The WAM decline: can it be revived?

“Share prices and growth expectations for many businesses have moved in the wrong direction of late. The wealth and asset management sector is impacted because it’s more sensitive to capital markets in terms of pricing,” says Richard Gray, EY’s Wealth and Asset Management (WAM) Transactions leader. The WAM industry is just one of a few trillion-pound markets in the UK. L.E.K. Consulting estimates that there is c.£2tn in personal liquid investable financial assets held by UK households, with a further £1.9tn residing in defined benefit (DB) pension liabilities. Recently, the UK financial services industry experienced a seven-year high of 136 deals in H1 2022, according to EY’s latest financial services M&A analysis. However, the total disclosed deal value for the period dropped from £10.5bn to £8.6bn year-on-year (YOY), and activity was slower in Q2 2022 than in Q1, prior to the onset of the war in Ukraine. In particular, the UK’s WAM industry saw a 11% drop in the number of deals in H1 2022, with publicly disclosed deal values declining 57% from £6.1bn to £2.6bn. Compared to other sectors in the UK, the number of insurance deals rose 50% in H1 2022, with total publicly disclosed deal values up 71% YOY to £2.4bn. Similarly, the UK banking sector witnessed a 36% increase in deals, with total deal values up 20% to £3.6bn. “2022 has seen a slowdown in activity, largely due to volatile capital markets which have decreased AUM/A and has therefore driven a decrease in revenues,” Gray says. “This in turn has sent sector share prices down 20-30% and made it hard to do deals as many vendors have not yet recalibrated valuation expectations.” Overall, there were 25 WAM sector deals in Europe 2021 with a deal value of >$100m (£82.94m), of which 12 were in H1. This compares to six in H1 2022. Until more recently, the sector was enjoying secular growth as people have been saving more for retirement since the UK has an ageing population. However, the ongoing crisis in Ukraine and surging inflation rates mean businesses have stopped committing new money, and financial investors are reacting to uncertainty via de-risking and or sitting on cash, ultimately impacting flows. A further factor impacting deal volumes is that large LBOs are more difficult to finance currently due to both higher interest rates and unsold syndications at the main underwriting banks. Gray expects that a number of deals that would have been happening in the second half of this year are likely to be stalled, until either there is a different view on market prices or some economic recovery is seen. “Capital markets have decreased, resulting in a mismatch between public prices and what it is believed these businesses are worth. This, together with a hit to profitability from lower overall AUM, is delaying a number of expected PE sell side processes that we would have expected to come to market in H2.” On the other hand, Bronswe Cheung, principal at global strategy consulting firm L.E.K. Consulting, believes this is nothing to be alarmed by. “A lot of the private equity houses are sitting on a lot of dry powder. This slowdown is a bit of a normalisation period.” He says the economy is coming off a period where there were “quite a lot” of deal flows, as well as multiple expansions. “At this point in time, I think it's right that the industry takes a breath, reconsiders where it’s at, and thinks about what's the right way of structuring deals and the right prices to pay before picking up again,” he says. “If anything, the need for financial advice is going up, not down.” Likewise, Eilert Hinrichs, partner at L.E.K. and senior member of its European Financial Services practice, adds: “We have seen businesses in this space which could be able to generate significant amounts of profit. Good businesses will always be in demand, and will probably be models for quite a high multiples.” He believes that rising interest rates could be positive for businesses, particularly if they are partly holding cash on behalf of some of their customers, as they can deploy the cash onto the money market to create extra income. How WAM management firms can tackle challenges in the market “Now is a great time to buy if you have cash, because there's less competition for assets from those that need to finance things,” Gray reveals. He notes there is an opportunity for some firms to cement their market position, as long as they are prepared to pay a reasonable value for business. Additionally, share deals may be “more palatable” for vendors, as opposed to cash deals, to enable firms to profit from potential future recovery. “It’s very important for firms to prepare well for any divestment and to tailor the message to potential buyer groups. Corporates with cash to acquire may find it easier to pull off value creating deals in a less competitive transaction environment,” says Gray. Cheung adds: “Assets need to demonstrate scalability, and operational efficiency.” A combination of increasing centralisation, in terms of resources and process automation, and cutting out unnecessary costs in the operating model, shows that “for every pound of revenue generated, you'll make more money off the back of it”. With this all being said, EY’s M&A analysis disclosed that signs show the market currently remains buoyant and is set for steady activity to continue - but why is this? Gray shares: “A lot of private equity money is still there. It's harder to do large deals, but there are many smaller deals that people are doing.” Overall, most stock markets tend to rebound “quite strongly” within 12 months of a trough, Cheung says, and they typically recover back to the previous peak within the space of three-and-a-half to five years. “If you look at the stock market performance in the last month, it's already up again. Depending on which index you take, it's somewhere between 5%-10%.” “Private equity houses can't sit on their assets and investments forever. At some point, they will need to revisit the market again. Whilst we think there might be a short term blip, the rationale to trade and deal in the sector is there in a few years,” he explains. Gray concludes: “Certain situations will become normalised. The market will settle in time, but the next 12-18 months are likely to provide challenges, not least because we expect a decrease in real wages. It's not going to be a particularly fun year, but there will likely be some green shoots afterwards.”

The WAM decline: can it be revived?

The wealth and asset management sector saw publicly disclosed deal values drop 57% in H1 2022, despite UK financial services experiencing a ‘seven-year high’ in deals. Accountancy Today looks into the dip in activity and how it can pick back up.

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