Borrower Briefing by SkyView Partners

Mike Langford:

Hi everyone. Welcome to the January, 2023 borrower briefing by SkyView Partners, where we will be diving into the state of the lending market for RIAs and independent financial advisors. My name is Mike Langford, and I'm the host of the "Advisor Financing Forum" podcast by SkyView. Today, I'm joined by Chris Jewett, one of the co-founders and a managing partner at SkyView; and Nick Barker is back, SkyView's Chief Banking Officer. As with our prior webinars, you can expect a vibrant and conversational experience today that is designed to make the topic of commercial lending for financial advisory businesses approachable for you and your business partners.

Before we get started, please remember to subscribe to the "Advisor Financing Forum" podcast on Apple Podcasts, Spotify, Google, YouTube, or wherever you like to get your podcast jam on. We will be posting a recording of this webinar on those feeds just in case you want to listen to it or watch it again. If you have a question about the topics covered in today's webinar, or something more specific about your financing needs, please swing by SkyView.com, or call (866) 567-6282, and the SkyView team will be happy to walk through the options that are best for you and your business.

Okay, let's get to it. Great to see you, Chris. Nick, how's it going today?

Chris Jewett:

It's going great. Yourself?

Mike Langford:

It's fantastic, man. I got through that intro, maybe a little bit choppy, but I'm [inaudible 00:01:50] here. By the way, for those-

Nick Barker:

We're proud on our end.

Mike Langford:

You should be proud of your end, it was great. For those of you who noticed the train in the background of Chris's mural, we actually had a real train coming through right before this recording, very excited. Hopefully, we're bringing the thunder here for our audience today, really looking forward to it. Let's go ahead and dive in. Why don't we start things off with a bit of a state-of-the market update. It's January, 2023, rates are quite a bit higher than they were last year at this time. How has the lending environment for RIAs and independent financial advisory businesses changed in response to rising rates?

Nick Barker:

Definitely a great question, rates are a little bit higher than they were last year. In terms of lending environment, we've really seen minimal impacts to deal flow on the advisor side, and I'd actually say an increased interest from the funding institution perspective. From the funding source side, many of the other lending verticals that they're operating in, like commercial real estate, are struggling right now with the increase increased rates, relative to 12 to 24 months ago. A lot of those projects are infeasible now. With that, we've really not seen a negative impact on the funding side, or on the advisor side, as it comes to the ability to fund these opportunities.

Chris Jewett:

I think you also have the area here where, on these types of loans, cashflow loans, and actually appreciating assets versus depreciating assets, when you're borrowing money on these types of transactions, the difference in rate, whether it be 5% or 8%, doesn't move the needle too much on your actual, "What is the rate of return on your investment here?" Obviously, it touches the cash flow here a little bit, so we can look at that. The actual ROI when an investment advisor is buying one of these practices versus other asset classes out there, it just doesn't move the needle that much from how that, again, 5% is to the 8%.

The other thing that Nick talked about a little bit is, these funding institutions are in need of putting money to work, because some of those other verticals just aren't as attractive, or calling for lending. It's put more banks' eyes on this space, or more of our funding partners to have more of an appetite for these. It's actually a great time, as a borrower, to be able to get the most amount of eyes on these things, to potentially have the most creative solution and/or find the right partner for them, as they're looking to grow their business.

Mike Langford:

I think that's a really good point, Chris. It's just so basic, when you think about it for a few seconds, these companies are in the business of lending money. They want to lend money. It did not just dry up, the fact that they're looking to put money to work. Obviously, there are a few changes that happened. Maybe they're looking a little closer at which businesses to lend money at than they may have been in prior times.

Let's dive into your perspective at SkyView. We're coming off a period where rates were at historic lows, the fact that we saw a lot of borrowing in M&A activity, or for other use cases in the industry, shouldn't surprise anybody. When money's cheap, everybody wants to borrow it. Now that rates are closer to historic norms, what are you and the team at SkyView doing differently than maybe you had done over the last couple of years, if anything?

