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Buyout potential is riding high for broker bosses with an exit strategy

  • 05/08/2021
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Buyout potential is riding high for broker bosses with an exit strategy
Mortgage broking firms have become more attractive as takeover targets this year with private equity eyeing the sector and owners confronting possible increases in capital gains tax.


Tom Murphy, managing director at Fenchurch Advisory Partners, which has advised on major transactions in the mortgage sector, including L&C’s sale of a stake to Experian in 2017, said: “For a private equity firm, mortgage broking looks like an industry ready for consolidation. The market is buoyant and it’s a good time to sell.”

Meanwhile Olly Laughton-Scott, partner at Imas Corporate Finance, which has a track record in advising general insurance broking firms on transactions, said: “We are seeing a bubble in pricing. Prices are very strong at the moment because you have such low yields – people are desperately trying to find yield. 

“And, with the anxiety that capital gains tax rates will go up, now is a good time to realise,” he said.


Quality of business

For broking bosses who may be tempted to sell, the advisers suggest being aware of several key considerations.

The first and most significant factor a buyer will look for is quality of business, with a big part of this being about repeat business.

Laughton-Scott said: “If you can demonstrate you’ve built a loyal customer base over many years, and can say, of the business we’ve done this year, 70 per cent is repeat business, and 20 per cent from personal recommendations, that shows you’ve got a quality business.”

The key is to monitor where business comes from and to capture that information. Often this is done by using a customer relationship management platform and proactively monitoring renewal dates. 

Distribution relationships can be seen as enhancing quality too. However, beware lead generation arrangements that are based baldly on marketing spend. These are less attractive to buyers because they themselves could advertise to acquire business rather than buy a firm.

The second angle for a buyer is what are the business owners’ plans for when the sale is completed? Particularly where founders are in their fifties or younger, buyers tend to consider it a danger that the seller will re-enter the market and lure away staff and customers.

Murphy said: “For founder-led businesses, the intention of the founders after the sale is as important as customer relationships. Buyers will typically expect founders to stay, drive growth and help transition relationships to other people in the newly combined group.”

Most buyers will negotiate covenants to restrict sellers from starting up again. For owners in their fifties and sixties, these arrangements can take the form of retirement solutions where a lump sum is paid on completion followed by a payout spread over three to five years. 

“It’s important that any seller goes into it knowing exactly what they want to do after the transaction. If sellers are young, that’s probably a hurdle,” said Laughton-Scott. 

“Most buyers would probably look for you to stay in the business,” he added.


Compliance challenge

A third element of transactions – which has gained importance in recent years – is the ability of target firms to demonstrate high compliance standards. 

Laughton-Scott said: “When someone comes to buy your firm, if there are failures of compliance, there is an obligation on the buyer to report those to the Financial Conduct Authority (FCA). So it’s very, very important that people focus on ensuring their compliance is to a high standard.

“If compliance is very poor, the buyer will not proceed,” he said.

With the FCA’s focus on quality of advice, the emphasis when selling is on ability to demonstrate this. “Make sure your house is in order and you have all the right documentation to show the client journey. Your client files need to be sufficiently detailed and up-to-date,” Murphy said.

He added that emerging risks such as data protection and cyber risk are also increasingly under the microscope in retail firms’ takeover deals.


Productivity metrics

Finally, the target firm’s financial records will be under scrutiny from buyers. 

Profitability has become the key measure for a buyer when assessing the value of a firm. Ebidta (earnings before interest, tax, depreciation and amortisation) is the preferred profitability measure of private equity firms.

Management accounts will show how revenue and costs are evolving, as well as key productivity metrics.

While metrics vary by size of business, they typically include revenue per adviser, lead conversions to completion, repeat business percentage, protection product penetration rate, operating costs and margin.

Revenue per adviser remains a significant measure, but has become less used as a valuation tool in recent years as business practices have become more transparent.

Where buyers paid multiples of income in the past, based on the assumption that they could increase fees, this is now less true.

The final point on valuations is that business owners should try not to be distracted by the prices paid for fintech firms.

Laughton-Smith said: “Fintech is very distorting. People look at them and think, ‘well if they’re worth that, I’m worth this.’ But what they are selling is a completely different proposition. In most cases, those propositions may well fail, but there will be some who will be unicorns and that is why they attract such values.”

Both advisors added – as any good mortgage broker themselves would say – that to get the best deal, it’s a good idea to take advice.

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