – It’s never too early to talk with a lender about acquisition plans. A reputable lender will help a borrower understand the loan process and what they need to provide to gain approval. It’s always best to talk with a lender first and then start looking for acquisition targets. Look for a lender who is experienced with structuring RIA loans and wants to develop a long-term relationship.
- Not having financials in order – Many loan deals go off the rails because the borrower does not have their basic financials in good order. Lenders will expect three years’ worth of audited financials, two years of business tax returns, and any other pertinent business documents.
- Trying to do it alone – RIAs continually stress to their clients the importance of working with a trained professional. The same holds true with acquisitions. A firm’s accountant and attorney can provide valuable insights into the proposed deal, as can a trusted lending partner. An M&A consultant can also be a useful part of the planning team.
Summing up
With good planning and the proper financing, an acquisition can be a good way for an RIA firm to increase its client base, extend its geographic reach, or broaden its service portfolio. If a purchase is in your future, start talking with lenders today, especially those experienced with RIA loans and using cash flow as collateral.
Alicia Chandler is president of Indianapolis-based Oak Street Funding, a First Financial Bank company, with customized loan products and services for specialty lines of business including certified public accountants, registered investment advisors and insurance agents nationwide.
