will go to charities and other causes the creators of wealth hold dear. Bill Gates (Microsoft) and Mark Zuckerberg (Facebook) are great leading examples of people who want to make an impact with their legacy. Their kids will also see a large inheritance upon the death of their parents, of course, but the point is that what is left over will be distributed in much smaller chunks.
Furthermore, the suggestion that advisors should be on a death watch waiting for their Baby Boomer clients to croak is insulting to younger prospective clients. The greatest amount of wealth creation will come from the efforts of Gen X, Y, and Z directly. We are seeing great examples of innovation and consequently wealth accumulation that has little to do with being born with a silver spoon.
So the opportunity for growth from inheritance is a very dark strategy when one considers the opportunity for growth from betting on the next generation of wealth accumulators. A balanced approach seems to be the best strategy.
While skepticism about conventional wisdom is healthy, your wariness will prove useless if you don’t take a constructive approach to what you perceive as threats. Being a professional naysayer adds little value to business decisions.
Granted, there are many other examples of conventional wisdom that deserve challenge. They at least deserve to be questioned as we observe a profession that is going through one of its most profound changes in decades. Advisory firms of the future, however, will not be replicating each other’s business strategies, but will be challenging convention, deciding based on facts, and finding cracks in the market that will result in big openings to do more business.
What Should You Consider?
That’s why it is so critical to review what you know about the business and try to understand what the data and trends are telling you about its future, and your role in it.
There are several irrefutable facts that should be informing the strategies for leaders in financial services.
● The business is experiencing margin compression.
● Growth for mature firms is coming more from existing clients than new.
● There is an oversupply of clients and an undersupply of people to provide advice.
● The industry in general has a tarnished reputation among prospective employees and clients.
● Compliance and regulation is a growing component in a firm’s financial statements.
● Industry consolidation is inevitable as age and economics drive owners of advisory firms to make difficult choices.
At a time when the average advisory firm is growing and the average advisor is making more money than ever, it is not always obvious when an advisory firm is suffering profitability challenges. This is why we recommend that advisory firms maintain proper financial statements with key ratio reports that show trends in gross profit margin and operating profit margin.6
Profitability in advisory firms is affected by several forces. Earlier in this chapter we rebutted the notion of price compression for the best-performing firms, but the reality is that the average advisory firm has not been able to keep the prices aligned with their rising costs of doing business or adjusted for the added services an advisory firm may be delivering to clients. Furthermore, with most fee structures tied to asset values, it is difficult for many advisory firms to keep pace with inflation in a low-return environment.
In addition to pricing, five other variables that affect profitability the most are:
1. Poor service mix
2. Poor productivity
3. Poor client mix
4. Poor cost control
5. Low revenue (sales) volume
In our experience, most advisory firm leaders do not actively manage to profitability and as a result are unaware of the insidious nature of some of their decisions. For example, it is common to introduce new services or take on new clients because of a perceived opportunity, not because of a conscious strategy. As a result, substantial resources and attention get diverted to a new initiative that costs more than it generates.
The advisory firm of the future will need to be more disciplined about the investment decisions it makes in its own business, much like it creates a framework for making investment recommendations for clients based on risk, reward, diversification, and other drivers.
As advisory firms evolve through their life cycles, they take on the same characteristics as the humans who manage them. In the early years, it runs on energy, not on wisdom. In the teen years, the firm acts with an insouciance derived from the belief that nothing bad can happen. When it arrives at adulthood, the business acts with confidence and wisdom. In the later years, its energy begins to wane and the decisions that emanate from the business seem to be focused on conserving rather than growing.
For advisory firms that have not invested in the development of people, it reaches a limit in regard to the number of active client relationships that can be served effectively. Depending on what is being delivered and how the clients are being served, that limit is somewhere between 50 and 150 clients per advisor.
Once advisors reach capacity, they tend to slow their efforts to develop new business. In firms containing multiple professionals, all with responsibility for getting new clients, this is not a concern. However, in firms in which all the advisors have reached their peak, it’s not uncommon to see revenue from new clients drop from 15 to 20 percent of the total to 5 to 10 percent.
Why is this a concern? Often in parallel with the aging of the advisor is the aging of the client. There comes a point that with limited renewal of the client base, most clients shift into withdrawal phase away from accumulation. The old rule of thumb was that investors could afford to withdraw 4 percent of their wealth in order to live their lives comfortably. Assuming this as your guide, and assuming your revenue is tied to assets under management, advisors would need to replace these assets each year just to stay even. But of course, this gives no consideration to death or termination of the client relationships, let alone the rising costs of doing business.
It is clearly important for advisors to define reasonable growth objectives in clients, assets, and revenues, and manage them all to a goal. Without a conscious target, it is possible to become complacent about the need to refresh one’s center of influence, seek out referrals, and urge everyone in the firm to be aware of the need to grow each year.
Every industry would love the unique dynamics of the financial profession. Throughout the world, we have seen a marked increase in the number of millionaires. Simultaneous with this trend, we are seeing a decline in the number of advisors guiding these individuals whose lives have become more financially complex.
For example, in the United Kingdom since the implementation of Retail Distribution Review (RDR) in 2013, 10,000 independent financial advisors (IFA) have left the business. In the United States, since the market collapse of 2008, there are 40,000 fewer financial professionals in all channels.
Many of these clients are seeking do-it-yourself (DIY) solutions that they can obtain online, but there is still considerable demand for the wisdom and insight that come from working with a professionally trained advisor – especially when their decisions go beyond the investment realm.
The talent shortage is a risk for advisory firms that are seeking to grow because
Mark C. Tibergien,
