High Profit Margins or High Growth: Choose One

In the independent advisory industry, the term “lifestyle business” is often used as a criticism of advisors who run smaller firms with an eye toward how much time they spend out of the office, rather than investing more of their time and effort to grow their firm.

However, in my experience, the majority of advisory firms, small and large, are lifestyle firms, but instead of guaranteeing vacation time, most large firms guarantee owners’ income to support their lifestyles.

Now, don’t misunderstand me: There’s nothing wrong with knowing what you want to get out of your business and setting up so that you get it. If you only want to work 40 weeks a year and have built a life around the income that generates, more power to you.

But there are more problems when firm owners determine how much income they need to finance their lifestyles every year, and then run their firms with an eye toward generating that level of income. By making decisions year after year based on hitting specific profit margins for their personal lives, rather than what’s best for the business, owners not only limit the success of their businesses, they often erode it.

(Related: Don’t Let Your Business Control Your Life)

Here are five ways profit margin targets can hurt your advisory firm:

1) Limited reinvestment in the business. When owners are fixated on what their take-home pay is, discussions about whether to hire another advisor, add a new client service or launch a marketing plan tend to revolve around whether it needs to be done immediately rather than how much it would improve the business. As you might imagine, it’s often hard to make a case for doing it now, rather than holding off until later. As a result, firm growth tends to slow down — and often, eventually start to go in reverse.

2) Stop innovating. Not every new idea for independent firms is a good one, but some of them are and a few are essential; think computers, cell phones, flex time, etc. The industry is changing all the time. To make sound decisions about where to invest for the future, and when to pass on an investment, owners need to think clearly. In my experience, having conflicting pressure to maintain profit margins makes good decisions much harder.

3) Erosion of corporate culture. In small businesses, such as even the largest of independent advisory firms, employee morale often makes the difference between success and mediocrity, or worse. Usually, it’s easy to motivate advisory staffers and professionals, as helping clients to live better, happier lives fall well into the “good” column. However, owners can quickly turn that motivation around if their CRM is out of date, or their junior advisors are using DOS computers so that the owners can spend two months on the Riviera every year. Imagine how they’d feel about lame annual bonuses in a clearly successful firm. The result of that kind of culture is often high turnover, especially among the professional staff, which ultimately will prove expensive and undermine client service.

4) Reduced client service. While it’s the most important area in an advisory firm, client service is also the hardest to measure. Still, you don’t have to be Michael Gerber to know that low staff morale isn’t going to help client service quality. Good client service is no accident. It comes from sound decisions to invest prudently, and to train and support your staff. However, these are investments that will, at least temporarily, erode profits and your take-home pay.

5) Loss of talent. Unfortunately, running a business based on annual profit targets doesn’t just harm a business today, it is also gives younger advisors and future owners a bad example of how to run a business that will likely follow when it’s their time to take the helm, either in your firm (if it survives that long) or at their next firm. We are teaching an entire generation of advisors how to make decisions based in the income they “need” today, rather than what’s best for the business tomorrow.

The good news here is that running a business based on annual profit targets is such a demonstrably bad idea that it’s not all that hard to convince firm owners to stop doing it. Usually, all it takes is for me is to suggest that if they would take just a 10% profit margin for the first year and gradually increase it, within three years they’ll be dividing up a 45% margin of a much bigger pie.

However, once they see the benefits of reinvesting in the business, they almost always volunteer to keep their take-home at lower, more reasonable, levels. Go figure.

--- Read The Face in the Mirror: Admitting (and Overcoming) Advisor Fears on ThinkAdvisor. 

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