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Why the $150 million Fiduciary Network lawsuit ‘could get very ugly’

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The sale of Fiduciary Network, one of the industry’s first RIA aggregators that now has 14 high-quality RIAs with around $40 billion in combined AUM, turned out to be the (relatively) easy part.

The subsequent $150 million lawsuit brought by Mark Hurley against Emigrant Bank and several of its executives is likely to drag on for years, and won’t be for the faint of heart, say legal experts.

“This is a complex case that, if not settled sooner, could take at least several years to litigate,” says Corey Kupfer, an attorney specializing in RIAs. “As the case is based upon allegations of a series of alleged actions by Emigrant Bank to scare off buyers and suppress value, there will be a lot of discovery necessary to determine the facts that might support those claims.”

What’s more, Kupfer adds, “when you add the clear animosity between Howard Milstein [principal of Emigrant Bank] and Mark Hurley to the mix, this could get very ugly and drawn out.”
Indeed, the lawsuit is the culmination of years of bitter feuding between Hurley, the founder of Fiduciary Network, and Milstein, who first partnered with Hurley in 2005 and bought 75% of the firm in 2016 before acquiring the remaining 25% last month.

Hurley’s lawsuit, filed in Dallas County District Court earlier this month, alleges, among other things, that Emigrant Bank hired a private investigator to “stalk” Hurley and obtain “confidential documents concerning his recent divorce…in an attempt to intimidate and disparage Hurley.”

The suit also alleges that Emigrant Bank attempted to “suppress bids” for Fiduciary Network and sabotage Hurley’s standing in the industry. As compensation, Hurley is asking the court for $150 million.

He maintains that Emigrant Bank “engaged in a calculated, scorched-earth campaign to unlawfully seize control of Fiduciary Network,” according to a statement from his lawyer, William Brewer III, a founding partner in Dallas-based Brewer, Attorneys & Counselors.

Valuation is a main point of contention in the lawsuit.

Brewer alleges that Milstein, Emigrant and other defendants, including Fiduciary Network’s new CEO Karl Heckenberg and Emigrant board member Barry Friedberg, “intentionally depressed the value of Fiduciary Network, allowing them to acquire it at a bargain-basement price and, ultimately, gain profits to which they were not entitled.”

Emigrant called Hurley’s accusations “completely false and defamatory.”

In a statement, the bank said “his complaint is nothing more than a series of baseless – and at times bizarre – allegations, most of which have little to do with the transaction in question. We have no doubt the court will agree once all the facts are presented.”

One of the main points of contention in the lawsuit is how Fiduciary Network was valued when Emigrant Bank bought the remaining 25% it didn’t already own.

Hurley says Fiduciary Network’s projected long-term EBIDTA run rate for 2018 is $27 million, which, it asserts, “should have attracted bids from potential acquirers of at least $318 million (reflecting enterprise value of $486 million less long-term debt of $168 million) and likely substantially more.”

Hurley's lawsuit claims Emigrant Bank “took measures to reduce Fiduciary Network’s attractiveness.”

However, the final sale price for the entire firm was approximately $100 million, according to sources familiar with the deal.

A number of outside firms submitted bids for Fiduciary Network, but Emigrant had a contractual right to pay as much as the highest bidder to buy the remaining shares, as long as it honored a commitment to pay Hurley an additional 10%.

The lawsuit claims Emigrant wanted to depress the price and “took measures to reduce Fiduciary Network’s attractiveness.”

During the time of the sales process this past summer and fall, the RIA M&A market was “red-hot,” the lawsuit notes, going on to claim that “competitors of equal size and quality [were] commanding enterprise valuations between 18 and 39 times EBIDTA.”

The IPO of another aggregator, Focus Financial Partners, was certainly the most notable valuation event of the year, and Focus was valued at around 17 times EBITDA.

“In my experience corporate divorce can be as nasty or nastier than individual divorce,” says attorney Corey Kupfer.

Industry observers couldn’t recall valuations of similar firms reaching twice that level.

“It would be an extremely rare instance that a consolidator could be worth more than 30 times cash flow,” says M&A consultant David DeVoe. “Most consolidators are worth less than half of that.”

Hurley did not respond to a request for comment, but asked about the high valuation in the lawsuit, a spokesman for the Brewer law firm referred to Focus Financials’ adjusted EBITDA.

While the sale of Fiduciary Network was being negotiated, the spokesman said, “Focus’ stock price was trading at $48.40, representing a 39 times multiple on real GAAP EBITDA,” the spokesman said.

Dan Seivert, managing director at Echelon Partners, also referred to an adjusted EBITDA when considering the valuation.

“I think the 18 to 39 EBITDA valuation has to be taken in context,” Seivert said. “When the EBITDA is adjusted the real multiple would likely come in line.”

Matt Crow, an RIA analyst and president of Mercer Capital, had a different take.

“You can’t sustainably support 39 times EBITDA for anything,” he said. “The only reason something is worth 39 times EBITDA is if there is an expectation that EBITDA is going to accelerate tremendously such that the multiple of EBITDA in the foreseeable future is a reasonable number.”

Despite the combative lawsuit, RIA firms in the Fiduciary Network contacted by Financial Planning say they didn’t expect their business to be disrupted.

“[The lawsuit] has not impacted our work with our clients, our pursuit of talent or our discussions with potential merger partners,” says George Stapleton, CEO of RegentAtlantic.

Another partner firm executive said his RIA had already met with Heckenberg to discuss the future of the business.

Emigrant Bank is expected to file its reply brief next month.

The lingering dispute is a reminder that while “many would like to think that the path of business disputes is governed by logical business decisions,” they often are not, says Kupfer, the attorney specializing in RIAs.

“In my experience corporate divorce can be as nasty or nastier than individual divorce,” Kupfer says, “as emotions still come into play and there is a lot more capital to fund the fight.”

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