Read the Transcript Below:

Matt  

Today’s episode is brought to you by even more great content. If you’ve been enjoying the podcast, if you’ve been enjoying Micah and myself, go to theperfectria.com/trainingseries. That’s theperfectria.com/trainingseries to sign up for more of our great content, videos, emails, other activities, webinars, ask me anything, events, basically everything and anything that Micah and I are up to. You can get access to by visiting the perfectria.com/trainingseries. All right, back to the show. Hello everyone, and welcome to another episode of The Perfect RIA podcast. I’m your co host, Matthew Jarvis, and with me, special guests who actually I still need to mail a check. Ted Jenkins, you may know Ted from his work as an advisor himself. You may recognize him for having been on the Michael Kitzes podcast and a quick backstory. 10 months or two ago, you were on the Kitzes podcast. You were talking about valuations, and my phone starts blowing up. My buddies are texting me, advisors. They’re saying, Hey, I just heard this podcast with Ted Jenkins. He says, guys are getting 10x EBITDA, I’m gonna sell my practice. And I said, “No way. This Ted Jenkins guy has got to be full of crap. There’s not a chance.” I even go on LinkedIn. I’m like, I don’t know who this guy is. He’s got to be full of crap. Oh, you’re like, I know, Teddy’s not full of crap. Like, I’ll introduce you. Like, nope, no, no. But eventually you called Ted. You’re like, sign some NDAs. I will show you that I’m not full of crap. And, in fact, you were not full of crap. So with that interesting introduction Ted, welcome to the show.

Ted Jenkin  

Well, thanks for having me on, man. And I really believe this is like pervasive in our industry today. And, you know, look, everybody that’s watching this or listening to this, the fact is, they’re going to get an email from somebody not trying to recruit them, but trying to buy their business. And there’s so many advisors that, by themselves, go to that one person, they see a deal that’s slightly better than what they thought the deals should be in general, and they make a deal without knowing what the whole marketplace is actually doing right now.

Matt  

Well, for sure they do. And it gets worse. And I guess we, maybe we won’t name names, but it gets worse by some of these valuation services that are a complete black box. I use one of them again, I won’t mention the name, and the number came back magically at 3x and I said, Well, hey, I’d love to see some comparative deals like, you know, I get my house appraised at least, tell me the 10 other houses on Zillow, and they’re like, Hey, listen, we’re not going to test this is what the practice will cash flow. Like, that’s kind of where this whole 3x grows came from. Like, if you’re doing an internal succession, that’s all you can cash flow. But that’s not what you’re seeing now at all.

Ted Jenkin  

No, and I will name names, I’ll name them. But when you look at FP Transitions, probably one of the big gorillas in the industry. Listen, if you’re doing a valuation for a buy sell, you have a partner and you want to buy some insurance, by all means, do a valuation, but advisors need to understand it. And you would think they would, because they’re advising clients, there’s a big difference between evaluation and what the market will actually pay for your business, and that is the major misgivings of most advisors. They don’t realize the difference between evaluation and what the market will pay for your business.

Matt  

Well, so how about Tim? We’re gonna jump around a little bit. You know, a lot of advisors say, Hey, listen, I gotta transition this to next gen, like, but that’s not necessarily anywhere close to the market prices you’re seeing, right? So if I’m saying I got this junior advisor, and I want to sell my practice to him, and he’s got to go, got external financing, and we’re going to sell it like that. That’s really like in a completely different world. Then what’s the market value of my practice?

Ted Jenkin  

I mean, unless, unless it’s like your son or your daughter, or you feel like some undying loyalty to the generation two that’s been in your practice for 15 years, and you feel like you want them to have the whole business. That’s the actual way to minimize your valuation is by doing it with like the guy down the hallway. The way to max your valuation is that there are all these companies today, which, by the way, if you run the math, might actually be better for your g2 than it would be if they bought the practice from you. Plus you’re not sweating bullets about them making loan payments all the time. You know, it’s the wonkiest deals Jarvis, the wonkiest deals are between advisor to advisor, because they’re not people that normally structure deals. So they’re like, Hey, man, I’ll buy your practice. But by the way, let’s do a cash flow over five years, and if Betty and Sue and the Joneses leave, it’ll go down by 10% like, what? What are we like in an antique market? That’s not the way that it works. If you went to the marketplace and you looked at the 100, the 200 companies that are aggressively buying businesses that are out there, you would get a much, much higher multiple than you would by selling it to the guy down the hallway.

