Forte Asset Solutions

The expertise of Forte is forged from the personal experience of Steve Prendeville selling his own national Dealer Group and Financial Planning Business Deloitte Financial Services in 2001 when he was a partner of Deloitte Touche Tohmatsu. Steve was the founding partner of Kenyon Prendeville in 2003 and in May 2011 Steve sought to evolve the business model to the next level and created Forte Asset Solutions.

Thank you for your continuing support.

Steve Prendeville
Director

Forte Asset Solutions
Tel: 1300 858 996
Email: steve@forteasset.com.au
Web: www.forteassetsolutions.com.au

July 2012 Market Commentary:

Market backdrop

We continue to experience significant market volatility and uncertainty with fear being the pervasive emotion. This leaves the industry becalmed with any new investment focusing on cash and Australian Fixed Interest and Bonds. Defensive assets are the only sector experiencing new funds flow. We are seeing new annuity/income products being designed and this is acting as a stimulus for enhanced client services offers.

The fee for service push, has received another boost above FOFA and this is the ability to receive fees irrespective of asset allocation and solely dependent on strategy and management. Thus the ability to receive fees on cash and term deposits, paid by the client and not product manufacturers. For the client this results in active management of an asset class that was once over looked and underserviced. We are seeing more practices take up non percentage asset based fees in preference for set service fees however these are a still a very small percentile to the total industry.

A Period of Innovation in Software

Whilst as an industry we have been becalmed and at times felt under siege over the last 4 years this has been a period of great innovation. This is especially evident in the growth of proprietary software. With profitability stagnant and somewhat declining, there is an industry search for systems that facilitate the need for greater client engagement and increased productivity and profitability. With the domination of software by primarily 2 providers we have seen principals design their own in house software in areas that they have felt unsatisfied. One example of this has been in the area of client engagement using Bill Bachrach’s value based philosophy. This tool enhances client engagement with software that looks like an iPhone application and is almost as easy to use. Clients can access their own secure online file which includes cash flow, assets, debt and all components of their planning needs. Clients can use their online file personally and/or in conjunction with their financial coach or personal CFO. It also enhances compliance because of the active client participation. This tool elevates the review dialogue above investment performance to progress of achievement of multiple goals – lifestyle, bucket lists, health, estate planning and other equally important issues from the client’s perspective. This tool has been generating significant referrals for the principle and it is about to be brought to market after a trial test of an early adopting Dealer Group.

Other software solutions are coming to market specialising in the areas of practice management, commission/fee tracking and workflow systems and processes, risk profiling, asset allocation, automated and short form Statement of Advice, secure document storage and all linked to existing or new administration platforms specialising in the IMA/MDA and UMA space. The next evolution of software is about to emerge driven by the need for greater client engagement and demonstration of value as well as the need for increased productivity and profitability.

To survive the industry recognises the need for scalable, profitable advice which can only be enabled by software. Most businesses have still not recovered from 08 highs and are on average still down 20%, a common theme or lament is “I’m doing more for less”. However there are some great success stories and what these success stories have in common is getting back to clients in the style the client seeks – social media mixed with face to face and working niche’s and becoming expert in a certain markets – medico’s, pharmacies, public servant superfunds etc. Principals have addressed the challenge and have gone back to their roots of business development and in some cases, even having fun. I stress these are a minority with the vast majority of the market hunkered down and just trying to wait it out.

A recent conversation is symptomatic of the current market dynamics “I need to buy or I need to sell. “There is more going out than coming in, so I need to increase revenue by acquisition or if not, I need to partially or fully sell.”

There is significant demand for books of business especially around $200k of Recurring Revenue. The Purchase Price of $600k with debt servicing of $60k per annum creates free cash flow of $140k and upside potential for cross selling and full utilisation of the current team. A book buy means no costs associated with personnel or leases etc. Forte would be receiving 2 enquiries a day for books yet we are only acquiring new sellers of one or two a month.