Nick Barker:

One of the things that we're really trying to do now is focus on options, because everybody's different. One of the changes that we made across the board, that we think benefits everyone, we started pegging our rates off of the treasury instead of Wall Street Journal Prime. Really, we did that in an effort to alleviate any timing pressures that might happen surrounding Fed meetings, and trying to get those closings. Closing a deal is already difficult, we want to make sure that we alleviate any outside pressures that we can, much like rising rate environment, and having to battle with those timings.

Another thing that we've done is offering variable rate options, and shorter term loans for clients who'd rather participate in the interest rate speculation game. I think Chris can probably elaborate a little bit more on that, but two great options for clients if they want to go fixed, or if they want to go variable, and play the market a little bit.

Chris Jewett:

We laugh about the crystal ball. What does the crystal ball say, and what are rate's going to do over the next 60 days, six months, or whatever it may be? The conversations are starting to be there on the rate side of it. Are we starting to crest, or get to the top of the hill a little bit, from a rate deal? Some of the conversations are, would I rather operate in a rate agnostic world? I just want to fix the rate for a seven year type term, or 10 years, whatever the options may be out there. Or, do I think rates are going to be lower in the next two to three years? I'll take a little bit of exposure on what they think is the front side on the rates, with the bet in their crystal ball that rates will be lower then, so they get the upside in it. Over the term of the loan, it's going to be better for them.

Again, we don't know where that's going to be, but that's how we look at a lot of these things. A lot of these advisors/operators are trying to look at this from more of a business perspective, of how they're going to scale their business, and a lot of those things are looked at that way. To be clear, some of the things that have changed from the lender's perspective, or the funding institutions, they're more comfortable in this space. The structures or parameters at which they were willing to lend money a year ago or three years ago is vastly different today. It's actually not more restrictive because the market's gotten more volatile, or the market's down a little bit, or rates are higher. They understand these businesses better, they're more comfortable with them, they understand what a partner is, from a banking perspective, on helping them grow this appreciating asset.

It's changed. We continue to educate not only the advisor, or the independent wealth manager on how they can use this, but also, the funding institutions on how this asset class reacts. It's a constant education to both sides of it, because they're new working together.

Mike Langford:

You've mentioned this a couple of times, the funding partners that you work with are looking very favorable at this segment, and particularly now. As I'm sure many of the advisors in our audience will attest, there are a lot of negative news in the air right now. We're seeing some layoffs, I think Microsoft just recently laid off 10,000 employees, or something like that. Sales declines are happening in some segments. We are starting to see companies that never discounted their stuff before offering discounts. There's obviously an air of, "We're a little bit nervous in some segments of the economy." Yet, as you've been talking here Chris, SkyView's funding partners are feeling quite optimistic about lending to RIAs and independent financial advisory businesses. What's driving that optimism and confidence in this segment?

Chris Jewett:

COVID was a big part of it, to be frank. When COVID hit us, and when we went into lockdowns, a lot of their asset classes had to shut their doors, restaurants and all the types of things out there that weren't able to continue to create revenue to then not only pay their employees, but if they had loans, and everything else that was out there. That was something that nobody ever predicted. If you put together a business plan, and you put in there, "For a six month period, we're going to have zero revenue before you started that business", that would end up in the circular file, or the garbage. You just wouldn't do it. Everybody had to experience that, which is why the CARES Act came out, and all of these bridges to get everybody through it.

What happened was, our funding partners and banks in general, as they were watching these asset classes, as we went through one of the worst quarters in the history of the market, what they saw is how these things reacted in that, their cash flow continued. The stock market has only been closed more than three days at a time, once or twice ever. 9/11, it was closed more than three days, and maybe there was another time well before that, that I just don't know off of the top of my head. Again, the stock market continues to happen, the global economy continued to work, and the clients needed to continue to get advice, which these advisors give.

The cash flow nature of these businesses continued to produce, at which they're able to continue to not only pay their employees, but pay their rent, and pay their debts. From a funding institution level, they've gotten so much more comfortable with the recurring revenue nature of these businesses, that they're again willing to look at being not only more creative in the way they've done it, but more in line with how other verticals borrow money. Again, the nature of the recurring revenue, and the public markets funding this, it's made them more comfortable.

