LPL Financial's IPO: Philip Palaveev's Analysis

LPL's size has both positive and negative aspects, says the industry guru

Philip Palaveev, president of Fusion Advisor Network and a leading authority on advisory practices, sees the LPL IPO announced Friday, June 4, as a major achievement for the entire independent broker/dealer business model. For one thing, he said in a telephone interview on Monday, June 7, the IPO will put the largest independent broker/dealer under the scrutiny of the public market. For another, it is a validation that an independent firm can grow to a size and market significance that allows them to go public.

Independent broker/dealers as a business model are not well known on Main Street, and now LPL has broken through that barrier, Palaveev said. "To some degree, going public is recognition that you've grown large enough and your management practices are sound and solid enough to be scrutinized by the public market. I have to congratulate the management team that has built such a tremendous company. You have to admire the scope of the vision and how quickly they have been able to achieve that."

Palaveev does not think the IPO will make LPL more competitive, however. He pointed out that the firm has been institutionally owned for the past five years. "This means that they have been functioning with stringent control from a board of directors," he said. "They have been filing with the SEC over their debt for quite some time, so their financials have been relatively transparent; and they have a large and institutional management team. S, I don't think this will change their management style."

New Strategy?

Palaveev also doesn't expect a big change in strategy-"especially considering their strategy seems to be very much, 'We're going to be everywhere and do everything, and we're going to be the biggest.' " The IPO will change the firm's capitalization, he said, and LPL will use the proceeds from the IPO to settle some debt. "But at least for now, I don't see any signs that they're going to become more acquisitive or venture into markets or types of services they haven't performed before. Not to say that it's all status quo, but this will change their balance sheet much more than it will change their competitive behavior."

Palaveev sees both positive and negative aspects to LPL's size. It's a good thing for the firm's strategy because it gives LPL resources to compete. "The broker/dealer industry is subject to lots of economies of scale, and they achieve all of those better than any of their competitors," he said. "Negotiating power with your vendors matters a lot, and they achieve that better than any of their competitors. They are a self-clearing firm, and now they're in the custodian business, something that's not affordable to just about any of their competitors. In that respect, size is a tremendous advantage."

The downside of the firm's size comes in the delivery of service. "No one wants to go to the largest restaurant or the largest hotel in the world or to the busiest dentist in town," Palaveev said. "This being a service industry, human relationships matter a lot. The ability to know and service your clients individually matters a lot. So whereas size is strength in negotiations and operations, it's a significant weakness in service, because that means you have less of an ability to know your customers--it's difficult to know 12,000 customers; less of an ability to customize service to individual or niche needs."

The Future

What lies ahead for LPL now that is has become a public company? The real effects of the IPO will be felt three or four years down the road, not the day of the IPO," Palaveev said. "The IPO creates liquidity. It's not immediate liquidity, but three, four years down the road after the company goes public, a lot of the advisors and, more important, many the employees who hold IPO stock will be able to cash out of that stock. It's normal to see an exodus of talent about four or five years after the IPO. You can expect to see a lot of the management team leave."

He said probably the biggest effect of the IPO will be the company's ability to attract and hire management talent. "On the one hand, they now have the ability to offer publicly traded stock options; one the other hand, you can go public only once--you can't recruit anymore, saying you're going to get free IPO options."

The IPO will also provide much-needed valuation and financial management information to all broker/dealers, Palaveev said. Public market validation will be forthcoming about how much a B/D is worth and what factors affect the valuation of a broker-dealer.

"We compete as an industry," Palaveev said. "We all have to instill confidence in investors that using a financial advisor will help you maximize the probability of achieving your financial goals. So, when a financial advisory company succeeds, that's great for all financial advisors--just like when a Madoff fails, that's bad for all of us."

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