Matt  

Let’s peal this back a little further Ted. So how would this be better for the gen two? I talk to advisors all the time, and they come up with these deal terms. They’re like, you and I couldn’t even imagine, right two thirds of this and a third of that, unless we hit this market. But yeah, they say, well, take these weird deal terms because it’s better for gen two. But you’re saying that a lot of times these external sales are better for, like, paint this picture for me.

Ted Jenkin  

Yeah let me tell you why. Well, first of all, most of those Gen twos are going to sweat bullets when they got to go take a $3 million loan if they could even get one. Right, Live Oak, or somebody’s gonna actually give them the money. But the thing is, is that you don’t know how that’s gonna affect them. You know, emotionally, psychologically, all those kinds of things. And in a lot of these deals, remember, the gen two doesn’t have to buy the practice, and when you leave the business, their income is probably going to be triple or quadruple what it was before, without ever having to have a cent come out of pocket. Now I’m going to tell you something here Jarvis that nobody has heard before, okay? Here’s what nobody’s heard before – in a number of these deals, this is going to sound like it’s not true, and again, people are going to call bullsh*t on Ted Jenkin, but your g2 can get the practice from you after you sell it to a company, and if they stick around for a period of time, the company will let them have the equity in the practice. Now that sounds like how could that possibly be true? Yeah, but it is. There are a number of companies that will say, Listen, generation two comes in. They work for a certain period of time as an employee. After a certain period of time as employee, they get all the equity in the practice, and they can resell it again. Some of them will say, Look, we’re going to give them stock in the parent company, and if you do a great job, not only going to make income, but it’s going to be accretive to them, because they’re going to get stock when the private equity company or the company ends up doing a recapitalization or they go public, all of these are good for your generation two, versus having to take a huge loan and sweating bullets every day.

Matt  

I gotta confess. I’m still looking at this. I’m like, This can’t be. I know gonna be a lot of listeners like that. That can’t be that’s got to be impossible. But again, the way that you proved it to me, let’s sign an NDA, let’s sign an agreement, and I’ll show you these, these actual deals, Now again, if you’re listening to this thing, like, Hey, listen, I want to prove Ted wrong, or I just want to waste Ted’s time. Like, obviously, don’t waste Ted’s time if you’re seriously in a gen two consideration. In fact, over the weekend, I sent you an introduction to an advisor who’s in this exact same situation, like give Ted a call. If you think these are all BS numbers. I’m the first person to call BS. If you’re serious about this, there’s, there’s a way to solve it.

Ted Jenkin  

Well, nobody has to do business with me. Look, I’ll sign an NDA. I’ll redact a contract and show you the legal language of what they look like. I’m seeing 5, 6, 7 offers a week. So I, I’m like the human Zillow right now of financial advisor prices. I can tell you exactly, exactly where they are and all names that people on this podcast in the RIA space, you’ve heard them, you’ve heard the names before, these are in the top 100 RIAs in the country. Most of them are acquiring businesses right now.

Matt  

Names you’ve heard and names you would respect, right? This isn’t like again, I’ll try not to be disrespectful, this isn’t like the Joneses is going to buy now, practices, right? That’s not what we’re talking about. These are, these are people that that are speaking at the industry conference. These like stalwarts in the industry that have realized this is the next move.

Ted Jenkin  

And there’s another trend happening right now, which is unbelievable for pure RIAs, and that is this, that there are a lot of capital companies that actually want to get into the financial advisory space, as do family offices. A good example. This is a company called Bison as an example, that is owned by the Pagula family, who owns the Bills and and the Sabres, and they wanted to get into this market, and they started an RIA. Why does this matter? Because I know the companies that are trying to get into this space, and if you have a $500 million RIA and above your EBITDA, I mean, again, people are going to call bullsh*t on this, but your EBITDA is probably going to be between 14 and 17 times on cash flow.

Matt  

So Ted how are these evaluations so much higher? That’s incredible. So much higher than what we’ve seen in forever. It was 3x growths. That was just the number. It was always, we don’t even discussed it. The valuations were made up. It was always 3x growth. Why has it changed so much?

