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- [00:07]
A
Hi everyone. Thank you for joining us today. My name is Katherine Williams and I am head of Practice Management at Dimensional Fund Advisors. The work we do with advisors around the globe includes so many components of thinking about growth, thinking about your people, technology. But none more so is a hot topic these days than M and A and succession planning. And specifically how do you think about the financial components of that? How do you think about your strategy for executing on that? And that's really what we're going to unpack in our time today. And to help me with that conversation, I'm really excited to have Erin Hasler and Matt Crow with me. Aaron is the managing partner and co founder of Skyview Partners. Aaron, it's great to have you with us today.
- [00:46]
B
Thanks for having me. Appreciate it.
- [00:47]
A
And Matt is CEO of Mercer Capital. Came in from Memphis, so almost local here with Charlotte. Matt, thank you for joining us today.
- [00:56]
C
Glad to be here. Thank you.
- [00:57]
A
So let's dive on in in your and thinking about the different kinds of components of the business transactions even within the business that will require both a strategy and the lending component, potentially a financing component. We all know the challenges and we're seeing it even in our data around the need for having a succession plan. But you've got these highly valued businesses, the need to keep G2 and G3 engaged and moving forward. But how do you get them to even have an appetite to write a check, much less the ability for doing that. But with that in mind, you know, thinking about and Matt, I'd love to start with you as you do think about sort of what we're seeing across the landscape as it looks today and succession planning in particular. What stands out to you and the work that Mercer Capital is doing.
- [01:47]
C
I think the central dilemma is that these businesses are often perceived as being worth so much that no one can afford to buy them. Certainly internal succession, which requires financing, challenging for a generation to look at and to pay for a mature when the founding generation typically started it up with a lot of sweat equity as opposed to actual capital being put in on the front end. So the cost of doing a market Transaction for Generation 2 is one of the hurdles that these transactions have to overcome. And a lot of the conversations that we have with clients start with that issue.
- [02:25]
A
Aaron, I suspect this is often where some of the, you know, that first phone call starts when you answer the phone or you answer an email. What's it been looking like for you all, particularly to that succession piece?
- [02:35]
B
Yeah, I think a big piece of it is education as well. I think that the majority of advisors don't understand that an internal succession is necessarily even an option. Bank financing is still relatively in its infancy compared to our historical practices. I think more internal successions don't happen because it does require considerable planning. A decade or more in advance is ideal. But we still probably three or four times a week talk to advisors and say, yes, actually bank financing is available to your G2 or G3. And I think that's a big piece of why we just have not seen more of it.
- [03:11]
C
Aaron, I would think you run into a lot of people who have talked to their sort of traditional lenders, and many traditional lenders still really don't understand this type of loan and aren't really prepared to put forth a proposal to do it.
- [03:26]
B
I make the joke that I don't think there's a financial advisor in the country that has a chief credit officer at a bank as a client.
- [03:33]
C
Not yet.
- [03:34]
B
Because if they did, I think these chief credit officers would be calling wealth management firms directly and saying, hey, how can you know? Because these are fantastic credits. Right. When you look at our businesses and the margins of them. But yes, I agree. I think most just don't understand it's available even for us. We've been doing commercial financing since 2018 and it's really only in the last four years that we've been able to make it a replicable kind of consistent product.
- [04:02]
A
So, Aaron, so often in the work that we do with advisors, they come to us with what we're talking about here. It can very quickly become sort of a tactical kind of question or conversation. And so our work is often, let's come up out of the weeds a moment here. What are you ultimately trying to accomplish? Right. What is your strategy? Because, you know, certainly at skyview Mercer, your capital is helping advisors. Well, think there's, there can be a few, you know the old saying, a few different ways to skin the cat, so to speak. So where do you start, Aaron, in those conversations to really understand what is exactly the business trying to accomplish? And the reason why I'm asking you that question is because hopefully with our listeners and even anyone who's listening today that feels like, oh, we've, we know, we've, we've got this strategy, I think stress testing that with some key concepts or key questions can be a good place to just make sure. Is this actually really the road we ultimately want to go down? How do you approach that in your initial conversations?
- [04:52]
B
Because we sit directly on the commercial financing side. We're really, I feel oftentimes playing catch up to some extent on that conversation.
- [04:59]
A
Yeah.
- [04:59]
B
And so, yes, we do get founders that say, I've always wanted an internal succession, but I feel like more often than not we're talking and speaking to G2, G3 and educating and saying, hey, this is a possibility. Go present to your team that you can do this. Now, as these aggregator firms mature and more and more advisors are getting direct solicitations from them, we are seeing founder generation say, not sure that's for me. I want to know what my options are. I still feel like we do a lot of marketing and we're still in that hand to hand combat of, hey, let's just even demonstrate that this was your possibility in the first place. But once they've gotten past that and say, yes, we have a desire for that, then it's really just about understanding, do they have the right personnel in place, what is their vision for the firm? And then their timetable, how soon do they want this to happen? Or I always ask this, how old are you? Right. I mean, that's a, you know.