Mike Langford:

We were talking yesterday in our prep call for this webinar here, this is when advisors go to work. They start communicating with their clients. The really good advisors are reaching out to their clients, and their clients are actually looking for help. When they were panicking during the pandemic, "What's going to happen to my retirement fund, and my college fund for my kids," who's the person they're calling? Who do they want to talk to? The businesses, in some respects, have strengthened over the years, and that's probably true even though we're in a down market right now. That's likely strengthening the relationships as well. Are you seeing that as well, when you talk to advisors?

Chris Jewett:

We see it a lot. I've got a little different perspective than most, just because I was in the wealth management space for about 13 years in a prior life, in the early 2000s, '99 through 2012. What we talk about, and what we've explained to these funding institutions, most what I call good operators, or most borrowers, they grow in down markets. They grow in down markets because, exactly as you said Mike, clients are looking for advice. The clients that aren't getting advice from their advisor are potentially looking to hear from somebody else, they're willing to take that meeting. In an up market, they open up their statement every time, and they look at it itself, why would they need to talk to a different institution, to potentially give them advice?

The ones that work hard, they roll up their sleeves in down markets, again, they do well in that, and that's another thing that's helped the banks, the funding institutions, get comfortable with these spaces. As we've brought on more banking partners, or funding partners, and explained to them the nature, non-cyclical side of this, and that they actually grow in down markets, again, they just looked at us like we had three heads. They didn't believe us. They're bankers, they've got to try to figure out something wrong with everything that's out there. Nick's a recovering banker, he's laughing about this right now, that he works for us.

Mike Langford:

A recovering banker, I love it.

Chris Jewett:

That's what we call the guys that work here, guys and gals that work here, recovering bankers. They chuckle about it, I don't know if they really like it. Nick's going to try to call me a banker, and we'll just stop that right now, because I'm definitely not a banker. What the funding institutions have found, when they look at these, and we were telling them that the really good businesses will grow in down markets well past what the market has done to their business, now they're seeing it. They're seeing net inflows of significantly more than what the market has dropped. It's real to them, and it goes back down to the comparison I made to the COVID-type drop.

These businesses do well, the good operators, the people that are trying to scale their business not only through acquisition, but also do it organically in the way in which they grow clients. We believe that we're in a time that this is still a new vertical from the lender's perspective, but also from a borrower's perspective, them starting to understand how they can scale using conventional retail debt. We're early into this cycle, and we're in the education phase, frankly.

Mike Langford:

I love that you just teed up the segue for me there. Let's shift gears to the advisor, to the RAA and their perspective. We've talked a lot about the lender's perspective here, why they find this segment really attractive, but why is now the right time for those growth oriented advisory firms to consider using a commercial loan to acquire another business, or to use that capital to expand their business in other ways? Nick, the down markets which have likely resulted in some AUM decline for advisors, have they affected the multiples, or the growth expectations for the post M&A businesses that may arise from borrowing for that purpose?

Nick Barker:

Contrary to what you might think, the market going down would have a direct negative impact to these firms, it's actually not reflecting that on a valuation perspective. I think there are a couple of different reasons. One, to the great point Chris brought up a little bit ago, they like to add clients in a down market; and secondly being, these valuation firms do a great job of looking at historical operations, and then, future projected values and revenues. What they do is, they take all of those things and put it into one value. This blemish that's occurring right now is not really as impactful as one would think, because they're able to go out and look at historical trends of what the market does after a pullback, and look at the historical operations.

In terms of valuations and dollar amounts, that hasn't really moved too much. In terms of multiples, the demand is still there. We're as busy as we've ever been, and we're seeing transactions and competition more than we've ever seen. The multiples aren't taking a hit, either, and with those two things in tandem, we're really not seeing any negative impacts to values and sales prices.

Mike Langford:

Chris and Nick, are you seeing any decline in buyer demand? Prior to rates going up, I had several conversations with members of the team who were saying, "Listen, there's that 50 buyers to every one seller out there. Then, you get the list down smaller to, how many qualified buyers there are to one seller," not all of those 50 are qualified. Have some of the, let's call it pretenders if you will, washed out a little bit, and we now see higher quality on the buyer side?