Ted Jenkin  

So advisors that understand private equity in general, and I think you’d be surprised Matt, about how many advisors really don’t understand private equity. The gain is not about IRR, meaning when I buy another advisor’s practice, I’m using some Excel spreadsheet where I’m if I take a loan, and this is when I pay it off, here’s where I’ll break even, here’s where I’ll get my money back. Well, PE doesn’t think that way. What they think about is arbitrage. When you read like RIA Biz, or you read City Wired, you see that Carson got bought out, or at a 20 times multiple. Or you see recently, Spain took a piece of CI at 26 times cash flow. You know when they buy you at 12 times cash flow their EBITDA may already be worth 20 times cash flow on the street, which means the game for them is about arbitrage. It’s not necessarily about a four year IRR and then I’m cash flow positive, right? True. That’s not the game, and that’s what people need on it. So how do I pay these multiples? I pay our multiple because I have arbitrage. That is the game. And it’s the same thing that we saw a few years ago in the veterinarian space, or still seen in the optometry space. I had a client he sold his veterinarian practice a couple of years ago for double what he ever thought he would get. Same kind of thing in that industry was always, I can’t remember if it was two or three. It was always just 3x that was it. That’s what they sold for, for decades. And then that same thing happened, probably doubled this valuation. Yeah, I guess you’re right, because the arbitrage is there. What’s interesting in general is that most advisors, when they market, and you’ll appreciate this, here’s the marketing strategy for a lot of advisors, I’ll get of a good CPA who are affirming, a mortgage broker, an attorney, right? But the number one person that advisors don’t saddle up to are business brokers, and that should be one of your best referral sources, because when they sell a business, if they don’t already have an advisory relationship, that’s going to be the one big liquidity event. So I see the garage door business right now…

Matt  

So like the literal garage doors. Not like the symbolic like, literally garage door.

Ted Jenkin  

Literally garage doors. You’re at not a four to six cash flow anymore. If it’s if it’s a bigger business, it could be an 8 to 12 on cash flow for those businesses. So how much are advisors counseling their clients around how to really make the exit. There are a lot of firms that say they’re good at Exit Planning. Well, I mean, I don’t know how many advisors are really good at Exit Planning, right? But you want to be around a business broker.

Matt  

So as an advisor, Ted, how old were you when you sold your practice? Couple years now, if you don’t mind sharing.

Ted Jenkin  

I was 48 Yeah.

Matt  

So this isn’t just like guys and gals that are in their late 60s or 70s or 80s, you know, they’re never going to sell. Like you’re talking to advisors, really, in all stages where they’ve said, All right, I’ve, I’ve done this chapter of my life. It’s time to take money off the table, or I need a different infrastructure, like for these people that are selling?

Ted Jenkin  

Well, let’s think about this like you’re an Excel spreadsheet guy. So I like that, because most advisors don’t run their own Excel spreadsheets. Is the reason why you want to look at this when you’re younger, is you have to think about the velocity of stock and the velocity of cash, meaning this, if I, if I am making a million dollars a year, and I run out an Excel spreadsheet for 15 years. Am I better off getting ten million dollars today paying cap gain taxes at 20% keeping this simple, but let’s say I had 8 million in the bank and I could let it run or making a million dollars at 40% yes, over the next 15 years, right? And this assumes that capital gains rates won’t change, right? If you double the practice over the next 10 years and capital gains go back to 40% you actually went backwards in a significant way. Number two, when you look at your stock, your intrinsic stock, in your practice, are you better off with that stock or with the stock of a private equity company move faster than your stock? And so that’s the other question that advisors need to be thinking about, what’s the velocity of my own net worth, my own growth? What will that look like? But this whole thing in here is just talking about the velocity of cash and then stock, right? You know, if you have a practice today, and your practice is $2 million of revenue, and you value it at x, remember, we were talking about this arbitrage with private equity companies, meaning, if your EBITDA is 10x and now you swap it for stock where the EBITDA is 18x you made some arbitrage on your own equity, and that’s what advisors don’t understand. Would I be better off just growing my practice? Forget about if you like it. It’s fun. You golf four days a week, blah, blah, blah. I’m just talking purely about building your net worth. And what I decided when I did mine, is that I could build my net worth faster by taking the cash, paying the capital gains, swapping stock with Blue Spring, which is where I sold it, owned by Warburg Pincus, which is really where the stock is, and that stock is up massively over the next five years. I could have grown the practice fast, but never as fast as that stock grew. Never. No. These are all assumptions that there’s going to be no compliance changes, no margin pressure, AI won’t affect your business. I mean, you know we assume, and I know I’ve seen a lot of arguments about whether 1% will hold up over the next 10 years. It’s not going to go up. I don’t think that, if anything, it’s going to be flat or it could go down just for margin pressure. But if you love the lifestyle business, because you’re making 800 grand a year and you live six months in a place like Florida, and you can golf four days a week, that’s fine, you know. But if you’re really trying to build your own net worth in a significant way, that’s where you have to look at this, even if you say, I’m not ready to exit the business for 15 years. So what? Where would it be more accretive to you financially? That’s what you would be advising your clients on. How do you build your net worth the fastest? And that’s what I feel like. I’m helping advise people, not just on making a deal, but what’s accretive to building your own net worth?

