The funding conundrum
In my meetings with advisers it is clear that few are happy with the consistency of their firm’s growth. Organic marketing is a valuable growth contributor. However, it requires an investment in brand, and consistent content in order to generate a meaningful and consistent result.
As an alternative, to compress time to get to scale, firms could consider an acquisition. Buying a business, if done right, accelerates the path to scale and expands the base upon which you can experience organic growth. There are a number of things that need to be done to prepare for acquisitive growth, with funding being one. There are a number of ways to fund acquisitive growth; equity investment (which requires diluting your shares), and debt (which carries an interest cost but allows you to retain ownership).
Equity investment can look appealing; an investor buys some of your firm’s equity (if you can offer them a big enough opportunity) and that capital is used to fund growth. Your investor is probably not going to demand a dividend while the critical growth phase is happening, and they may not want a controlling stake in the firm. The downsides of equity funding are not always obvious, but they do exist. Your investor is focussed on maximising the return on equity and as such, they will favour the business model that produces the highest return. This can change the way the firm operates and can affect the service provided to clients. At some point, a discussion around maximising returns will arise, so you will need to be prepared for it. Despite their apparent ‘minority’ stake in your firm, they probably do have the ability to compel you to adopt their chosen business model. Few equity investments are made without a shareholder agreement that vests significant influence or control with the investor. You will also need to ensure that your investor shares your desired exit timeline and terms. If you can find an investor that truly matches your requirements on these items, you are one of the fortunate few. Either way, you will need to sacrifice control if you want equity capital.
Using your own equity to fund acquisitions will require you to bring more of your personal assets into the business at a time when you may be wanting to diversify your personal risk and invest in lifestyle-related assets like your home, etc. If you have been a firm owner for a while, at some stage you want to enjoy the fruits of your labour.
One way to avoid giving up control and maintain your diversified asset base is to consider debt as a means to fund acquisitions. Most IFA owners have never used debt, because they’ve never considered it, possibly because it has not been readily available either. The cashflow position of most firms is strong and, but for acquisitions, there are no capital expenditures. As such, debt has not been needed. Funding acquisitions is one of the rare situations when you have a legitimate need for debt. As ever the keys to raising debt are serviceability, security and surety, which you can read more about in a future blog. Unfortunately, IFA firms have struggled to secure funding in the past and it’s one of the main reasons why Vertus launched in collaboration with Transact. Through our collaboration with Transact and the fact that funding IFA deals is all that we do, we can focus our security on the advice firm which distinguishes our funding from any other sources that may be available.
If you want to know more about how to prepare for acquisitions, you can download our guide below.