For veteran advisors and observers of the advisor industry, Mark Hurley is a lightning rod of sorts, and now he’s back. Not that he ever disappeared, mind you.
Prior to founding his current firm, Fiduciary Network, the West Point graduate led, and then sold to JPMorgan Chase & Co., the mutual fund firm Undiscovered Managers, and previously toiled at Merrill Lynch and Goldman Sachs. Two of his previous studies, released in 1999 and 2005, led to much navel-gazing and naysaying about the future of the independent advisory business, since the takeaway for many was that there would be significant consolidation, especially of advisory firms, where a small number of mega-firms would sit astride the advisory world, and the thousands of small firms would wither away.
Hurley says that that takeaway was flawed, and in an interview in New York prior to the release of his latest paper on Monday, he believes that for the industry, there is no big consolidation coming down the pipe, but there will be more concentration.
In his newest paper, Brave New World of Wealth Management: Opportunities, More Competition, Demographics and Growth Conundrums, running 86 pages with plenty of charts and graphs and cowritten with eight partners at the Fiduciary Network (the paper is available for downloading at Fiduciary Network’s site), Hurley argues that there are five “forces” that will “fundamentally alter the economics of every wealth manager.” He further argues that existing advisory firms can be separated into three major groups: “evolving businesses,” of which there are only about 200 firms out of the total 19,400 “participants” in the industry; 18,000 firms that are “books of business” and have no real economic value; and about 1,000 “tweener” firms, which have some economic value, but which have not “gone through the messy business” of building one of those “evolving” advisory firms.
So what are those five forces? First is the lower number of wealthy people: “The supply of millionaires is still below 2007 levels,” he says. Second are the demographic changes among high-net-worth clients. “Older clients, who are more risk averse and are spending their capital” account for a larger percentage of wealth managers’ revenue.
The third force is the “nominal returns on low-risk assets,” which Hurley says put a “damper on the natural level of client assets,” and thus lower fees for the wealth manager. Fourth is that the cost of doing business is rising, somewhere around 5% to 7% a year.
The fifth and final force, he says, also revolves around demographics, but in this instance refers to the rising age of the founders of wealth management firms; their average age is between 59 and 62, he says.
How will the three types of firms be affected by the five forces? “Few advisors understand how these changes will affect them” in particular, Hurley says. The evolved business will grow its earnings, but at a lower rate, he suggests. Adding new clients might be an answer to the five forces, but “new clients need lots of time” early in the process—up to 20 times what existing clients need—which leads to one of Hurley’s warnings, which he calls the growth conundrum.
Facing “spiraling costs to attract and serve clients,” even the most advanced “evolving firms” will have to improve their processes and make better use of their professional staff members. They’ll also have to “reconstruct their comp systems” more toward variable compensation and should “reallocate risk between employees and owners.” They can increase their specialization and use “more efficient marketing” to raise their fees.
Finally, they can use acquisitions of other firms, which can allow them to “pick up five to seven years of growth” in one fell swoop. “More of these $10 million [in revenue] firms will buy other $10 million firms,” he predicts. Since strategic acquirers of other firms can “pay more because they can strip out costs,” many evolving businesses will explore the acquisition path to growth.
The future is not so rosy for the “books of business” firms who will see their profit margins squeezed; they’ll “sit and take it” as the industry evolves, Hurley says. After all, when it comes to the value of any advisory firm, “your sale price is a function of sales growth,” he says, so the books of business firms, with no or poor sales growth, have no economic value.
Hurley calls the “tweener” firms “the most interesting” in terms of their future viability. Without professional staff, those firms can’t get more efficient, leaving them with three options: “Start the messy process” of becoming an evolving firm; sell the business to other wealth management firms; or “do nothing and become books of business.”
Since his company, Fiduciary Network, is what he calls a “passive” investor in financing internal transitions within advisory firms, acquisitions of one advisory firm by another, and “buyouts of retired or inactive shareholders,” Hurley saves some of his sharpest observations in the final chapter of the paper on the market for advisory firms, and gives some pointed advice to advisors who are looking to buy or sell a firm. (He also speaks extensively on the future of rollup firms and banks as acquirers of advisory firms.)
First, he says there is “plenty of capital available” to buyers, but warns that “all capital is based on the cash flow” of the acquired business. He argues that prospective sellers should “sell sooner rather than later,” be prepared for an “emotional roller coaster,” and be helpful to buyers. That helpfulness should extend to “sharing your data with the buyer” and assuaging “buyers’ biggest fear: that the clients will walk away” after the acquisition. “Help the buyer build a plan to retain current clients,” he says.
As for the overall industry, Hurley remains optimistic. "This will still be a great business to be in," he says, "but the easy money has already been made.”
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