In this week’s blog, we’ll be covering a recurring theme we see at IFA Acquisitions and that is the difference between a share sale and an asset sale. A topic taken from our recent YouTube video “Contracts in IFA Acquisitions” which is part of a wider collaborative series with prestigious UK law firm Herrington Carmichael.
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Gary asked Alex “Alex, financial services companies have a unique set of issues from other industries, particularly around the complex payment mechanism from recurring income, which is of course governed by financial conduct authority rules. What’s your involvement in assisting the process of making sure that this is covered in contracts?”
Alex replied “The key thing for us when we’re looking at the payment structures is clarity and making sure that it’s very clear what you’re getting paid, how are you getting paid it, when you’re getting paid it. The concepts of recurring revenue and EBITDA, or funds under management (FuM) are quite subjective I’ve learned over the years. Different buyers categorise things differently and different sellers categorize differently too. We see a number of different variations of what, actually, is the same thing. So, when it comes down to looking to purchase contracts, one of the most important things is making sure that you’ve got clear definitions that talk about recurring revenue, EBITDA or whatever the adjustment basis is for your transaction. Now, when we talk about recurring revenue, there’s lots of different kinds of things like old fashioned trail that people sometimes say are excluded, but actually a lot of sellers are expecting to be included because that’s how they value the business and put figures forward initially. So, for us having that conversation early on and making sure that it’s clearly set out is important. Similarly, from an EBITDA perspective, making sure that you were very clear about what adjustments would apply. As we all know, profit can be manipulated in 101 different ways, so making sure that you’ve got clarity on what adjustments and add backs might apply. And I think that’s particularly important if you are dealing with a buyer who has private equity backing because we tend to see EBITDA being used more frequently with those sorts of buyers than, say, smaller industry buyers. Now where funding is being raised by the business, obviously finance charges and things like that can apply within the various different companies that are being bought. So, for a seller’s perspective, making sure that they’re very clear how or what, if any, of that cost is being shared by them and what impact that could have on their purchase price calculation is critical. So at the outset, one of the first things we look at when we are reviewing a purchase contract is looking at that payment structure, because that is what’s going to be ultimately key to the seller on what is driving them to have got to that stage of the transaction. I think the other thing just to add around the payment profiles is making sure that there’s a level of reasonable protection in the purchase contract as well so when a buyer takes over the business, they are effectively in control. So they have the ability to move clients around their group potentially, they have the ability to even sell clients on and resell them! So making sure that your sales agreement puts appropriate restrictions around that, so that your calculation which is a variable element isn’t manipulated to your disadvantage and for the seller, it is important to make sure that where you’ve got a situation where clients can be moved around a group or where the buyer plans to consolidate your client into another entity, that the definitions are suitably broad to make sure that it captures all the revenue from your clients that goes into the buyer’s group rather than just into the company.”
Gary “We talked earlier about the length of time the FCA are taking these days on change of control and how appointed representative (AR) agreements are being used more now than they were before for post-sale. What’s your experience of drafting those? And I hear the term SUP 12 of the FCA handbook – what does all that mean?”
Alex “AR agreements are used in a variety of different structures. We see buyers who will acquire directly authorized firms, deauthorize them and make them an appointed representative of a central directly authorized entity.It’s to clean up that structure more than anything else. We also see some structures where firms are being asked to de-authorize before sale and then become an appointed representative at the point of transaction, but appointed representatives are effectively relying on their principal firms’ permissions. So, a directly authorized firm appoints another firm to act on its behalf and trade in its own name under an appointed representative arrangement. Now from a transaction perspective, appointed representative agreements need to be put in place if those structures are being used at the point of sale so that everybody knows what the parameters are, making sure that it’s compliant and making sure that if there’s any fees and things that are going to be due within that, the structure is clearly set out. Similarly, from a regulatory perspective, in making sure that is a compliance agreement is important. So, you mentioned the SUP 12. The key thing there is that it’s effectively a section of the FCA handbook which sets out a list of specific requirements that all AR agreements have to comply with. So as part of drafting any agreement, there’s making sure that that it complies with those requirements and that they’re sufficiently clear so that if challenged or inspected that it was passed muster with the FCA”
Contracts in IFA acquisitions can be a daunting aspect for both sellers and buyers but knowing who you can go to for help with this can be reassuring when in the acquisitions process. Please feel free to contact us to discuss any of the contents of this weeks blog:
- Phone: 0208 0044 162
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Herrington Carmichael disclaimer
This reflects the law at the date of publication and is written as a general guide. It does not contain definitive legal advice, which should be sought as appropriate in relation to a particular matter.
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