Chris Jewett:

It's a great question, and to me, it goes with where the market is, and the volatility of the market, and almost how they run their businesses. If they're very emotional about how they run their businesses, and the way in which they talk to their clients, versus systematic, it's the same way that some of these people flow in and out of the buyer pool. If there's volatility in it, and they think multiples are too high, they're going to call and tell you, "I would never buy a deal at these types of multiples. I think people are crazy right now." As things settle down, they may come back. "I was a little dramatic on that, and I recognize now how these assets perform. I see most of them are trading at maybe a little higher multiple."

As I actually do my homework, and looking at the cashflow, and seeing the impact on maybe a little higher multiple, and maybe a little higher rate, and recognizing that it's not that big of a difference to what is their actual value over a seven or 10 years, after they pay off the debt, they'll settle down. Do we see the pretenders getting out? Yeah, but those pretenders still call, and say, "Hey, if you've got a good deal for me, call me." You and everybody else says that.

It comes back to commitment. I referred to this before, and I always refer to this, maybe over refer to it, the real operators, the real buyers are going to buy in down markets and up markets. It's like real estate people. They're going to buy class A properties all the time, whether values are up, or values are down a little bit. It's location, it's location, it's location.

That real operator says, "I'm going to buy revenue." Sometimes, the multiples are going to be higher than others, but it's not just the multiple, it's, how do we work together with that firm that wants to sell? It's also the seller. They want to make sure they can go get the highest multiple out there, potentially from a private equity firm or some large roll-up firm, but it may be important for them to be able to transfer their clients to that next generation of an advisor that's going to handle the next generation of the client. There are so many things, Mike, that feed into that marriage, that acquisition. There are still a lot of buyers out there, and not enough sellers, but this is still a demographics play, and we're early.

Mike Langford:

I like the fact that several times so far we've talked about not focusing too much on whether you're paying a bit of a premium, whether that premium is in the cost of capital, from the interest rate, or the premium is in the multiple. If your growth-minded, you're buying for the growth. That shifts us to the newco conversation. One of the things we've talked about on prior webinars, and on the "Advisor Financing Forum" podcast is that SkyView and your funding partners look at deals based on that newco valuation, if you will, the combined entity that will result from an M&A deal. We're not just thinking about, "Can this existing business afford to carry this much debt?" We're thinking about the new company that will result after this one company buys another company, or these two companies merge, can that one carry the debt? Will that company be able to grow?

Let's spend a few minutes there. Why is newco the driving force when it comes to your evaluation, and should advisors adopt this mindset as well? Should they be thinking more about, "What is my new entity going to look like" before they even get here?

Chris Jewett:

In this vertical, which is different than others, they do take the combined values, or combined revenues, or combined cash flow, and they will account for that pre-transaction, which, a lot of other verticals won't. That makes it different. The way that we like to think about it is, when a firm is looking at another one, they're wondering if they can buy a like-sized firm. Again, the numbers will tell us whether they can. We don't know the expenses of each side of it, but this is one of the few verticals or asset classes where, actually, a smaller firm can buy a bigger firm, because we combine the two together. I don't know if they can afford the whole thing, or there's got to be some sort of structure in there, but in most verticals, that conversation couldn't even be contemplated.

When we look at the combined entities, or newco, as you call it, it's a very important factor, because revenue buying revenue is accretive to the transaction, I always say. Our goal is to put the two together, and make sure that we aren't setting any types of fuses in there, or short term problems that's going to create an end of our runway faster than we want. Our whole goal, when we're advising clients on the debt side of it, what can this transaction afford from a debt perspective? How do we also make sure that we're able to continue to create runway out in front of us, so if or when that next transaction comes in front of us, we haven't tied our hands behind our back, we can't do it?

Newco is really important in not only getting the existing transaction done, but also having the foresight to be able to look forward in what that new thing may be, which again, is going to come back down to the right funding partner, and them understanding this asset class. We've spent a lot of time making sure we've gotten entrepreneurial-type banks in here with us, that can look at it this way. It's a big deal, newco, and making sure it's set up right not only for the transaction, but the future.

