Cetera factor dampens M&A activity among independent broker-dealers
January 19, 2015 by Bruce Kelly
Cetera Financial Group chief executive Larry Roth last year articulated a grand ambition, saying he fully expected to have 20,000 brokers on board in five years, or nearly double the 10,100 advisers in the firm’s network.
But the broker-dealer, put together in seemingly lightning speed thanks to the checkbook of nontraded REIT czar Nicholas Schorsch, took an unexpected turn in October. That’s when one of Mr. Schorsch’s other companies, American Realty Capital Properties Inc., announced it had intentionally not corrected a $23 million accounting error during the first half of 2014. Two senior executives resigned from the REIT, and then in December, Mr. Schorsch resigned as the REIT’s chairman.
ARCP’s accounting error has cast a shadow over all of Mr. Schorsch’s holdings, including RCS Capital Corp., or RCAP, Cetera’s parent company. Mr. Schorsch also has resigned as chairman of RCAP. At least one executive questions whether RCAP can get back on the acquisition track.
“The uncertainty in that whole organization could make it difficult for a small broker-dealer to sell to [RCAP] and then tell the reps why the deal is good for them,” said Eric Schwartz, founder and chairman of Cambridge Investment Research Inc., one of the largest independently owned broker-dealers in the country. It could be challenging to do acquisitions as long as companies associated with Mr. Schorsch are putting out fires, he said.
“If it blows over, the network could rebound and be a big player in the industry again,” Mr. Schwartz said. “Reps, like the stock market, hate uncertainty.”
Of course, RCAP is not the only firm engaged in the M&A hunt for IBDs. In 2015, high costs of technology and compliance will continue to force small broker-dealers to sell to large firms that have the scale to afford the bells and whistles broker-dealers need to compete. As RCAP and Cetera try to regain their footing, other players could take advantage of the void.
Mr. Roth declined to be interviewed for this story, but in an email said the firm’s mission is “to help advisers on our platform accelerate the growth of their practices and enhance their ability to align the best possible solutions and services with client needs.” He added the firm has a retention rate of 97% and a “very robust recruiting pipeline as we move into 2015.”
Cetera, in fact, has two deals still pending from 2014. The firm is awaiting regulatory approval to absorb VSR Financial and Girard Securities, which would push its adviser headcount to about 10,750.
One lingering effect of RCAP’s acquisition binge is a run-up in the prices for targets. Not including pending deals, RCAP paid $1.45 billion in cash and stock for $1.63 billion of gross revenue in 2013. That translates into 89.3 cents for each dollar of broker-dealer revenue. That’s clearly outside the historic range of prices for IBDs, which have been valued at 25% to 75% of annual gross revenue.
Two broker-dealers that have been active acquirers in the past, LPL Financial, with 14,000 advisers, and Ladenburg Thalmann Financial Services, with 4,000, are in no rush to buy.
LPL declined to make someone available for this story, but pointed to CEO Mark Casady’s comments in July during an analyst conference call. “Our general assessment is the prices of today and the quality of what’s on offer are not the right [broker-dealer] transactions for us. As simple as that,” Mr. Casady said.
“I don’t see that outlook changing in the foreseeable future for us, and so that lets us put capital to work in a different way,” including buying back stock, he added.
Ladenburg Thalmann, which announced two IBD acquisitions last year, is regularly speaking to other firms and sending out feelers.
But it is in no rush to make an-other deal, according to Richard Lampen, president and CEO.
Regarding the impact of RCAP’s spate of acquisitions on the overall market for mergers, Mr. Lampen said, “There’s an awareness of the transactions that have occurred, and firms have the opportunity to pursue them. We are extremely comfortable with our business model. [Cetera and RCAP] haven’t made it impossible for us to acquire deeply good companies.”
AIG Advisor Group, however, plans to be aggressive in broker-dealer M&A this year.
“Our pipeline is very full from an acquisition and recruiting side,” said Kevin Beard, executive vice president of recruiting and acquisition strategy. “I believe we are going to have a few strategic acquisitions in 2015 that fit into the Advisor Group and will be partners for the long term.”
Mr. Beard declined to give more details about potential deals but said that AIG Advisor Group, with 6,100 advisers, is focused on smaller broker-dealers, with annual revenue of $5 million to $45 million.
KEY DRIVER
LPL, Ladenburg Thalmann and AIG Advisor Group have been acquiring for several years. That is not the case with RCAP. Almost overnight, Mr. Schorsch became the key driver in IBD mergers and acquisitions.
Beginning in June 2013, he built the network with a flurry of deals. He flew brokerage executives to New York to visit RCAP offices on Park Avenue, or wined and dined them at an RCAP outpost in Newport, R.I. And once into negotiations, broker-dealer owners and executives often did not refuse him.
At times it seemed as if Mr. Schorsch couldn’t help himself.
On Jan. 16, 2014, the day RCAP announced his linchpin deal — the $1.15 billion, all-cash purchase of Cetera — he said he would take a break from deal-making. The next day, RCAP announced it was acquiring another IBD, J.P. Turner & Co.
QUESTIONS
Cetera and the nine broker-dealers in its network face a couple of vital questions as they begin the next phase of growth, according to industry executives.
• How will reservations about Mr. Schorsch affect Cetera’s growth, particularly in mergers and acquisitions — the quickest way for a broker-dealer network to bulk up?
• Will a new compensation package for independent third-party recruiters prove enough of an incentive this year for them to steer advisers to Cetera’s broker-dealers?
Despite the distractions and the questions about growth, Cetera broker-dealers remain stable, executives and recruiters said. About half a dozen Cetera advisers did not respond to phone calls seeking comment.
“Advisers, in general, don’t move until the whole thing unravels or their backs are against the wall,” said Andrew Daniels, managing principal for business development with Commonwealth Financial Network, a leading IBD that does not buy other broker-dealers.
“If you look at the history of advisers’ having a mass exodus, it happens when the firm is at a tenuous moment … and advisers admit they can’t afford to stay,” Mr. Daniels said. “The Cetera folks are not nearly at that point. They’re sitting there and saying, “Let’s see how this shakes out.’”
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