Dynasty Financial Partners' plan to offer shares to the public holds a major perk for top insiders that future investors wouldn't see: cash from tax benefits.
The company, now a network of 48 independent financial advisory firms with $67.5 billion in client assets, took another stab at potentially ringing a Wall Street bell when it
What Dynasty kept in place was a little-noticed plan to use its IPO to create a steady stream of dollar payments to current insiders. Those payments, separate from any profits that future investors might see on publicly traded stock, are tied to the company's tax assets.
Under what's known as a tax receivable agreement, current Dynasty insiders, including president and CEO Shirl Penney, would get regular cash payouts equal to 85% of the firm's tax assets. The payouts come from so-called deferred tax assets, which typically arise from net operating losses or from differences between accounting rules and Internal Revenue Code rules. In Dynasty's case, the tax assets reflect the latter: They're a paper perk that exists because U.S. companies are required to keep two sets of ledgers, one for accounting and SEC purposes, the other for the IRS.
With Dynasty, the tax benefits would arise when the company converts its partnership units into publicly traded stock. For tax purposes, that move "steps up" the original (lower) cost "basis" of the units to the higher price of shares. That reduces taxes owed when the shares are eventually sold. But the move doesn't boost things for book purposes. And so to reflect the difference, Dynasty would record a deferred tax asset, said Robert Willens, an independent tax and accounting expert in New York.
The gift that keeps on giving
Dynasty didn't disclose the potential size of its deferred tax assets, so it's not publicly known how much insiders would benefit. It's not immediately clear from the filing's description of multiple share classes and Dynasty's August 2021 reorganization in Delaware whether the 319 advisors at its partner firms would benefit. Dynasty caters to financial advisors leaving wirehouses and smaller brokerages to go independent. It also outsources investment management for some of its network firms and takes smaller equity stakes in them.
What's clear is that for insiders, the tax benefits can be the gift that keeps on giving.
"They can be in perpetuity," Willens said. "Each time an insider converts some of his or her interest into publicly traded stock, a new batch of DTAs is created," and under the tax receivable agreement in the IPO, Dynasty has to pay them out, he said.
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"It's a form of financial engineering," said one investment banker who requested anonymity and isn't involved in Dynasty's IPO. At any given time, this person said, a company's tax assets "might be worth a couple of hundred millions, so they just take it away from the market."
Sally Cates, a Dynasty spokesperson, declined to comment.
'Weaknesses'
Dynasty's latest filing highlighted another, also sometimes controversial feature of young companies seeking public owners. Like many emerging companies, Dynasty disclosed a number of material weaknesses related to its internal control over financial reporting.
"We did not design and maintain effective controls related to the period-end financial reporting process, including designing and maintaining formal accounting and IT policies, procedures and controls to achieve complete, accurate and timely financial accounting, reporting and disclosures," the filing said, echoing Dynasty's most recently updated filing in April and first one in January.
While none of the weaknesses resulted in material misstatements, the filings said, "they could result in misstatements potentially impacting all financial statement accounts and disclosure." The filings said that efforts to fix things could last beyond 2022.
Dynasty also disclosed fresh financial figures. Over the first six months of 2022, revenues rose to $38.9 million, a 24% increase on year-ago levels. Adjusted earnings before interest, taxes, depreciation and amortization, or adjusted EBITDA — a metric not consistent with generally accepted accounting principles and one that Dynasty said it prefers as a measure of performance — rose to $8.7 million in the period, up 16% on the previous year's first half. Dynasty's regular EBITDA – also a non-GAAP metric — was just under $7.6 million in the first six months, and nearly $16.9 million in 2021.
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For some wealth management industry executives, the updated filing, which came days after an Aug. 23 report that Dynasty had "shelved" its IPO, appears at an odd time. Financial Planning first
Dan Seivert, the CEO of Echelon Partners, an investment banking and consulting firm in Manhattan Beach, California, said that Dynasty faced two hurdles unrelated to the depressed IPO market.
"They just don't have enough EBITDA, and they aren't really close," he said, adding that the measure needed to be over $80 million a year — nearly five times more than Dynasty's in 2021 — and growing over 30% a year for five years. The second challenge, he said, was the need for "a much more compelling history of growth and path to future growth."
'You've arrived'
Many independent advisory firms choose to
Why?
"Going public can be a significant branding event — you've arrived," said Peter Nesvold, the founder and managing director of Nesvold Capital Partners, a boutique investment bank in New York that invests in advisory firms. "It can help with advisor recruiting and make the firm seem more substantial." Still, he added, to attract coveted institutional investors to public shares, "you want to be at least $500 million in market cap."
Seivert said Dynasty "would be far better off" taking private equity investment, as that's "easier, cheaper" and more "appropriate" to the firm's size.
Still, the investment banker who declined to be identified said that they "question why there's a sense of urgency to go public now. The market's bad. Their (Dynasty's) numbers will look better in five to12 months." The person added that the weakness in internal controls "suggests they may not be ready for prime time yet."