Supply and Demand

There is a significant imbalance between supply and demand and this has been created for multiple reasons – the supply is limited due to principals deferring their retirement given that their revenue and business value has dropped, simultaneously with their superannuation funds, and they are waiting anxiously for markets to recover. Dealer groups are extremely protective and are seeking to organise internal transactions, or attract external buyers to join so fewer practices are coming to the wider market.

Dealer activity has increased substantially with one institution having six personnel in just the Victorian market mandated to go out and buy books of business or recruit new practices and FUM. This hyper activity is due to the war that has broken out between two dominant players and also the universal need for growth. If there is no new FUM then you must cannibalise existing FUM. This has become more desperate with the changing face of distribution – due to M&A activity there are few “independent dealers” and now, it has been reported, 90% of FUM is in the hands of 5 institutions and this domination will continue with most independent dealer groups for sale at the moment. Therefore for manufacturers there are diminishing external sources available for new FUM generation.

It is false to assume that institutions are the buyer of individual practices or books, they are the broker, they will acquire but only if they have a buyer who can service the client base and then on-sell or they take a minority interest. Either strategy provides them the growth of FUM and also surety of contractual adviser retention. This strategy is not only successful in adviser retention but also recruiting advisers/practices to the institutions as they can supply growth and any port in a storm will do, especially if it is a large port. The reality is the institutions do have a very competitive and high service offer that many of the smaller “independent” dealers cannot possibly compete against. Smaller dealers compete on the intangibles of culture, “independent” value proposition, open architecture or choice. Yet this value proposition is being challenged as FOFA forces dealers down the value chain to providing their own funds management and platform offers and therefore restrict adviser choice. However smaller dealers will adopt a “best of breed” philosophy regarding the underlying participants, who they can change if need be.

Forte has in excess of 2,000 registered buyers of which 60% have nominated they would change dealers for the right opportunity, this is why the institutional dealer groups have been so successful. For practice principals it is simply about scale for survival, not who you are licenced by.

This raises the often asked question, are we seeing the death of “independent” or boutique advisers. The answer is Yes and No. Yes for the present but No in the medium to longer term. I believe as markets and practices return to normal growth levels practices will seek a point of differentiation as will consumers and we will see the return of boutiques. At times it feels like Back to the Future 2001 and Financial Services is certainly experiencing a deep and protracted recession but without the buffer release of superfunds across the wider community.

FOFA Environment

FOFA legislation was passed and became effective from 1 July 2012, however there has been a transition period introduced which delays the commencement date to 1 July 2013. Unless your licensee elects to comply earlier – as there is still considerable doubt regarding the implementation of the FOFA regulations, it is not expected that licensees will be rushing their early applications to comply with ASIC.

ASIC have indicated that they will release details of how the new FOFA regulations will be

administered before the end of 2012.

The questions currently awaiting answers are substantial and the consequences are significant. One of the questions that licensees are anxiously awaiting confirmation from ASIC is the treatment of Volume Overrides.

Q; Are new clients invested post 30th June subject to volume overrides – if not is the margin retained by the platform, discounted to the client, and can the override or bonus only be received by the dealer and not be passed to the adviser.

A; There is a ban on the payment of volume payments from platform operators to AFS licensees. “Grandfathering” of existing volume payments has been introduced for amounts received under agreements in place as at 30 June 2012. This appears to indicate that volume payments will continue for existing client portfolios, but frozen at 30 June levels – in other words they cannot increase they only diminish over time. New clients cannot contribute to volume bonus.

The Government has indicated on their website that “grandfathering” applies to payments made to “financial advisers” – we assume that this means the individual adviser and not just the licensee.

There is still the question regarding an adviser who currently receives some volume bonus courtesy of the largesse of their licensee, moving to a new licensee – would the volume bonus entitlement move with them? It is expected this will be allowed, however if not, this would restrict the movement of some advisers between licensees and may change practice valuations.

As stated we await the ASIC information release with keen anticipation.

Q. Will the product provider discount their fees to the new client to compensate for the fact that a volume bonus is not being paid on their account balance?

