RCAP, Pershing locked in negotiations over clearing agreement

Clearing giant Pershing and RCS Capital Corp., with a brand-new network of 9,000 registered representatives and advisers, are locked in negotiations with millions of dollars on the line. RCS Capital's network of broker-dealers, which it built up over the past year through a series of acquisitions — it just announced its latest acquisition, VSR Financial Services Inc., last Thursday — is now Pershing's biggest independent broker-dealer client, according to an analysis of InvestmentNews data. RCS Capital, therefore, has tremendous leverage to negotiate a new clearing agreement at an improved price. In a potentially longer-term and more lucrative move, RCS Capital, known by its ticker symbol RCAP, could sever its broker-dealers' relationships with Pershing and become a self-clearing broker-dealer network, thus turning clearing into a profit center. In a quarterly earnings call last Thursday, RCAP chief operating officer Brian Nygaard said the firm is close to an agreement with Pershing and that an announcement is likely in time for the next quarterly earnings call in the fall. The six RCAP broker-dealers that use Pershing as a clearing firm had a total of $163.7 billion in total account assets at the end of last year. Pershing's second largest IBD client, the four broker-dealers in the AIG Advisor Group, had $148.7 billion in total assets at the end of December, according to InvestmentNews data. Pershing states it has about $1 trillion in clearing assets. Back of the envelope math shows that the RCAP broker-dealers that are Pershing clients — Cetera Advisor Network, Cetera Financial Specialists, Cetera Advisors, First Allied Securities, Investors Capital Corp. and Summit Brokerage Services Inc. — account for around 8% of Pershing's assets.

"A LOT TO LOSE"

“These will be very strategic negotiations,” said Joseph B. “Joby” Gruber, former chief executive of FSC Securities Corp., an AIG Advisor Group broker-dealer, and now a senior executive with independent broker-dealer Calton & Associates Inc. “There's a lot for both parties to win and a lot for both parties to lose.” Long range, Bill Butterfield, an analyst with the Aite Group, said RCAP would likely look hard at self-clearing. “In order for these [RCAP] acquisitions to be most profitable and efficient, rationalizing tools and departments will need to accompany a move to one clearing platform and most likely a self-clearing environment,” said Mr. Butterfield, who stressed he had no direct knowledge of RCAP's intentions regarding Pershing. He did note that Cetera Financial Institutions, one of RCAP's broker-dealers that does not use Pershing for clearing, is self-clearing. Whether the RCAP broker-dealers in the future clear with Cetera Financial Institutions or stand pat, the new relationship will cost Pershing, Mr. Butterfield said. “Reading the tea leaves, it would be logical for the RCAP entities, as they perhaps consolidate parts of business, to negotiate a better, lower-priced contract with a bulk discount if they don't leave Pershing,” he said. Tony DeFazio, a spokesman for RCAP, and Paul Patella, a spokesman for Pershing, both declined to comment for this story. In its regulatory filings, RCAP has not signaled it in-tends to become a self-clearing network of broker-dealers. “We expect that our independent retail advice platform will primarily use Pershing as its clearing broker on a fully disclosed basis to execute and clear securities transactions on behalf of financial advisers' clients,” RCAP stated in its annual report. But RCAP expects to save money on its clearing relationship with Pershing. In a March filing, the company stated it could wring out “$4.3 million to $6 million in clearing expense efficiencies.” In its annual report, the firm said, “We expect we will be able to reduce clearing costs as we will be able to negotiate a better rate for clearing services with Pershing, which currently provides such services for the majority of the broker-dealers that will comprise our independent retail advice platform.”

PRECEDENT FOR MOVE

There is precedent for RCAP to become a self-clearing broker-dealer network. Before it was a publicly traded behemoth, LPL Financial was a privately held broker-dealer that used Pershing to clear transactions. LPL became self-clearing in 2000, but it is difficult to quantify its savings as it does not have a separate line item in its financial statements about its clearing operations. “It would probably take RCAP 18 months to two years to go self-clearing,” said William Dwyer, LPL's onetime top recruiter and its former president of national sales. “It took us two years, but that was back then and we were only one firm. They have multiple firms to tie together.” “The hurdle is getting the infrastructure in place. We added 300 home office employees to do the work” that Pershing had previously done for LPL, said Mr. Dwyer, who retired in 2013 and is now focusing on philanthropy and business startups. A clearing firm is essentially a middleman for a broker-dealer, negotiating contracts with vendors, Mr. Dwyer said. When a broker-dealer self-clears, it cuts out the middleman and gains better economics, he said. The true value for a broker-dealer becoming self-clearing is control over data, which leads to creating products for advisers, Mr. Dwyer said.