Moody's Ratings and S&P Global Ratings recently issued negative outlooks on RIA aggregator Focus Financial Partners and Edelman Financial Engines, an RIA with $284 billion in assets under management.
Moody's recently affirmed Focus's B1 corporate family rating, senior secured bank credit ratings and its B1-PD probability of default. But analysts changed their outlook on the ratings from stable to negative, citing Focus' recent move to consolidate its 90 partner firms into several “hub” firms.
“While Focus' new strategic initiative to create controlled wealth management firms is a significant departure from its original business model, it is intended to address the company's weak profitability, as measured by Moody's, relative to peers, Moody's writes.
Focus, which was taken private a sale at Clayton, Dubilier & Rice last year, recently combined two of its largest partner firms, Buckingham Strategic Wealth and The Colony Group, to create a $50.2 billion RIA. Focus has already bought out the management teams of seven of its 90 partner firms, according to Moody's.
“Management buyouts are typically structured with a combination of cash and equity that aligns with the interests of Focus and the selling principals,” Moody's wrote. “However, future additional cash payments, which Moody's includes in Focus's adjusted debt, may be paid to the sellers upon achievement of certain growth metrics.
Focus's debt-to-EBITDA ratio was 6.1 times at the end of 2023, up from 5.1 times in 2022. It is now above Moody's expectations for B1-rated companies.
“Because the transactions are expensed under GAAP and the timing of the synergies is uncertain, Moody's does not expect significant improvement in Focus's profitability, as measured by Moody's, over the forecast period,” Moody's wrote. “That said, adjusted EBITDA margins, under the new business model, are expected to expand over the next several quarters.”
A spokesperson for Focus did not return a request for comment before publication.
Edelman Financial Engines recently proposed a new $575 million second term loan due October 2028 to refinance the firm's existing second term secured loan due July 2026. S&P Global Ratings assigned it a CCC+ debt rating, which is in junk bond territory.
Moody's assigned a Caa2 rating to the term loan, one notch below S&P's rating, calling it a “leverage-neutral transaction.” It also assigned a B2 rating to the firm's proposed 2028-backed secured revolving credit facility, which replaces the current credit facility. Both estimates are in junk territory.
The ratings agency points to a strong 2023 for Edelman, citing stronger capital markets, better cost control and lower marketing expenses as the firm transitioned from “high-cost radio marketing to low-cost digital marketing “. Moody's also points to the firm's success in converting workplace (employee planning) clients to wealth planning clients.
“The stable outlook reflects Moody's view that solid performance in the wealth planning business will be sustained with continued organic growth driven by growth in employee planning as well as increasingly strong results from digital marketing as the sales channel gains traction,” Moody's writes. “Flows in the workplace business should improve in 2024 as Moody's does not expect a repeat of the loss of two fairly large sponsors.”
A spokesman for Edelman declined to comment.
(The title of this article has been edited to reflect Edelman's junk bond rating that was issued for a debt refinancing, not a change in view on the firm's current ability to meet its obligations.)