The Globe and Mail, Report on Business
Published August 9, 2008

This week, we saw another independent asset manager bite the dust. It was announced that IGM Financial, through its Mackenzie division, has made an offer to buy Saxon Financial.

It was disappointing to see Saxon disappear, because it has a wonderful history and is one of the good guys in the industry. It is a firm that's been run by investment people (Rick Howson and Bob Tattersall) and the emphasis has always been on delivering above-average, non-benchmark returns to clients. It has a solid long-term record in domestic and foreign equities.

While disappointed, I wasn't totally surprised by the announcement because there were signs it was coming. Saxon is in transition on both the business and investment sides of the firm. It has been without a permanent CEO for three months (Mr. Tattersall stepped in on an interim basis when Alan Smith departed) and was not totally set on where it wanted to go. As for investment management, Saxon is going through changes as the founders begin winding down. There is plenty of depth in the research department, senior people have been brought in and Mr. Tattersall and Mr. Howson are committed to stay through 2010, but it is nonetheless a delicate process transitioning away from the key individuals who built the firm and the track record.

When the news came out, I started to rummage around my desk in search of a list that J.J. Woolverton, chairman of Guardian Capital LP, gave me last month. He had the foresight to keep track of every transaction that has taken place in the investment management business since 1982. For grizzled veterans like me that go back that far, it's a walk down memory lane.

But in addition to making me all soppy, the list is a great illustration of how the industry works. When a firm like Saxon gets swallowed up by a bigger one, it completes what is a remarkably predictable life cycle.

The cycle starts when a portfolio manager (or investment team) with a good record goes out on her/his own. If the firm grows, it will evolve from being a few passionate investment types sitting around picking stocks into a real business with numerous departments, a 1-800 number and a Christmas party committee. It will move through various phases with regard to staffing, product offerings, marketing and ownership. With regard to the last item, the firm invariably arrives at a stage where the founders are ready to move on, or at least take some money out of the business. This is the "succession planning" part of the life cycle.

In the asset management business, succession planning is at the core of almost every corporate transaction. Deals are always justified to clients and consultants on strategic grounds - increased resources, more products for clients, broader distribution - but these reasons are secondary to No. 1 on the list - liquidity for the owners.

Of course, the need for liquidity is the result of success, which is a nice problem to have, but it does pose two big challenges. First, the sellers want to receive a price that is reflective of the value they've built in the company. Most private firms trade shares internally at valuations far below market. Second, even if the large shareholder(s) are willing to transact at "private company" prices, the amount of stock being sold may go beyond the means of the younger partners.

One or both of these factors will push a firm toward a sale (TAL to CIBC; Cundill to Mackenzie; PH&N to Royal Bank) or an IPO (Seamark; Gluskin Sheff; Sprott).

The investment managers that go public don't stay that way for long. Initial public offerings are often followed by a sale. Bissett Investment Management went through both steps to become a part of Franklin Templeton, as did Perigee (Legg Mason) and Addenda Capital (Co-operators).

This happens because investment managers don't fit the public company mould. They don't need capital to operate and the partners don't like the hassle and scrutiny that goes along with being public. Almost from the day the stock starts trading, the grumbling begins. And to make matters worse, the shares never trade because a handful of institutional investors tie up most of the available float.

The exciting part of the cycle is the formation of new firms, some of which result from the movement that business transactions create. The current crop includes Black Creek Investment Management (Bill Kanko and Richard Jenkins from Trimark), NexGen Financial (Jim Hunter is the former CEO of Mackenzie) and Edgepoint Capital Partners (other ex-Trimarkers). As well, some of the established, employee-owned firms get more opportunity to step into the limelight. I'm thinking of ones like Letko Brosseau, Burgundy Asset Management, Mawer Investment Management, Chou Funds, Leith Wheeler Investment Counsel and Greystone Managed Investments.

As for Saxon, the sale to IGM has addressed its business and liquidity issues. It now knows who is going to run the firm and how its product will be distributed. That leaves the leadership team to focus on its biggest challenge - adapting to life without the two big guys.