- [06:00]
A
Right. We're going to talk about timetable for sure in a moment. Because even in some of the recent data we captured in our deals and succession survey, where, you know, we're trying to understand what's the current psychological time frame anyway that the firms are operating with. But Matt, for you all at Mercer Capital, you begin these initial conversations, what are you asking? What are you looking for? To try to either determine their existing strategy, test their strategy, or, or maybe they're straight up saying, I don't have a strategy. How do we go about creating one? What does that look like for you?
- [06:29]
C
Yeah, so some domino has to fall first, right? I mean, you've got to have a starting point to then build on from there. And oftentimes we're starting with the valuation itself and saying, all right, well, based on the economics of the business, here's what a fair market value perspective on the company might be. But price is one thing and terms are another. And terms are often the sort of thing that narrows the bid ask spread between the founding generation sellers and the purchasing generation buyers, and having available financing that can sort of make those things fit together. Or maybe the sale is staged over time, something that we often advocate. Looking at succession as a process, not an event, can be a way to soften what appears to be just an enormous and unyielding number. And sitting in front of G2, because they know the economics of the business, they grew up in it, and they know that it's definitely worth something to them. And let's face it, if you sort of stepped away from the market dynamics out there that are a lot driven by consolidating organizations and private equity, theoretically at least it makes sense that it should be worth more to generation two inside the business than it should be worth to outsiders. Now, access to capital and all that kind of thing has sort of skewed that the economic reality today is different than that. But it still suggests that the perspective of the buy side, either from a private equity perspective, an outsider, disinterested, interested outsider, or an interested internal buyer, should be a lot closer to each other than they would appear to be. And we think, and often, we think oftentimes they are.
- [08:09]
A
It is. Is that your way of saying all the things that hit unnamed publications and media about these big, big pricing, big multiples? Yeah.
- [08:20]
B
Yeah.
- [08:20]
A
Well, everybody thinks they should be getting 18 times or something.
- [08:23]
C
Yeah, there is a. There is, it seems like a little bit of an aura around the M and a landscape that is perpet because big numbers get eyeballs for trade publications. They make people interested in returning calls to investment bankers. They certainly get the attention of the sellers. And they're not candidly that offensive to those who are accused of being the buyers at those multiples because they know that they'll get attention from potential sellers if they're seen as being somebody who pays a lot. So everyone has kind of an incentive to talk the number up. And the reality is when a big part of the consideration is being paid in contingent payments and a big part of the consideration is being paid in, let's say, equity in the consolidator that has its own valuation at a very, very, I'll say, strong multiple on a dollar for dollar basis. It's maybe not as good as it looks. And 15 to 20 consolidates to 12 to 15 pretty quickly. Yeah, or a little less.
- [09:33]
A
By the way, we did ask in our deals and succession survey that we ran in the early part of 2025 around valuation. We're still going through the results, but we asked, did you get a formal valuation or essentially what we would call the back of a napkin, meaning they
- [09:46]
B
answered a phone call and now they know what they're.
- [09:49]
A
It's like we're in agreement. We don't need a formal evaluation. I was surprised. I'm blanking on the number off the top of my head, but it was a relatively high percentage of firms that, yeah, we're just like, we're in agreement. Why bother to go out and get formal valuation we're not going to go necessarily too far down the valuation road today. But yeah, it's interesting to the degree that that influences that whole conversation and that whole thought process that you were just describing there. It's something we're keeping an eye on.
- [10:14]
C
I mean, I think it's certainly the case that sellers who've accepted a deal under certain circumstances certainly want to think that they made a very good deal and why spend a lot of time investigating it to challenge that percept.
- [10:29]
A
Yeah. So, Erin, because of this, this area is such a need at such a hot topic. It's such an area of focus for so many organizations. Skyview has gone so far as to essentially name it, so to speak, and you developed what we call these generational partnership strategy to really help organizations think about this. Can you talk a little bit about that? What's your process on that?
- [10:51]
B
Yeah, I don't want to give us that much credit. I think at the end of the day, we really just were trying to say to advisory firms that, yes, start thinking strategically about the personnel you have in the business. And the idea that. And this was really even like a decade ago that we were thinking about this and it still seemed like it was a relatively new concept to start servicing G2, G3 clients. And when we were looking at the impact of valuation and having that tie to the G2, G3, and we're just kind of evaluating the entire business, the entire enterprise, and saying, all right, what are our risks if we're introducing this advisory firm to a bank? What's the longevity of the business? And so it really just was back to the idea of if we have advisors that are spaced apart demographically by a decade or so, you have a much healthier ecosystem in a firm.
- [11:47]
A
That's interesting.
- [11:48]
B
And the idea that you can, as G1 advisor group, is servicing G1 client, that G2 and G3 can be the training ground with the offspring of your best clients. And harkens back to the idea that at least for a while, and I feel like it's getting better, CFP programs weren't really as developed as they are even today. And there just wasn't this trained personnel coming in. And so now we're seeing, I think, an improvement of that. I would agree it still has a lot of room to grow there.
- [12:22]
A
Well, and so many firms, you know, you both have references. G3 is very much in play. So this isn't even. It's certainly gone deeper into the organization. And for those of you listening, just to make sure everybody's on the same page. Generation one, generation two, generation three. That's what we mean by G1, G2, G3. We tend to use the language and assume everybody is listening. And then one of our lovely Dutch or German clients will call me up and say, exactly what did you mean by that? So it's good to clarify.
