Focus Financial is pushing shareholders to take a take-it-or-leave-it private equity offer worth about $6 billion -- including $2 billion debt assumption -- despite a break-up value near $10 billion

One of the oldest private equity firms in the world is making its first foray into financial services with a reported $4.1 billion offer (plus assumption of maybe $2 billion in debt) for Rudy Adolf's Focus Financial Partners. 

Clayton, Dubilier & Rice (CD&R) of New York City made a "best-and-final" offer of $53 per share – enough to gain it exclusive negotiating rights. The stock (FOCS) closed today (Feb. 2) at $50.01, up $3.74, or 8.08%. 

"Given this is an exclusivity agreement, we do not expect a competing bid, and believe a definitive agreement is the likely outcome," BMO analyst James Fotheringham wrote on Thursday (Feb. 3). Fotheringham previously had a “target” price of $55 and lowered it to $53.

The private equity firm is best known for buying retail service firms like Hertz, Brake Bros., FedEx Office, Uniroyal Goodrich Tire Co. and Lexmark.

But the deal appears to be too good to pass up, if not much to brag about, considering Focus is freighted with debt. The offer likely falls well below the breakup value, pegged at $10 billion.  

It's a bitter pill to swallow but sweeter than some alternatives, says Matt Crow, president of Mercer Global, an RIA M&A valuations and research firm in Memphis, Tenn. 

The $4.1 billion valuation suggests it is worth more dead than alive. Just one of its 100-plus RIA firms – Buckingham – is likely worth more than $2 billion, Crow says.

Indeed, a quick glance at Focus Financial suggests it has a breakup value of about $10 billion. Focus shareholders have a claim to about $6 billion, according to Brent Brodeski, CEO of Savant Wealth Management, which has acquired 17 RIAs with $14.3 billion in assets under advisement.

Divvying the pie

“The $33 IPO and $53 takeout represents about an 11% return while they were public,” Crow says. 

“That’s better than the major U.S. indices over the same period, but not the kind of ROI they seemed to be hoping for when they went public.  

"Almost all of that return is coming from the deal premium.  The $53 price is about what FOCS was trading for a year ago,” he said. 

Shares hit a 52-week high of $54.61 last February.

Though the offered price only restores the valuation to where it stood a year ago, Focus Financial published a press release  today (Feb. 2) to offer a more glass-half-full perspective.

“The contemplated purchase price of $53 per share represents a 36% premium to Focus's 60-day volume weighted average price as of yesterday's close,” the company stated in its corporate release.  

“And [it's] a 48% premium to Focus' closing stock price on December 28, 2022."

Deal squeeze

Focus also disclosed that the exclusive bidding rights were granted after other potential bidders rebuffed it.

"On December 28, 2022, the day the Special Committee specifically authorized its financial advisors [Jefferies LLC and Goldman, Sachs & Co.] to broaden their outreach and contact other potential bidders regarding interest in a definitive transaction,” it writes.

Funds managed by Stone Point Capital LLC are considering retaining a portion of their investment and providing new equity financing as part of the proposed transaction, the release noted. See: Stone Point and KKR buy Focus Financial for $2 billion by employing massive leverage

The deal would be "subject to negotiation with CD&R of definitive agreements on mutually agreeable terms,” it added.

Much of that is likely banged out already, Fotheringham suggests in his report.

"We see a fairly high probability of CD&R closing," he writes.

Hard place

In back-of-envelope figuring, RIAs hold the other $4 billion of value because RIAs typically only sell 50% of their cash flow to Focus, Brodeski says.

The owner of a rollup competitor who asked not to be identified offered this analysis in an email: 

“Figure $350 million-400 million of EBITDA even trading at 12.5x is a 20% premium and my guess is Buckingham is one-quarter to one-third of the EBITDA, and that would fetch $2 billion alone easy plus Colony, SCS etc, plus all the small firms.”

Yet Focus – and perhaps its oligopolistic competitors – may not be in a place to realize their intrinsic values on their own, says Brodeski, who plans to purchase seven to 10 RIAs per year in coming years.

“Focus is in a tough place. CI Financial is in a tough place. Hightower just raised capital on not so favorable terms.”

Toronto's Globe and Mail newspaper published an unflattering article, Jan. 27, criticizing CI Financial Chief Executive Kurt MacAlpine for his “growth at any cost” strategy. 

In just three years, he built a $2.85-billion empire of 30 wealth management firms, nearly all in the United States. Then, he moved its headquarters to Miami while leaving a mountain of debt behind in Toronto. See: CI Financial will cut off U.S. RIA unit from Canadian cash infusions as part of 2023 IPO but with a giant parting gift -- total forgiveness of its substantial mountain of debt

Before a rebound in recent weeks, CI stock was trading at pre-COVID-19 levels last seen in 2012, the article noted.

Need to compete

It's hard for the Focus sale not to elicit introspection, Crow says. 

“I’m not suggesting that a Focus going-private event is an existential crisis for RIA aggregators, but it’s a case study worth considering.”

It's absolutely an existential threat to the big non-operating style rollups because the game has changed radically in the past 10 years.

For years, he says, these pioneering large aggregators could procure cheap capital and buy succession and liquidity-minded sellers for six to eight times cash flow. 

Now deals are getting done nearer to 20X for RIAs with younger principals at a time when the capital is more expensive and harder to come by, Brodeski says.

The difficulty for these firms is that they need to compete in the marketplace with Creative Planning, Savant, CapTrust and other rollups that can afford to pay higher multiples because they can pull them into an operating company and grow them.

It's even harder for Focus Financial because it is a public company, Crow adds.

“As a public company, if you tell the market you’re going to keep debt under 4.5 times and you go to 4.51, everyone freaks out.  

"As a private, you tell your board and move on. Still, dealing with analyst scrutiny is part of the process of proving a business model,” he explains.

Rollup turmoil

It's definitely part of the process to keep debt minimized, says Brodeski.

“My counter to [Crow's ‘freak-out’ observation]: Why would you ever have 4X debt? I couldn't sleep with that [even as a private operator].”

I’m not suggesting that a Focus going-private event is an existential crisis for RIA aggregators, but it’s a case study worth considering," says Crow. 

In another sign of rollup turmoil, Sanctuary Wealth today, (Feb. 2),  announced its founding CEO Jim Dickson has been replaced by Adam Malamed, the former chief operating officer of Ladenburg Thalmann, an independent brokerage and advisory firm.

Sanctuary grew largely by getting a Merrill Lynch guy in Dickson to recruit from Merrill Lynch. See: A 20-year Merrill Lynch veteran got Sanctuary Wealth to $10 billion in AUA in 15 months with no outside capital and no time in bed: 'Nobody's slept since April'

Malamed speaks the lingua franca of new-era roll-up leaders.

“I am a big believer in taking the best elements of a firm's culture and aligning it with an institutionalized strategy and scalable solutions that consistently elevate the financial advisor and client service experience,” he said in today's release.

“This is precisely what we will achieve together at Sanctuary going forward.”