Matt  

Well so that’s consideration and I’d love your thoughts here, I think almost a disservice I did to the industry was talking about lifestyle practices. And so we end up with these advisors who are just like, they say they have a lifestyle practice, they’re really just not working in their practice, like they’re not growing right? This like, I’m golfing every day kind of thing. But if you’re looking at your practice, you say you’re not seeing 10, 20, 30% growth year over year, which would be an impressive growth rate for most practices, youu look like am I at the apex, or am I kidding myself? I’m not actually growing still. I’m actually gonna start losing clients due to attrition or age or death, whatever the case may be, and I would be left with nothing. Versus, geez, if you can pull 10x off the table, you have to at least look at it. Right? It’d be negligent to not look at it. Yeah, I want to pull Ted on that string where you talked about compliance risk, because advisors, they dramatically underplay that. Guys like you and I that in the industry that know a lot of people, like people don’t understand what a tightrope compliance is. There’s an advisor I knew for years. You can look up Dave Hanson, Yellowstone Partners. He went to federal prison for a billing error. There was an error in his billing, and you can pull up the court documents, and he went to federal prison, and the entire value of his RIA went to zero. It went to zero. And so, and part of that was he didn’t have enough compliance on his side to fight that thing. Part of it was he had made some mistakes, like I’m not defending, I don’t want to get in trouble with the SEC myself, but again, he thought he was on the top of the mountain. All of his net worth was tied up in this enormous RIA he’d built. The whole thing zeroed out almost overnight. So, so, like you said, you know, this risk of fees coming down, or regulatory thing, or just the SEC getting your number, this is not like some annuity you own, like this is a highly volatile thing that we own in our practices.

Ted Jenkin  

One bad market, you know, one bad situation, one bad employee. And look for a lot of advisors, it may never happen. We hope it never does, right? But when you look at at the totality of all the things that can go right versus all things that can go wrong, it’s what got me started down the path of saying, you know, beyond the fact that I hated seeing 25 appointments a week, it was basically sucking the life out of me. Beyond that, I just looked at all the risk, and I said, What makes more sense? Are capital gains going to go up or down, they’re not going down. They’re likely, over time, to go up, where to $34 trillion deficit you know. There is only two ways to fix it, man, you either got to get more revenue or cut expenses. What do we cut? Medicare, Social Security, Defense? Yeah, the number four line item on the fiscal budget for United States is a net interest on the debt. That’s not going down. It’s only going to go up so, so they’ve got to generate more revenue. What advisors don’t realize, what are the, what are the two or three biggest things to generate revenue? It’s payroll tax, personal income tax and corporate tax. Got to get it from somewhere. 

Matt  

Ted, let’s, let’s shift just a little bit. 100% agree there. Let’s shift just a little bit for advisors listening that are still in a massive growth mode that are still they love meeting with clients. They love growing. They’re adding assets in, like crazy. What should they be thinking if they’re saying, like, hey, I want to grow this thing like crazy for another five or 10 years, or I want to hit, you know, I’m at 500 million now. I want to hit a billion, or 2 billion or 3 billion. What should they be thinking about? Right? We talked about guys like, maybe you should cash out. But guys that are still on a run like, what’s the thing in there?

