Practice principals have been advised to offload clients worth less than $3,000 in fees if they are considering selling their business, as these clients are suppressing business valuations in the current market, an advice business broker has said.
In its 2020 Financial Planning Practice Sale and Valuation Guide, released this week, business broking group Centurion Market Makers revealed there had been “a severe reduction in the profitability of clients at the lower end of the revenue range” over the course of the last 12 months, primarily due to the removal of grandfathered revenue.
“Our work indicates that it is very difficult to be profitable with a client with a fee under $3,000,” Centurion said.
“Clients below this level generally detract from value and have fallen to one to two times [recurring revenue] if they can be sold at all.”
The dramatic decline in valuations when it came to low-value clients was also affecting a practice’s overall valuation, as increasingly discerning buyers viewed such clients as high risk, the group said.
“The effect of averaging is the key driver of reduced valuation,” Centurion said.
“What this means is that the relative amount of “high risk” revenue i.e. clients with fees less than $3,000 are less attractive to buyers as the level of work required significantly reduces profitability.”
The group said as credit became increasingly tough to access for “bolt-on transactions” – smaller-scale purchases of client books that could slot into an existing business – buyers were taking less chances with client revenue that may not be secure or generate significant profit.
“The royal commission has resulted in reduced access to credit for all small businesses as the banks rework their credit assessment and focus on cash flow and ability to repay. Small financial planning practices have been caught in these outcomes and as such access to credit for bolt-on transactions has reduced,” Centurion said.
“Our experience has been that purchasers who are interested in small books have been unable to raise cash flow lending finance and have had to provide ‘bricks and mortar’ security for the lending. This has further exacerbated the lack of demand for small books.
“Purchasers are looking for higher rewards from acquisitions and will ‘cherry pick’ the best ones.”
As a result, the group advised practice principals thinking of selling their business in the coming months to look at “cleansing the client base of unprofitable clients”, as well as ensuring remaining clients had a demonstrable profit margin above the cost to serve.
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