A. If there is a reduction in product fees it will be because of competitive pressures between providers, not because of the altruistic motives of funds managers or platform providers. The removal of volume bonus payments on new clients just gives the product provider a degree of flexibility to adjust as needed.

We are seeing some licensees establishing their own products by becoming a Responsible Entity and having an existing product provider provide their services wholesale. This enables the licensee to provide a similar platform but to participate in some of the product fees – effectively replacing those fees previously received via volume payments.

Q. If an adviser belongs to AFA or FPA, will they be exempt from the “Opt-in” requirements?

A. The answer is yes, probably. Their respective codes of conduct will need to meet ASIC requirements to be exempt. Both bodies are in furious discussion to finalise their codes and submit them to ASIC for approval. There will undoubtedly be activities within the codes that an adviser will be required to adhere to in order to enjoy the exemption – once again we are in wait and see mode.

This is undoubtedly a boon for membership for both associations – the alternative to membership is to meet the requirements.

Remember that whilst an adviser might be exempt from the “opt-in” provisions there will still be a requirement to provide an annual disclosure notice to clients outlining fees charged and the services provided in the previous 12 months.

This will require an administrative process to be developed within the adviser’s office to meet this requirement – most advisers will include this with their normal client meetings.

Licensees of ALL shapes and sizes are starting to appreciate that, in order to meet FOFA disclosure requirements, they must start with a clear view of 100% of revenue by client – and further be able to efficiently link together the revenue from relationships those clients have with other clients, businesses, trust and super funds. They are also coming to realise that waiting for a product provider to come up with the Fee Disclosure response is not acceptable, as their clients often pay direct fees for service, or hold assets and insurance policies that earn revenues across a number of providers. This communication and compliance dilemma is being responded to by niche software providers.

Note Comments on FOFA legislation supplied by Steve Murray of Catalyst Compliance

The uncertainty of FOFA continues but not to the same fear factor experienced in the 6 months to November 2011 and we have seen the practice valuations return to normal, but with a twist.

Market Prices for the period Jan 1 to June 30th 2012

Valuations and negotiations have become more sophisticated with individual revenue streams attracting different multiples and for the first time we saw pricing reflect the depth of client engagement, rather than applying a blanket multiple over the total recurring revenue stream.

*These multiples are averages on multiple transactions over the period of Jan 2012 to June 2012 and as such individual transactions can create distorted reporting. Any transaction is done by negotiation and prices reported do not provide full clarity of value. One transaction valued clients using a range of 1 times to 3 times dependent on client engagement and amount of revenue generated ( +/- $300 recurring revenue) and this was accepted as 80% paid upfront and deemed not material, it was in context of a wider succession strategy. An institutional transaction buying in a regional area valued clients on an individual basis and had terms of 50% upfront and 50% paid in 90 days dependent on client retention so a lower multiple was accepted given risk mitigation and net present value.

With pressure on practice valuations in these times of uncertainty, preparing a business for sale is crucial in order to maximise value. With the support of Forte and third party software providers, vendors are being encouraged to develop more robust CRM metrics and more detailed analysis of revenues. This approach is working to give buyers a clear view of the revenue stream assets they are acquiring. It is also giving buyers a higher level of comfort that they will be able to retain more clients, and maximise opportunities that the new client relationships bring. In turn, this drives higher valuations for sellers of income streams and – importantly – the knowledge that the transition can occur more quickly and smoothly for the seller.

No transactions were done on an EBIT basis but current negotiations on a couple of assets would suggest a range of 5 to 6 times depending on the risk strength of profit maintenance.

Service Enhancement

Forte has been very conscious of our need to enhance registered buyer services. Given the speed of a practice or book being listed and then closing due to entering negotiations many buyers are feeling frustrated that they were interested but by the time they nominate their interest the asset has been taken off market. To provide instant notification of opportunities coming to market we will be using Twitter and LinkedIn. To provide instant notification of opportunities coming to market we will be using twitter (follow us on Twitter, http://twitter.com/forteasset) and LinkedIn. If you wish to receive notification please follow our company profile on LinkedIn. The link is http://www.linkedin.com/company/forte-asset-solutions.