- [12:48]
C
I mean, it's relevant that, I mean, ERISA only happened 50 years ago. So a lot of this industry is pretty young. And a lot of these firms that we work with were founded in the 80s or the 90s, and they can go along with their founding ownership group for 20 or 25 or 30 years and then they hit that point, that inflection point where it's time to, you know, companies last longer than careers do and so somebody's got to own it, you know, from there going forward. And they're suddenly hit, I say suddenly. They act as if they, they feel as if they're suddenly hit with planning for the future of the organization.
- [13:29]
A
I think you, you framed it in this idea of businesses lasting longer than careers. So how do you shift that mindset in the work with G1 or even G2 and G3 as you're talking with them? How do you get them thinking, well,
- [13:43]
C
it certainly speaks to the necessity of all of this. And even if you're selling the firm to an outsider, that doesn't absolve the organization of the responsibility that you've got to have the next generation of leadership. Even if that supposedly solves for ownership, it doesn't solve for the performance perpetuity of the organization. And I think as Aaron was saying earlier, if a firm has people of varying ages, and I sort of think of laddering the maturities of a bond portfolio, laddering the maturity of the leadership of the organization so that you sort of spread out change over time so that again, transition of all of the above of leadership and ownership is more of a process than an event.
- [14:35]
A
So in the work that both of you do, you are at a minimum observing the characteristics, almost the qualifications that a firm may have applied to identify their G223 or maybe even in some cases, they're asking you to help them figure out what should we be looking for. So even as we talk about thinking about the financing piece and the mechanics of it, you first have to have a group of identified next gen. And to your point, Matt, and I really appreciate you saying this, we get asked a lot of, hey, you know, I'm probably going to sell, probably going to sell to an outsider. You know, we know from our survey that our advisors are averaging between 14 and 17 inquiries. It's a lot of buyers out there. Should I even bother? So to speak. And the answer from us is yes, yes please. You need to still be investing in your business, even if you don't necessarily think you'll do an internal transaction or internal succession at some point. So, you know, starting with you, Matt, I mean, when you are talking with organizations, when you're thinking about what does that, what does the skill set and criteria need to look like? And that's a big question. What do you think stands out as being strong characteristics and criteria for that next gen?
- [15:41]
C
I would break it down between in most RIAs and this covers the waterfront. Regardless of what flavor of RIA they are. You know, they're usually the folks who are the front of the house and the folks who are the back of the house. I mean there's client facing personne and then there's technical staff and support. And you need leadership across all of those areas. Some people are really drawn to building the business and some are more maintainers. It's difficult for a firm that's smaller than, you know, pretty substantial size to actually sustain itself without having some builders involved in the leadership of the organization. I think founders oftentimes necessarily staff the company with people who are not builders, with people who can maintain and service the business that they built. And then they're disappointed that G2 doesn't have the same characteristics that they do when in fact G2 was selected because they complemented probably the aspects of the founding generation that it did not itself possess. A lot of disconnects, I guess you'd say, in that regard. You know, to your point about do businesses that are expecting to sell to outsiders, do they still have to invest in the future of the organization? The buyers are going to want that too, right? Right. I mean, you know, they don't want to buy something that doesn't have a future. I mean, it's certainly worth a lot more if it does and frequently too. And I think Aaron will attest to this. A lot of these deals are complex deals and they involve some inside capital and some outside capital. And so if you're going to be co investing with a group that's going to continue to be around, you want to know that that group can actually sustain the business.
- [17:34]
B
And I think that's been one of the shortcomings of our industry. I think we have seen such interest in succession and so much outside capital pouring in. They've thrown money at it without really Investing in the strategy for G2, G3, and understanding how are we going to retain these people and how are we going compensate these people. So I have certainly a number of friends in the industry that have worked at or work for aggregators, and I know that is their number one challenge is how do we fuel that continued generational talent.
- [18:09]
C
And I think it remains to be seen whether or not the aggregators can actually pull that off. I mean, the RIA industry is relatively young. The aggregation of the RIA industry is very young. And there's, you know, 10 years from now, we're going to know an awful lot that we don't know today.
- [18:27]
A
Agreed. And we'll be capturing it from a data perspective, hopefully dimensional here. So well, and just to go off of what both of you have commented on, we certainly more frequently than ever are absolutely seeing where when G1 is ready to begin executing, we'll stick with an internal succession. It is more often than not a one to many, meaning one to two, three or four, as opposed to a one to one transaction because of the mix of skill sets that are needed. Of course, in theory, the business is bigger and more complex and you just need more people with these different areas. Aaron, I'm sure you've seen that in a lot of your work with clients as well.
- [19:05]
B
And it's just understanding generational differences a little bit too. Right. I'm old enough to know and have friends that got into this business calling through the white pages. Right. And I don't think that works anymore. I'm sure I don't know that my kids know what the white pages are. Yeah, yeah.
