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Practice Management > Building Your Business > Young Professionals

Today's the Day

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I imagine it’s bittersweet when one’s dire predictions become reality: on one hand, you’d have to be somewhat gratified to know you were right; on the other, you’re probably saddened that no one heeded you enough to take a different course and change their future. Some observers, including my partner and fellow Investment Advisor columnist Angie Herbers, have been predicting for more than three years that a growing shortage of professional talent coupled with low retention rates and virtually non-existent partnership tracks some day will adversely impact the independent advisory industry.

Now, data from the 2007 Moss Adams Compensation and Staffing Study of Advisory Firms shows us that day is today. If the majority of firms continue to fail to solve the problem, we just might see the massive consolidation of the brightest advisors, the wealthiest clients, and the vast majority of assets into the mega-firms that Mark Hurley predicted some ten years ago.

As we’ve seen in every Moss Adams study since 2001, the independent advisory industry continues to skyrocket in terms of clients, revenues, assets, and profits: average AUM was up 25.7% in 2006; from 2000 to 2006, average revenues jumped 253% ($632,000 to $1.6 million), and owners’ income increased 63% ($228,000 to $371,000). The past five years have, indeed, been a good time to be an independent advisor.

More insightfully, however, Moss Adams also provides us with a pretty clear answer about how the industry is generating this stellar growth: employee leverage. During that same five-year period, the average number of employees including the owner(s) at advisory firms has more than doubled, from two to five. But is adding more people a good thing? To validate the trend to build bigger firms, Moss Adams added a new measure this year–the return on labor, which is a firm’s total compensation expense divided by its operating profit–which has increased steadily from 22% in 2001 to 34% in 2006.

As you might imagine, with benefits of adding more people beginning to surface combined with new clients and their assets pouring through the doors of most firms, the demand for employees–particularly professional advisors–is also rising quickly.

(In 2006, 23% of firms hired professionals, while 37.2% said they expected to do so in 2007.) In fact, the demand is rising too quickly: faster than college programs can turn out new financial planners, and way faster than the industry’s makeshift training programs can turn them into real advisors. This demand is reflected in a 41% increase in compensation for lead advisors over the past two years, to $150,000 a year. You can only pay them that amount, of course, if you can find one to hire in the first place.

Poaching From Your Younger Brothers

It may well be that the most pressing challenge facing independent advisors today (at least those who want to grow beyond a solo firm) is where are they going to find the young advisors to help them grow their firms. I’m afraid the answer for the larger firms is going to be “from the smaller firms,” which will create an even greater economic divide between large and small firms, and concentrate a greater share of the brightest and the best of the industry at the larger firms.

Consider that the Moss Adams data is also clear that as firms get bigger, their productivity just continues to increase: Revenue per professional today is $272,500 for Early Ensembles (firms with more than one professional); $511,750 for Mature Ensembles (with multiple professionals and between $3 million and $5 million in annual revenues); and $719,330 for Market Dominators (firms with revenues over $5 million).

This increase in productivity translates directly into higher income for owners: $236k for early ensembles, $493k for mature ensembles, and a whopping $1,111,000 for market dominators.

The bottom line? With bigger revenues, greater productivity, and higher profits which they can reinvest, larger firms can simply create more attractive packages for young advisors. The big firms can pay more, offer more incentives, provide better benefits, and create more comprehensive training programs. Moss Adams tells us that only about 23% of solos and early ensembles offer formal training programs for their staff, compared to 49% of market dominators. What’s more, only 18% of early ensembles currently have a career path that offers ownership in the firm, vs. 55% of market dominators.

All this suggests to me that smaller advisory firms are in serious danger of becoming the training grounds for the eventual partners in larger firms. While the larger firms certainly have the resources to train their own professionals, it’s easier and cheaper to let someone else expend the time and energy to bring young planners up to speed, and then simply hire them away. For their part, smaller advisory firms have been woefully bad at retaining the advisors that they have trained.

Unfortunately, it’s not a pretty picture. It seems to me that smaller advisory firms today have two options: 1) give up on trying to hire and train professionals altogether, and take the myriad benefits of having a solo practice; or 2) get their act together, and use the myriad benefits of working at a small firm to attract young professionals, possibly even away from the larger firms.

From Big to Small?

While turning the tables on the larger firms has a certain quixotic appeal, it will be far from easy. The first step is the acceptance that you are a buyer in a sellers’ market, that you are no longer doing a young advisor a favor by hiring them (if, in fact, you ever were). If anything, they are doing you the favor of considering your small firm over the better economics of one of the industry’s giants.

Yet, ironically, considering all the ballyhoo in recent years about the gap between established advisors and Next-Generation employees, the best thing you have going for you as a small firm owner is the NextGen mentality: their aversion to going to work in a corporate environment and their inclination to value quality of lifestyle ahead of monetary compensation. Those are the two things you have to offer them, if you can bring yourself to do it.

As a small firm, the key for you is that you’re going to have to offer everything a large firm does: incentive comp, benefits, a clear career track, a training program, and a reasonable partnership opportunity. But each of these elements doesn’t have to be as attractive as they would be at a big firm. You can make up the difference with the advantages you can offer as a small firm: a relaxed environment, flex time, more vacation time, you as a mentor, their greater impact on the success of the firm, their acquisition of a greater percentage of firm ownership more quickly, and the possibility of succeeding you as principal someday.

Chances are good that a small firm owner can put together a package that would be more attractive to a NextGen candidate than anything a large firm could offer. That is, if you play to your strengths, and allow yourself to offer the things that make working at a small firm better. If, on the other hand, you can’t bring yourself to share much, if any, of the equity in your firm, or lighten up on the 9-to-5 for you and your two employees, then you might want to consider the leveraged solo option (the top 25% of solos have three staff employees and generate on average $515,000 in owner’s income). Because it doesn’t look like there’s going to much of a middle ground: competing with the large firms on their own turf will be an uphill battle.

Looking at the numbers, competing with the larger firms is getting tougher. The new Moss Adams Study also tells us that firms generating less than $2 million in annual revenues fell from 86.1% of respondents to 82.7%. That 3.4% was shifted to larger firms, which now comprise 17.3% of the study, up from 13.9% last year. It’s a seemingly small number, to be sure, but since Moss Adams studies tend to be overweighted with larger firms participating, the actual growth of larger firms in the industry as a whole is likely twice that number.

Which is more than enough to suggest the trend that larger firms are, indeed, beginning to pull away. If you are a smaller firm and you want your firm to grow, you’ll need to take steps to make sure they don’t take your young professionals with them.

Bob Clark, former editor of this magazine, surveys the advisory landscape from his home in Santa Fe, New Mexico. He can be reached at [email protected].


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