Ted Jenkin  

There are two ways to do this, and then I’m going to offer a third. Number one is, if you can acquire and you can find advisors that will sell you their practice cheap, or you’re a good negotiator, and you get it before it goes to the street. I’d buy as many of them as I can. If I could buy a practice at a 2x i would buy as many as I can, because I know there’s going to be automatic arbitrage for me to turn around and sell at 4x or 6x, but what I have learned is that all these acquiring companies will pay an additional value, if you will. It’s more accretive if you can prove you have organic growth. So if you can prove you have a lead generation machine, which is the single toughest part of the business, you have the opportunity to get more for your practice relative than to just the numbers in the business. My last comment on this is that when you negotiate a deal, since most advisors have never done it, and I’ve negotiated a lot of them, it’s all about filling the air in the balloon. And what I mean by that is that if you want all your cash day one, and you want to be gone on a never see you again limousine, the practice is going to be worth less, of course. But if you are a grower like you’re talking about, and you said, you know, I think I can grow this thing with you, and I’m willing to bet, on my side, that I can grow by 15% a year. You might be able to add an extra two multiples to your EBITDA, but you’re going to have to get the growth. So you’re saying, Listen, if we make a five year deal, don’t buy my practice for a 10 times cash flow. Buy it for 13, but I’m only going to get the 13 if I grow out at 15% a year. That’s a way to shave some of that risk off of your own end owning the practice, and get the higher multiple on the business.

Matt  

And just to make sure we’re not getting lost in multiples, I always say percentages with clients. You might as well say marshmallow. But let’s say you’ve got kind of like a standard 2 million gross 1 million net practice, right? So let’s just talk about the difference between a 10 EBITDA, a simple math, a 10 EBITDA on a million bucks. That’s 10 million versus a 12 EBITDA as 12 million, you have $2 million potentially on the table. This is substantial money, it isn’t like $12 and a steak dinner.

And that’s where everyone Jarvis says, well I’m a grower. Like, Well, do you call bullsh*t and put it on the line or not? And if you can, you can get paid more money. Because what does every company want to do in any industry if they acquire a business? They want to grow.

Ted Jenkin  

And you’re gonna get compensated along the way. People forget when you sell and you stay, most of the compensation in the industry, and I’m being ballpark-ish with this is gonna be between, you know, 30 and 35% right? So if you’re doing a $2 million business, there’s still gonna be $600,000 servicing revenue. That’s there.

Matt 

They want to grow. Yeah, they’re buying the future earning potential, not the past, yeah. Yeah. Ted, where do these not work? Like, you’ve seen a lot of these deals. Where do you talk to guys who did the sale? They’re like, oh, shoot, that was not, that was not the move. Or hear of those, maybe not deals you’ve done, but ones you hear about?

Ted Jenkin  

No, I’ve had some deals that have gone to LOI and people backed out, right? You know? So, yeah, I’ve had it happen three times where they got a letter of intent, they started due diligence, and they said, I can’t do this. So number one, remember this, even though about money, 51% of the deal is culture. If you don’t really like your partners, it is going to be a lousy, awful, horrible deal. And that that’s why you want to kick the tires on their investment management, how they do financial planning, how the senior management team philosophically, where they want to take the business. Because if you’re in a massive philosophical difference on how to run the business, it is going to be an ugly, I don’t care how much you got paid, you’re going to hate it, even for the time that you’re required to be on you’re gonna hate it. Two is: the two major factors that mess up advisors are brand and money management. So you know, if you really care about your brand, don’t go to a company that says you can’t have your brand anymore. I ran into a situation. I’m just going to use a generic name, like Cornerstone, where they were called, like, Cornerstone Financial Partners, and the acquirer said, you now have to be the Cornerstone team. And they go, well we are Cornerstone Financial Partners. No, with us it’s the Cornerstone team. And it was a battle, man, it was a battle. I’m like, really? You know? And then money management, look some advisors on here. Think that they’re great at managing money and more power to you. Some advisors on here give not a hoot or a holler money, but some of the companies will tell you, keep managing it the way you’re managing it. Some companies will tell you, you must use our models. Sure, and in most cases, if they’re telling you, well, you can kind of do what you want, poke around and find out. Are you going to have to use their model? Because if you don’t like them, that’s just going to be a spiral, right? And then three, like, if you’re the kind of person that you’ve always loved, bleeding every single expense you have in the business. You lied to the IRS probably, you probably fudged a little bit. But if your kids are on payroll, your wife was on payroll, your season tickets were on payroll. Whatever it may be, that stuff’s gonna end. And having all that stuff you’re not gonna be able to do, the flexibility of calling every single shot the way you want it all the time, all bad reasons to do a deal. 