- [19:19]
A
But that big thick phone book used to serve a number. You know, it could be a doorstop. Like we, you know, used to serve a lot of different functions.
- [19:25]
B
But that was that, you know, this founding generation, they got in through that kind of school of hard knocks and learning to sell that way.
- [19:33]
A
Yeah.
- [19:33]
B
And so the sooner all parties of the generational gaps understand, you know, where that particular generation is coming from, what their perspective is, I think it makes these internal successions much easier. And the idea that G2 might not have walked to school uphill both ways, but at the end of the day is coming in with a different perspective. What we see probably Most frequently from G1 is they don't come in on Saturdays or Sundays. And then G2 is saying, well, that's because I have three soccer games on Saturday. I have coaching two basketball teams on Sunday. And so we do see that, that these firms are going from one to many Maybe the margins thin a little bit, but you take more people involved in the firm and I think almost actually end up with better partnerships and enterprises as you kind of diversify your talent pool. So I like that aspect of it.
- [20:32]
A
I'll put you both a little bit on the spot, if you don't mind. And you can even answer this in the framework of just looking back over the last 12, 18, 24 months. Generally speaking, what are some of the structural components that you see for an internal succession, if you're willing to share, whether it's cash structure, deal structure, timing of transition of equity? Can you talk a little bit about what you're seeing from a structural standpoint?
- [20:56]
B
We always start with cash. Matt is more into, I think, the details of this. We're coming in and saying we are the financier. It's, let's put significant amount of money on the table up front so that it's worth the time and the effort for founding generation to go through the succession plan.
- [21:13]
A
Yeah, yeah.
- [21:13]
B
And you kind of asked this earlier, and I don't think I answered the question. But we're looking at it as, what's the available cash flow based on the valuation that the parties have generally agreed upon? And sometimes we're even working backwards and saying to get to a ballpark value, what's the available cash flow to service the debt? And when we can look at that available cash flow to service the debt and meet the requirements we're looking at from a financing structure, which is ultimately the ability for a firm to ride some market fluctuation and still service that debt, then we can start to formulate that plan. And that plan is, it might be a 5% buy in by a couple of partners. It might be a 35% tranche. We're working on an 80% tranche right now. Just because founder is 68 and there isn't any more time to figure it out.
- [22:07]
A
The Runway is short.
- [22:08]
B
The Runway is short. So that's the way we look at it.
- [22:11]
C
Nothing too unique about the last 18 to 24 months. I would say taking a step back from the numbers, the structure of the deal typically has a lot to do with obviously the players involved, but also the business model and the culture. What are they trying to ultimately achieve? One thing I try to do with clients is to say, all right, well, five years hence, what does this need to look like? Where's the business going and what's the ownership model that's going to serve that business model? Because if, if you've got a disconnect between ownership model and business model. It's going to impede the success of the organization. Cash is king. I agree with what Aaron said there and people are oftentimes surprised to learn that there is borrowing capacity out there available. I think a lot of times these transactions are staged over several years, ideally and ideally. So yeah, I mean if you stop and think about it, it, you know, from a wealth management perspective, if a client comes in with newfound fortune and they've got to put it to work, the advisor's not going to put it all on one stock and they're not going to invest it all at one time. But yet a lot of times these transitions come about and they put it off, put it off, put it off, put it off. And then they want to do one giant transaction all at once. And you know, you can bet it all on red if you want to, but it's probably a better idea to have multiple players involved to spread it out over time. And one thing that does by having partners buy in over time is it gives leadership qualities in the buy in organization a little time to exhibit themselves or fail to. And that helps you tailor and adjust the transition to ultimately the best outcome.
- [24:00]
B
One of the things that we understand and part of the inhibitor to these internal successions is the availability of talent. And I think it was McKinsey that just came out with a study that we're expecting to have a shortfall of 100,000 advisors by 2035. That's a problem. It's something that I'm Talking to my 17 year old about as far as career trajectory. Right.
- [24:26]
C
I've had that conversation too.
- [24:27]
B
Right, right, right. Anytime we're in the car, that's what he hears. But that's exactly what I like, Matt, is the idea that you're attracting the right talent with the opportunity for equity. You're buying in in small tranches. It might be less than a percent early on to entice them and help them understand what the big picture and the vision is and then you can really build an outstanding internal succession plan.
- [24:53]
C
You can't ignore the emotional psychological overhang of these transitions is enormous. But you can defuse that, that bomb a little bit by putting it into bite sized pieces, spreading it out over time. And as I have said, think of it more as a process than an event to de risk the transaction for both the buy side and the sell side.
- [25:19]
B
Yeah, I think it's such a great education for the buying generation. Right. It's their ability to learn and understand and grow. I Mean, we are talking about individuals that have spent 30 or 40 years building a business and you think about all the things you learn as you go along the way. So to expect that your G2 or G3 is just going to know exactly what they should do or exhibit from those leadership qualities if it's just being dropped into their lap is naive. And I think that that is a big component of this that we run into all the time is that kind of expectation gap between the two parties.
