It was more than three years ago that Mark Hurley released his first controversial white paper on the “Future of the Financial Advisory Industry.” Hurley forecast the industry would inevitably meet the same fate as that of the institutional investment management industry back in the ’70s: the dominance of a few large competitors, the extinction of small players, and the survival of those exceptional businesses serving a niche market.
While most of Hurley’s ominous predictions haven’t come to pass so far, the state of the industry today is far from the rosy picture many of Hurley’s opponents steadfastly painted. Many advisors are reevaluating–and the savvies are reinventing–their businesses in response to the strong trends that emerged during 2002. We take a look at some of these trends below.
The Winds of Change: Trends of 2002
(All 2002 year-end financial performance numbers cited are strictly preliminary and based on financial data provided by 14 RIA firms. The final numbers, based on the financial data of nearly 700 RIA firms that participate in our surveys, will be released in Q1 of 2003.)
From the decline in existing accounts’ revenues to the increased cost of acquiring new clients through vendor referrals, advisory firms faced many hurdles last year. Here are the most significant negative trends for the RIA business that developed in 2002. This information was gleaned through interviews with a focus group of 25 large RIA firms as well as from three years of survey data from AdvisorBenchmarking.com.
- Profit margins are shrinking (21.5% in 2002 vs. 29% in 2001)
- The cost of acquiring new clients is rising (marketing and client acquisition expense as a percentage of total expenses: 9.87% in 2002 vs. 7.7% in 2001)
- The fee-dependent revenue model is dragging down the bottom line in light of shrinking assets (Net profit $212K in 2002 vs. $229K in 2001)
- Many clients, even smaller ones, are demanding a family-office-like range of services
- Full-service brokerages are moving downmarket (23.1% of advisors lost one or more clients to a full-service brokerage in 2002 vs. 21.7% in 2001)
A discussion of these developments follows, including courses of action planned for 2003 by some of the largest RIA firms.
Profit margins are shrinking and the cost of acquiring new clients is rising: The margin squeeze (29% in 2001 vs. 21.5% in 2002) has been triggered by two factors: the decline in revenues generated from asset fees ($645K in 2002 vs. $715K in 2001) and the increase in spending on client-services staff and marketing (9.87% in of total expenses in 2002 vs. 7.7% in 2001). And no, the downward fee pressure is too mild (average fees 1.14% in 2002 vs. 1.15% in 2001) to be equally responsible for those failing margins (see “The margin squeeze” and “Net profits declined 8.02% in 2002″ Links below).
As counterintuitive as it may sound, improving margins should not be an absolute goal. You shouldn’t be overly concerned about expenses that are investments back into your business, such as retaining an attorney on staff to provide estate-planning services to your clients or purchasing a new CRM system that will reduce time spent on client statement preparation. If adding that estate planning component to your practice results in new and bigger accounts, as well as more satisfied clients, then your ROI will make it worthwhile, even if not within the same year.
The most successful advisor looks at each capital spending item and asks himself, “Is this going to make my practice better and bigger three years from now? Is this where I want my practice to be three years from now? Can I afford to absorb the costs gradually over the next three years?” If you think the answer to those questions is yes, then you should consider investing back in your practice.