Mike Langford:

That's really smart. Nick, you've talked about this in the past, too. If you're thinking interest rates, and I'm just making up numbers off the top of my head, so these are not the actual numbers. Whether the rate's at 5%, 7%, 8%, 9%, the expectation is that newco is going to produce more growth than 5%, 7%, 8%, 9% over the lifetime of the new entity, so that it should absolutely be able to support it. Those rates really shouldn't be scaring off an acquisition partner.

Nick Barker:

Yeah, 100%. One of the things that we try to do a strong education on is getting these clients to understand that a 15 basis point rate change, even a 2% rate change doesn't make these deals not work. If you want to buy the practice, and you like the bones of the practice, the rate shouldn't be the thing that stops you from going and growing exponentially by acquiring this book. Chris and the rest of the finance team do a great job of actually walking through each individual opportunity with the client, and showing them that on paper.

Mike Langford:

Love it.

Chris Jewett:

Let me parlay onto that a little bit though, because I think that's a big deal. The numbers drive the conversation. We can talk about all the different things that we've seen or can do, but ultimately, it's those numbers of newco, or the businesses. It's not just talking about it, it's ferreting them out on paper, to be able to show them, and give them something concrete to be able to digest as we look at trying to grow them. I think Nick's spot on, showing everybody and educating everybody how these two companies work together to go forward. And the 8% or 5%, the numbers either work or they don't.

Mike Langford:

Great. Fantastic. We're pretty much ready to wrap it up here, but before I let you guys go, who doesn't like a little crystal ball time? As you look out at the horizon for the rest of 2023, what do you expect to see from the Fed? How do you expect that to impact the lending ecosystem for RAs and independent financial advisory firms? I think it's probably like last year. Whether the rates go up, go down, it really shouldn't affect deals.

Nick Barker:

I would say my crystal ball, pretty much like everybody else's, is probably pretty cloudy right now. The Fed expects to increase rates here, and it's going to be an increase and hold based on the last meeting, that's just what they're projecting. Like we've talked about with rates, and impacting these opportunities, we haven't seen a lot of impact from actually getting these opportunities done. Whether the rates increase by 1.5%, or decrease, we still want to make sure that the opportunity's the right fit for all the other reasons, and it will likely still support that opportunity. Banker Chris probably has a better crystal ball than I do, but that's my two cents.

Chris Jewett:

Here in Minnesota, Nick lives in a snow globe. Obviously, he just shook himself there, calling me a banker. I think 2023, it may impact us more than we think it is. We're obviously bullish in what's happening here in the market, but that's because we've continued to have flow. What we need to be consistent in is continuing to not only educate the advisors on what the market is bearing from a lending perspective, but also communicating and educating with our funding partners what's happening inside of the market. We know that it's going to change, because it always does. What are people not only able to do, but willing to do, are important for both sides of it. We'll continue to work through that. Look, it's going to change. If rates continue to go up, or we run into a recession, and they're going to start ticking down at the end of the year, we don't know, but we need to be able to be nimble, and that's why we have multiple institutions.

That's one of the biggest things, I think, as we look forward, as we continue to add more. Our partners want to know what the market's saying and the market are our advisors in the transactions, and why they are or are not getting done, and visa versa. The advisors want to know what the funding institution market looks like, or what those partners are doing. We continue to educate on both sides of those, and I think that's a value to it. We'll operate in whatever environment there is. Whether it's up or down, we'll be educating.

Mike Langford:

Perfect. That's the end of our webinar. Thank you very much for joining us today, for our first borrower briefing of 2023. Chris and Nick, you were both fantastic, one of you more fantastic than the other. I'll let you guys battle that out. Thank you both for joining us, and sharing your insights and wisdom today.

Before I let you go, please make sure you swing by SkyView.com, to learn more about the lending process and options for your business. If you have any questions, simply call (866) 567-6282, and a member of the team will be happy to provide you with all the help you need. Thank you all, have a great day. See y'all, bye.

Chris Jewett:

Thanks, Mike.

Nick Barker:

Take care.

Mike Langford:

See you guys.