- [26:00]
A
Well, and something that both of you in your organizations can help advisors with too is we'll go with G2. You get a transaction done, you get, you know, you get succession going or underway. So congratulations. Now G2, now you're essentially G1 like we're back to square one. Like you've gotta be willing to look over your shoulder and recognize that does this plan that you just implemented serve you for the next generation? And maybe and hopefully going back to your comment Matt, around you know, businesses versus careers and a couple of generations and it's hard to think that far down the road but I do think there's push back on me. But I think there's some value in thinking about if this is our plan for G1 to G2, can it service for G2 to G3. Do we have to go back to the drawing board every time we want to do a significant transaction versus we've laid track for something that's got some sustainability to it.
- [26:50]
C
My experience has been the transition from G2 to G3 is much easier than from the founding G2 and G3 understanding.
- [26:57]
A
We're not picking on G1 here, but
- [26:59]
C
yeah, no, I mean G1, I mean as Aaron was saying earlier, I mean very much the era of folks who have the stories about hardscrabble farming and when the business was hard and they were trying to make payroll and they were putting their kids to bed at night and driving back to the office to get some more stuff done before they hung it up for the day. And G2 sees the business differently because they walked into a going concern that was already profitable and had resources. And G3 kind of has had the same experience that the second generation has. So G2 and G3 typically, I think and subsequent generations can identify with each other better given the age of the industry. You don't see as much of it. But I mean Mercer, we do have some clients who were founded in the 60s, one that was even goes back to the 1940s. And so we've seen multi, multi, multi generation firms and it really is the hardest part is getting from the founding generation to the second generation. If you can make that transition transaction, the firm's got a good shot at making it to 50.
- [28:18]
B
It is a consideration we talk about Frequently, though, with G2 as they're buying in is you're buying this is your tranche one or two, you're paying this off over 10 years. 10 years for you means, oh, you're 48 or you're 54. And so what G2 is now understanding through that conversation is, oh, my succession plan looks a little different than what I'm buying into. And I will actually be kind of almost buying and selling equity as I get into these later stages, depending on the size of the firm and how much, you know, how many tranches are required to hand it over.
- [28:59]
C
Oftentimes generation two is not in ownership as long as the founding generation was.
- [29:05]
A
Oh, interesting. I mean, it makes sense when you say that, but don't know that I've really thought about it.
- [29:10]
C
Well, think about founding generations starting these things in their 30s and they build it up and, you know, by the time they're in their 60s, it's going really well. And they kind of like that. And they're avoiding the conflict of having a transaction between them and generation two. So they're staying in the sadd until they're, say, in their 70s. And by the time they're selling, generation two, as Aaron was saying earlier, might be in their 50s and they might not want to work until they're in their 70s. They might want to hang it up at 65. So they're not going to be partners as long as Generation 1 founding generation
- [29:49]
A
was typically, especially if there's more of a leadership team, as opposed to that single entity or that single person, so to speak, that sort of shared that around.
- [29:57]
B
They're not owning as much as G1. Right. They may own a 10%.
- [30:01]
A
They may have their own different individual timeline, obviously. Right. They may all be at different.
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C
The advantage Generation two has versus the founding generation. A lot of times they have more options because they've got a broader ownership base. The buying and selling pattern has already been established. There's not as much work to be done to monetize their interest.
- [30:22]
A
So, Aaron, what are some of the biggest misconceptions about just external financing, really,
- [30:26]
B
that it's even available? I continue to be, you know, thanks for nodding your head, Max. I agree.
- [30:32]
C
I mean, I agree we have a
- [30:33]
B
job for a while, but I go to conferences all the time or I speak to people they saw our email or they responded in some way and they're like, I didn't know this was an option. And it's like, yeah, well, we've actually been doing this for seven years, going on eight. So I think that's a misconception. The other one that I think is actually probably the most critical and I. I was realizing after my last presentation I needed to put it more together, is that the requirements for G2 or G3, because we have an established enterprise are less. In terms of G2 does not need to have a million dollars in their 401k to qualify for a bank. It's really the cash flow, it's the reputation. It's the historical body of work of the business that a bank is financing. You have an enterprise now. Right. That's still new psychology.
- [31:28]
A
Yeah, yeah.
- [31:29]
B
And so that's the piece that we talk to people about all the time, is that we want you as a borrower to live like a financial advisor. You're saving money and you're continuing to grow your net worth. You're not buying Ferraris and, you know, extra cabins.
- [31:44]
A
Yeah.
- [31:45]
B
You know, if they can do that, if there's cash flow, we can finance.
- [31:49]
A
Aaron, you touched on this and I'd love both of you to comment. You touched on this earlier. This, that oftentimes the engagement is with that G2, G3, that you're having those initial conversations. How do you recommend they approach if this really is a situation where they are the ones who need to initiate the conversation with G1 to get the ball rolling?
- [32:09]
B
I mean, I Actually here's. I was thinking about this as I was coming in on the airplane and. And G2 and G3, because there is such a talent shortage, have tremendous power. Right. And so I think the best way and the most appropriate way for a G2 is to approach leadership and say, this is what I like about this organization or this company. Tell me about your succession plan. What's your vision for the firm? And if it's a mature enough organization, I think they've got that sense. But leading into that conversation of tell me your vision for the firm, how can I best impact the firm? And kind of going through those normal courses of career development as a G2, I think you can easily interweave and understand. And if G1 is not interested in answering those questions or talking about it or doesn't have a plan, you can vote with your feet on that conversation.
