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Volatile Market Dampens Outlook for Mergers and Acquisitions

Mergers and acquisitions among investment advisor firms have decreased dramatically this year, which should surprise no one. But the more telling statistic is the precipitous drop in the value of the deals - down 83% this year from record levels in 2000.

An analysis of deal numbers and values over the past five years reveals an M&A marketplace that went into a tailspin after the markets began their downward slide in 2000. In 1999, there were 62 M&A deals announced between investment advisors, according to SNL Securities of Charlottesville, Va. Although the number of deals was fewer than the 78 mergers and acquisitions among investment advisors in 1998, the deals in 1999 were bigger, averaging $108 million versus $27 million in 1998.

In 2000, M&A activity reached new heights. The 81 deals that year averaged $172 million, according to SNL. Strong interest among foreign firms in entering the U.S. market also drove up their value. Of the top eight deals in 2000, five were by foreign firms, according to SNL.

The appetite for M&A among investment advisors began to decline in 2001, however. While the number of deals grew to 91, the average value fell to $103 million.

That decline has accelerated this year. Through April 22, 20 deals have been announced with an average value of only $29 million, according to SNL.

Thinking Small

The 2002 figure is even smaller when Deutsche Bank of New York's $490 million acquisition of RREEF, a U.S. real estate investment management group based in New York, is excluded (see MFMN, 3/07/02). So far this year, the value of that deal accounts for 85% of the total M&A activity among investment firms, said Eric Fitzwater, a director at SNL. That deal aside, the average deal value in 2002 has been just $4.6 million, Fitzwater said.

"In 2000, it seemed like we saw a big deal every week. We called it The Year of the Billion-Dollar Deal,'" said Elizabeth Nesvold, a director at Berkshire Capital Corp., a New York-based investment banking firm. Berkshire specializes in securities and investment management acquisitions.

Now small to mid-sized acquisitions are the norm, not blockbuster deals. "People do not have a desire to do a bet-the-farm transaction' because we're in a volatile market," Nesvold said.

In volatile times, deal values tend to drop because firms are simply not willing to pay as much for assets as in good times, according to Eric Jacobson, a senior analyst at Chicago-based Morningstar. When the market is soaring and the outlook is good, firms might be willing to pay, say, five cents or six cents on the dollar for assets under management, Jacobson said. In uncertain times, that could drop to three cents or four cents on the dollar.

"When the markets are healthy and things are looking good, fund shops are willing to pay a higher premium for assets under management," Jacobson said. "When fund flows look good, particularly on the equity side, firms have a tendency to pump up asset manager premiums."

Although firms are more cautious because of the down market and are not looking for the big deal, there is still a fair amount of activity in the marketplace because of interest in reaching affluent investors, according to Nesvold.

The high-net-worth buys have been mostly regional plays, with firms looking to acquire companies in locales perceived to cater to this market, including New York, Los Angeles, San Francisco and Atlanta, Nesvold said. Acquirers have also been interested in purchasing small institutional firms to plug product holes in their lineups, Nesvold added.

Getting Caught Up

Another reason for the slowdown in M&A activity is that, after several years of tremendous acquisitions, firms are realizing that the integration process that accompanies a major acquisition is very difficult, Jacobson said. The acquisition of an asset manager includes integrating intellectual capital as well as assets under management, he said, and firms have found it difficult holding onto key talent following an acquisition.

"Firms were constantly looking at acquisition targets and jumping on them, with little thought to the entire integration process," Jacobson said. Making an acquisition "can be an extremely difficult process and companies are beginning to wake up to that," he said.

The rash of M&A activity may simply have run its course, speculated Christopher Traulsen, an analyst at Morningstar. A lot of independent firms were acquired during that time, he said, and there are only so many firms that are attractive targets for acquisition.

"I don't see that type of rash of activity returning for quite a while," Nesvold said.