Matt  

Yeah, that makes sense, right? If you want to just kind of continue with your shenanigans. And I guess at that point you really got to own, like, all right, I’m okay. I’m doing these shenanigans, because they’re costing me millions of dollars, like, literally millions of dollars. And I guess you could make that decision, but yeah, don’t, don’t kid yourself about your growth or your culture or your investment models, or the name on the wall. Do I really care that it says Matt, Inc, or do I care about $2 million more?

Ted Jenkin  

Now here’s the good side of that. The good side of it is that you should really be keeping two sets of books, like, if you run QuickBooks, or whatever it may be, you have the books that you show the IRS, and then you’ve got to have something that’s called add backs, which are all the things in the business that really belong in EBITDA. But you just kind of use the business that way. And some of them are very legitimate. Like, you have your wife on payroll. She obviously, or he is not going to be there when the sale is over. So we’re going to want to add that back in. And by the way, gross is not always gross. This affects people that have a broker deal or more. If you’re like an RIA, under a bigger RIA, and they’re taking 10% haircut from you when you sell the business to somebody, many advisors make the mistake of showing them their PNL, which will only show 90% of the revenue, as opposed to grossing back up the real revenue in the business. So make sure you’re showing somebody the real revenue in the business.

Matt  

Which speaks to and I don’t want to feel like a commercial for you, but it speaks to the point of having somebody in your corner who understands this stuff, right? Who knows, like, Hey, listen, don’t forget about the grid, don’t forget about this. And let’s take your personal cell phone off this thing. Again, it’s legitimate business expense that needs to be an add-back in. So that’s incredible. So any action items that come to mind, right? Just for our listeners in general, listen, this is pretty interesting. Like, what’s something they could go out and do you know right away to either learn more about this or improve evaluations, anything like that.

Ted Jenkin  

Well, we put together something for the podcast guest today at our website, jptdpartners.com I think it’s /theperfectria. I’ll make sure that we have the actual link for you. We got one guide on your T minus two years checklist, all the things that you should be doing, blow by blow, step by step, whether you deal with us or not, just getting yourself prepared if you want to go to market. Doesn’t mean you have to sell, doesn’t mean you’re going to leave the business. It’s just if you want to test the market, which I think is the best business valuation you could possibly get. Let the market speak. Two I put together because I’m like you. I’m a marketer. I love the market. I put together my top 10 client acquisition techniques, things that, and unusual ones, things that you may not have heard of before, that you could get from listening to the podcast that hopefully will help you drive new AUM, which for me, I consider myself to be one of the not so great money managers out there, right? You know, I, other people did that. I just happen to be a good marketer. I learned how to market and bring in lots of new AUM, which was the game, is the game and will continue to be the game.

Matt  

Yeah, it is, a 100%. I would add an action item on there. If you haven’t, go back and listen to Ted’s, Kitzes  episode, right? It goes a lot deeper into your marketing, into oxygen, all the things that you’ve that you’ve built over time. And of course, I’ll add my personal voucher. Ted and I’ve been working on some deals together, which will disclose on another day, super impressed with with everything you bring to the table. So for our listeners, remember it’s not the things that you know, like you could pat yourself on the back and say, Well, my practice is now worth 10x EBITDA. No, it’s what you do. But it’s the things that you do that counts. Ted, thanks so much for being on the show, and until next time, happy planning. Hey, before you leave a quick word from our sponsors. Hey everybody, I want you to take a quick look around your office and on your desk there should be the Retirement Tax Services desktop tax guide. And if it’s not there, or if it’s not current, meaning you didn’t download it the last month, go to RetirementTaxServices.com and download the desktop tax guide. This is a must-have resource for every financial advisor committed to tax planning.