- [33:12]
A
That's right. There's information.
- [33:13]
B
And go to a firm that will.
- [33:14]
A
Yeah, right. Yeah. I Mean statistically, in our Global Advisor study with our particular high performing firms, I mean, we see employee retention is 98, right? 97, 98. Maybe even a little higher than that retention. But I worry, I mean, just like we, we tend to think we have really great client retention. Employees and clients are in fact moving around and they will move around more. So if these kinds of things, you know, you've got to figure out a plan and if you're not being asked about it when that talent is interviewing for the job, they're surely going to be coming into your office at some point and asking about it.
- [33:50]
B
Yeah, Sorelli had an article. I mean, you see so many of these, you kind of forget which one it was. But, but ultimately, you know, 40% of firms are threatened by retention of employees and retention, you know, in employee movement. And so I think that it's going to be a continued discussion and growing threat for good organizations. And I just happened to be talking to a friend and having breakfast recently where they had purchased a firm and hadn't been able to keep G2 or bought it after G2 had already left to go start their own firm. And so they didn't see the continued growth. And he was talking about how he was reflecting on the investment opportunities and feeling like he bought into a firm too late because G2 didn't stick around. And G2 went on and formed their own very successful and growing practice. So I think G2 has a lot of power in the conversation and can start to influence it. But I think it's a process and a discussion in education. One of the things I think is most important is getting annual evaluations. And I'm actually always amazed at how many firms, firms don't get valuations. And I feel like if I'm G2 or even G1, calling Matt up every year and looking at the valuation and understanding what we should be doing on a year over year planning basis to increase that valuation seems like money well spent.
- [35:17]
C
It certainly helps demystify the future and
- [35:21]
A
what's driving the value and what's not,
- [35:23]
C
what's driving the value and what's not. And to manage expectations, everyone's expectations. Until there's a number on the table, it's all just talk, right? And it's kind of hard to move that talk very far forward until there is in fact a number out there on the table. But I agree with you in the sense, Aaron, that Generation two has leverage, time is obviously on their side. That's why they're Generation two consolidators. When they come in. The buying and selling of these practices is considerably more sophisticated today than it was 10 or 15 years ago. Years ago we did expert witness work on a litigation probably 10 years ago about a transaction that happened maybe 12 or 13 years ago where a large institution bought an RIA that was owned wholly by a couple of founders. The buyer didn't meet with any of the second generation in the process. So it was one of these things that like the news of the transaction came in out of the sky, surprise. We've sold, signed these employment agreements and you're going to love your new owner and you're going to love your new owner. And I mean the buyer and the buyer was represented and the seller was. I mean there were people in the process who should have kept that from happening, which surprised me. And G2 picked their things up and walked across the street and opened their own shop. And was it a violation of non competes and non solicits? There was certainly plenty of litigation about that. But nobody wins. The damage is done and nobody wins at that point. I think there's a lot of emotional angst between the founding generation and G2 on an internal succession plan. And that's understandable. I think oftentimes the founders at least think that they can avoid that by selling to outsiders. But the outsiders are going to be engaging G2 in the process. So, so you don't get away from it. I mean, at the end of the day we can call these things whatever we want to. They're professional services firms. They require professionals to provide the services so that there's a firm and so the stakeholders are more than the shareholders and the stakeholders are ultimately going to influence the outcome.
- [37:51]
B
Well, and you made a point earlier, Matt. And we see this and I think this is always an interesting element or wrinkle and why it ties back to where I think valuations in that external valuation are so important sometimes. What surprises us is that we see G2 comes in and says, I don't want to pay that much for this business. And you had made the comment, I think earlier that G2 is willing to sometimes. We just had a transaction that we financed and it got shelved for six, eight months because G2 didn't feel like the firm was, was a value and
- [38:27]
A
or of the value that of the
- [38:29]
B
value that was deserved. I haven't seen a lot of transactions, I'll be honest. I just got personally irritated and I called G2 and I said 120 discount here. Yeah, two. You sell to an aggregator. Your, your compensation is Completely different. The, the structure of your organization is, is, is completely different. I mean you have such a yellow brick road in front of you.
- [38:55]
A
Yeah.
- [38:56]
B
And a couple of phone calls like that and I, they, I don't think it was all due to me. I think they saw the light. That's all the more reason that I think both G1 should be out there understanding the value of their firm getting an annual valuation and establishing kind of what their business strategy is on a go forward basis as a result. But then it really sets that table and that expectation for G2 to understand this is the baseline and founder might be getting these external offers that are much higher up here. So if you can settle upon this valuation, grab that opportunity while you can.
- [39:34]
A
So a couple of kind of, I mean they're, they're not really short answers per se. Maybe we'll keep, we'll try to keep them a little shorter just in our remaining moments. And they might seem like a little bit of random questions, but these are questions that, that we either are asked or get raised to us especially as firms are thinking about who should they engage with to help them navigate this landscape, whether it's internal or external, that sort of thing. So a couple quick questions for you both. Does the work to transition from G1 to G2, for example, that a big succession. Does that sometimes or often trigger a potential change in the corporate entity structure of firms? Or does that come up in your. Both your evaluation and, or potentially executing on, on some sort of a transaction?
