From the November 2010 issue of Investment Advisor • Subscribe!

November 1, 2010

Fueling Your Success

A review of business development and client communication trends - and what it means to you

In our last article, we covered revenue, time management and investment trends among registered investment advisors. In this piece, we address two critical components of effective practice management: business development and client communication. Success in these areas helped the advisory industry fare relatively well during the recent recession, compared to overall equity markets.

Median firm assets fell much less than equity markets, and then not only regained their upward trend, but hit a new high only a year later (see Figure 1). We believe there are many reasons for this relative AUM stability and quick turnaround, including effective diversification, a sharp market rally, and strong new business development, among others. And this commendable performance under tough circumstances bodes well for the industry overall.

There are, however, some concerning trends that must be addressed if the industry is to capitalize on the many opportunities now emerging. The key is for firms to focus on the challenges of business management, business development and client relationship building.

Industry margins have been under stress for nearly a decade now. They have been shrinking steadily since 1999. Figure 2 clearly shows that the 2001–2002 recession challenged advisory firms’ profitability, and that while margins and profits jumped a bit in the mid-2000s with the asset bubble in equities, they have since resumed their decline. History is showing us that asset growth on its own can no longer be relied upon to make up for the industry’s inherent inefficiencies—especially during severe market dislocations.

While top performing firms posted 40% higher AUM growth in 2009, their outperformance on expenses, revenue and margins was even higher. These firms grew revenue more than three times faster than other firms, and actually decreased expenses at the same time. At other firms, expenses were going up, while new assets were not translating into as much revenue growth. As a result, top performers were able to operate at nearly twice the margins of other firms.

Top firms are able to turn new assets into revenues and profits at a much higher rate than other firms. The data indicates that these firms are bringing in higher quality new business, while also keeping costs restrained. For example, nearly a quarter of advisors do not focus on specific types of clients at all. And of those that do, many focus narrowly on assets. The overall industry response for “wealth range” as the defining factor of an idea client increased from 49% of firms in 2008 to 63% of firms in 2009.

But top firms are much more likely to look at a variety of factors, from age, to lifecycle situation, to specialized investment needs (see Figure 4, above). We believe that their more comprehensive approach helps them bring in clients that are well matched to their offering—including product and service mix, as well as pricing.

In addition to targeted new business development, top firms excel in the most important driver of new business: referrals. They far outpace other firms in both active and passive referrals (see Figure 5), with active referrals becoming the most important source of new business for advisory firms (see Figure 6). Since 2007 active referrals, as a source of new clients, have quadrupled, while passive referrals have been cut by three-fourths.

What we can learn from top firms is that sustainable success requires a disciplined and systematic approach to business development, focused on active referrals; and that strong client relationships are required to ensure strong lead flow.

Time with clients is absolutely critical. “Relationship management” ranked as the most important area for running an advisory firm, according to almost half (45%) of survey participants in 2008. They also named finding new clients (88%) and communication with clients (79%) as the most challenging areas of their business.

Yet for firms that excel at relationship management and client communications, it appears that finding new clients is a natural outgrowth of that strength. In fact, profitability can be directly tied to time spent with clients (see Figure 7). Firms that spend more than 60% of their time with clients have nearly four times the profits of the next most profitable firms.

In the area of client communications, Web-based capabilities are steadily gaining in importance, with 45% to 65% of advisors saying that they have increased their online time for a wide variety of activities, including client communications and marketing (see Figure 8). In addition, the Internet offers exciting new opportunities for relationship building and client acquisition, which will be essential components of the industry’s marketing mix in the future:
• Web marketing was the biggest gainer in facilitating new asset growth, second only to active referrals.
• Web-based initiatives like webinars, blogs, Facebook and LinkedIn are becoming as important as other more conventional parts of the marketing mix—cited by 10% to 28% of advisors.
• Social media shows the slowest adoption (73% don’t use it), because its relevance and utility have not yet been firmly established.

Despite the strong example set by top firms, the industry still needs to make more progress in its strategic focus. Overall, the top goal for advisors for 2009 was “increase AUM,” which was cited by more than half of advisors. At the same time, “increase profits” actually dropped in strategic importance, and “increase revenues” increased to only 16% of firms.

Also, advisors were asked which areas they felt they needed to improve in, and “client acquisition and marketing” fell from 74% of firms to 47%. Client communication fell from 44% to 32%. Client education fell from 33% to 24%. Advisors believe that they are doing an adequate job in these areas, despite the fact that our data suggest they could do even better.

As top firms show, an emphasis on raw asset growth is not an optimal strategy. Turning asset growth into revenue growth, and turning revenues into profits, are the keys to sustainable success. In this regard, systematic and well-targeted business development is key, as is time spent with clients to increase the quality of those relationships, which is critical to generating healthy lead flow, especially in the area of active referrals. Online communications are playing an ever-more important role in that process, and offer exciting new opportunities for advisors who can master these newest of tools. And finally, costs have to be kept in line, or even reduced, if the industry is to regain its formerly outstanding margins.
We believe that with the right strategic approaches, the industry has a bright future ahead. The fact that active referrals are generating most new business suggests that advisors are delivering value to clients, who are willing to put themselves personally on the line in making those referrals. But to make the most of those new business opportunities, advisors need to follow the example set by top firms and not just focus on being bigger, but also on managing smarter as they grow.    

Maya Ivanova is senior market research manager for Rydex|SGI AdvisorBenchmarking. E-mail her at mivanova@advisorbenchmarking.com. Results are from the 2010 online AdvisorBenchmarking survey of more than 400 advisory firms.

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