There aren’t many things that scare Carson Group chief executive Ron Carson, whose firm manages roughly $12bn in assets.
But leverage in the RIA industry? That’s a different story.
‘It just scares me,’ Carson said. ‘You have a lot more optionality when you have low to no leverage. Maybe you don’t grow as fast, but you stay in business a lot longer.’
The topic came up in a panel discussion of RIA mergers and acquisitions which included several chief executives from some of the largest firms in the industry, including $50bn Creative Planning’s Peter Mallouk and $56.7bn Hightower’s Bob Oros.
Borrowing money to fund initiatives such as mergers and acquisitions can generate larger returns for a company’s financial backers, but can also create a scenario in which a company has a debt load many multiples greater than its earnings.
In a worst-case scenario, excessive leverage can force a company into restructuring or even bankruptcy. Such was the case in 2007 when RIA aggregator Wealthtrust struggled to manage its debt load and was forced to hand over control of the company to distressed debt investor Falcon Investment Advisors.
Leverage is a common technique deployed by private equity firms, which now have stakes in many RIA acquirers. Carson Group (Long Ridge Equity Partners), Creative Planning (General Atlantic) and Hightower (Thomas H. Lee Partners) are all backed in some form by private equity firms.
Carson indicated that his firm would eventually take on some debt.
‘We haven’t used any leverage up to this point. I grew up on a family that leveraged. [It] bankrupted them, so I’ve been very resistant to it,’ he said, adding: ‘I think with rates as low as they are and some of the deals that we’re doing, we’re eventually going to need to take some leverage.’
The dramatic market decline in the first quarter of 2020 prompted by the coronavirus pandemic demonstrated just how fragile RIAs’ balance sheets may be. More than 1,400 advisory businesses took out government-backed coronavirus relief loans earlier in 2020 to avoid layoffs, including Carson Group, Cynosure Group-backed Savant Capital Management and Estancia Capital Partners-backed Snowden Lane Partners.
Mallouk added that a longer economic downturn would have put levered RIAs at risk.
‘I do think that if [the decline in] March and April had gone on four quarters instead of one quarter, I think we would have seen a couple industry blowups that would have made some jaws drop,’ Mallouk said.