- [40:20]
C
I would say sometimes.
- [40:21]
A
Sometimes.
- [40:22]
C
Yeah. Yeah. Sometimes it prompts a change, say from an S Corp to an llc because that structure offers some flexibility.
- [40:30]
A
So it's worth looking at if you're going to lean in on this.
- [40:32]
C
Yeah, I mean it definitely is the tail, not the dog. I mean it's a consequence of. Not the driver, but it comes up.
- [40:40]
B
Yeah, yeah. We see it from a cash flow perspective in the financing. If we can structure these as asset sales where it's appropriate, we like that amortization of the business price, that purchase price which a buyer is then saying, all right, here's my purchase price, divide that by 15 and they can deduct that from their taxable income on an annual basis, which just gives more cash flow to debt service when we're financing this. So I would imagine Matt is getting more into the weeds on these. But we see it and we consult with, with it to help understand what are our pros and cons here. Founding generation may want one thing, you know, bank and G2 might want a Different thing. And how do you put those parties together? Sometimes three or four, five phone calls. But no, we get it done.
- [41:34]
A
All right, so next question. How often or do you see these loans thinking about these borrowers? Right. Either whether it's a consolidation of loans over time or we'll call it a repapering things that change that somewhere in year two or three or something that maybe wasn't anticipated, could even be someone can't make their loan payment. So do you address those or account for those upfront or, you know, how do you, how do you think about that? We don't want to talk about those things. We want to be like, this is great. We're going to. Everybody's going to make their loan payments and everybody's going to. And the company's going to pay enough in dividends and all this kinds of stuff. Sometimes that doesn't happen. How do you think about that as you're structuring these things? If you don't mind me asking.
- [42:11]
B
We see it all the time. We see either restructuring of existing debt. When a firm has made outside acquisitions, you re amortize it to allow for cash flow on that internal succession. So yes is the short answer there. The thing that we see is not necessarily that a firm or an individual partner isn't able to make their debt payment, but sometimes there is just. Yeah, you have an employee that has a mental health crisis or they no longer have an ability to serve that role. We have seen those things. And the firm assumes the debt, buys back the shares from that employee. Maybe that employee just doesn't fit for the organization any longer and they're actually relatively easy to unwind.
- [42:52]
A
Yes.
- [42:53]
B
And I think that's an important thing for both G1 and G2 to understand. If you're in an internal succession, there are going to be bumps along the way. We've only been in business since 2018, so we haven't seen a significant enough market correction. And we've seen 22 was a down year, but that could be a factor. At the end of the day, what we have shown in wealth management is that these are enduring businesses. There's an incredible amount of need for advice and the market bounces back. And so what we're seeing is that banks have tolerance because these are service based organizations. They don't want to go and repossess the tractor. They want to understand how to allow that business to continue to thrive. And I think for anybody listening, that's a huge empowerment tool for a succession plan is that all parties involved in Servicing these wealth management firms want to see these firms endure and succeed.
- [43:53]
C
Yeah, I would agree. I think there's more flexibility for event based issues than people think. We haven't had honest to goodness bear market for a while and so we can't speak from recent personal experience about what it's like when the ultimate engine that drives all this stuff starts sputtering. But we have gone from a zero interest rate environment to significant interest rates and that changes the cost of financing. And these firms have weathered through that just fine. And we certainly are presently getting good bit more market volatility than we've seen in some time. And I have not gotten any panicky phone calls from clients yet.
- [44:33]
A
Well, you're busy recording a podcast right now, so there might be a few calls.
- [44:37]
C
My, obviously my phone in my pocket here is not buzzing. So on the buy side when they're taking out loans to do these things, it definitely makes people queasy and it ought to.
- [44:48]
A
Yeah, right.
- [44:48]
C
I mean they're putting themselves out there to get something done and I don't think a banker would want them to not feel a little bit uneasy about what they're doing because that's just, that's a sign of commitment. But not to be Pollyanna, but I agree with Aaron. The market has a tendency to bail these things out. We've seen some deals that we thought were kind of lousy turn out okay thanks to a bull market. So I don't think that the downside risk in leveraging these transactions is as great as people often internalize.
- [45:21]
B
And we cash flow model to market downturns. So we mimic an oasis scenario. So we are trying to look at that kind of, of, you know, not worst case scenario. It's most recent worst case scenario. And, and so that does give comfort, I think. And it should get comfort to any wealth management firm that's looking at a succession plan, whether it's external or internal.
- [45:44]
A
Yeah.
- [45:45]
B
Is that these do have enduring qualities. And we saw that like in times of kind of stress. We saw a lot of firms that as the pandemic hit and all of a sudden we kind of thought the world was ending and a lot of firms grew like crazy significantly. Great questions come in. So sometimes, you know, when we were originally trying to tell banks, hey, you should listen to us and wealth management firms are a good investment. We use those times of turmoil actually bring out, I think the best in these organizations in terms of the service and the kind of enduring psychology that they're providing for the clients.
- [46:22]
A
So one last sort of hot seat question and then we'll finish out. I'm going to ask each of you to just maybe think about one thing for our listeners today, if they're thinking particularly on an internal succession, but succession planning in general would be a next step. But before that. And Matt, I'll start with you. Somewhat of a little bit of a tactical, but you think about the operating agreement and the purpose of that. What do you typically see as a common blind spot or something that the parties involved, they don't necessarily think about?
- [46:53]
C
The buy sell mechanism is oftentimes very, very poorly inadequately written. Meaning specify what events trigger the buy sell if there's going to be evaluation prepared, who's doing it. And that doesn't necessarily mean naming the individual, the firm, although you can get my contact information at the bottom of this podcast. But what are the qualifications of the person preparing the independent analysis? What parameters are they supposed to be using? What's the date? How long do they have to do it? I mean, there's so many things that go into specifying, and we've written about this extensively because there's so many specifics that go into preparing an analysis, evaluation analysis that when it's left just sort of open and frequently they just say evaluation will be prepared. Well, that can mean all kinds of things. There's a presumption maybe that it's going to be a thorough analysis done in good faith, but that's not spelled out. So I think as much as anything, I think making sure that the transaction specifications in any sort of buy sell provision in the operating agreement are pretty explicit in what's going to be done. And you mentioned earlier, you both mentioned earlier, I mean, the benefit of having valuations prepared on some regular basis, if not annually, maybe every couple years, is it sets everyone's expectations when the buy sell gets triggered, what it's going to look like.
- [48:32]
B
Yeah, for us, the biggest issue is really around that pivot point of change of control. And when you have employees buying in a discount, each founding generation is different. But sometimes you see it's I'm not selling until I stop having control. I know Matt's seen a lot more of these and I think any good attorney that's well versed in industry would it be able to help navigate through the issue. But in order to make the cash flow modeling work on an internal succession, there are going to be times where that founding generation might still have control, a minority control position, but still in more of a kind of a chairman leader role as an executive. And so that is a well crafted partnership agreement. Operating agreement can help you navigate through those. But it is always a challenging conversation,
- [49:30]
C
I think, and oftentimes I think the founding generation, one thing they fear, and it's just human nature, one thing they fear in these transactions is losing relevance and hanging on to some founder's stake in the organization, even if it's just 5% or something like that, can help a lot of these transactions actually move forward because the founders know that they're still going to be a part of the organization. They might serve in a chairman role or something like that, but at the very least, even if they don't, they'll feel attached to the firm that they founded for the rest of their lives. And that's more important to a lot of founders than people give it credit for.
- [50:15]
B
It's of huge importance.
- [50:17]
C
Yeah, G2, it's a little bit more of an economic transaction and founding generation, it's more emotional.
- [50:25]
B
We see that a lot where G2 is, hey, I want my ideas, I want my control, I want to be able to implement going forward. But yeah, that would be the advice I would have for G2 as well, is how do you keep G1 involved and use their experience and use their value to your benefit?
- [50:41]
A
Yeah, well, I alluded to the idea of asking each of you kind of sort of one thing to think about with succession. But I think actually, actually this is a perfect place to end our time because what you've described requires, first of all, G1 and G2, and we need to get in the room and start talking to each other and get clarity on that. But also for G1 in particular, think about what are you trying to accomplish and what's the time you're looking to accomplish it in and just start having those conversations. And of course, recognizing that there are a lot of resources, it's both of you know, it absolutely is a blessing, but it also can create a little bit of paralysis these days because there's lots of different ways. So finding folks that can really help guide you through this process, I think that's kind of what I'm taking away from our time today. Matt, Aaron, thank you both. It was great to have you with us today. Good conversation.
- [51:26]
B
Thanks, Katherine. Appreciate it.
- [51:27]
A
So for those of you listening to you can absolutely find Aaron and Matt on LinkedIn. They're on the. On the usual social platforms. Skyview.com for Aaron Mercer Capital for Matt. And for those of you listening, if you're interested in learning more about how Dimensional engages with investment professionals, you can check us out@dimensional.com and with that we will catch everybody next time.
- [51:46]
D
Thank you thank you for joining us for Dimensional Fund Advisors managing your practice podcast. For more information please visit www.dimensional.com. dimensional Fund Advisors LP is an investment advisor raised registered with the securities and Exchange Commission. The views, information or opinions expressed during this podcast are solely those of the individuals involved and do not necessarily represent those of Dimensional or its affiliates. Dimensional is not responsible for and does not verify for accuracy any of the information contained in the podcast. All expressions, information and opinions are subject to change. This podcast is distributed for informational purposes and it is not to be construed as an offer, solicitation, recommendation or endorsement of any particular security, products or services. Please consult with qualified legal or tax professionals regarding your individual circumstances. Investing involves risks. Risks include loss of principal and fluctuating value. This podcast is available for private, non commercial use only. You may not edit, modify or redistribute this podcast without the express written consent of Dimensional. Dimensional assumes no liability for any activities in connection with this Podcast or for use in connection with any other website, computer or playing device.