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Regulation and Compliance > Federal Regulation

Making the Case for Midsized Broker-Dealers

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Over the course of the last year, fraudulent alternative investments have brought down not only small broker-dealers but also midsized firms such as QA3. With press coverage skewed in their favor, larger broker-dealers continue to chant the mantra of “scale gives advisors an advantage.”

As a recruiting firm, we’ve found that midsized firms can be somewhat of a sweet spot in the industry—large enough to be financially viable, but not so large that they become a cookie cutter platform saddled with cumbersome bureaucracy. With the pendulum swinging so far in the direction of larger broker-dealers, I thought it only fair to give the medium-sized firms an opportunity to have the spotlight shine on their value proposition.

Flexibility is a Major Differentiator
FINRA categorizes midsized firms as those having between 150 and 500 reps. While this is one measure, a more reliable indicator is gross dealer concession (GDC) in the neighborhood of $15 million to $50 million.

One such midsized firm, Geneos Wealth Management of Denver, has 250 reps. Geneos believes that a major differentiator for midsized firms is flexibility. Dean Rager, senior vice president for Geneos, is adamant that smaller firms have greater ability to deal with the advisor as an individual versus just a member of a cabal. Says Rager, “This flexibility in dealing with the individual breeds trust, where in a large corporate environment they indeed look at you as if you are trying to ‘overthrow’ the current regime if you do not conform. In practical terms, it means the right firm, deploying the right technology will be able to take the lead in servicing the advisor, the way the advisor wants to be serviced.”

Midsized Firms Give Independents a Voice
Rager continued, “Larger, more experienced advisors run efficient independent businesses and are looking for a broker-dealer that can provide a meaningful relationship with the home office staff and senior officers; high-end technology to allow their business to run efficiently; and balanced compliance support to keep them in line with all the regulations while letting them run their business at competitive payouts. A smaller firm that can provide all of this will generally be more attractive to the successful independent advisor as they feel they truly have a voice and know they have people standing behind them to solve problems as they arise.”

Setting a High Bar Brings Compliance Advantages
Prospera Financial, the smallest of the firms we interviewed with 110 advisors based out of Dallas, sets a high bar for their reps’ production. An advisor needs to do at least $300,000 of GDC to join Prospera, which puts their overall GDC well into the midsized broker-dealer level. It’s the high bar that brings compliance advantages, explains Tim Edwards, senior vice president of Prospera, “We don’t have to manage to the lowest denominator because we don’t have a lower denominator.”

Edwards’ point rings true. During the last three years, our recruiting firm has seen a growing tendency for larger firms to manage to the lowest denominator, creating an environment that is often 60% company policy and 40% regulatory requirements. They often experience:

  • Difficulty in marketing themselves
  • Excessive paperwork filled with difficult-to-understand legalese
  • Restrictive on adding product
  • Slow compliance approvals that disallow much of the content
  • Compliance audit excesses, e.g., go through your spouse’s checkbook

This “lowest denominator” management style often evolves from paying out large arbitration fines. In response to this, the company creates policies to prevent future arbitrations—many suffer for the sins of a few!

Tim Smith, president of Comprehensive Group, a 240-rep firm based in Parsippany, N.J., expounded further on the compliance issue. “The advisor in a midsized firm has a closer relationship with decision makers and staff, including compliance. In the area of compliance in particular, this can lead to faster decisions from the broker-dealer, and greater flexibility for the business model and operating requirements.”

Service, Not Services
In addition to a better compliance environment, service quality is by far the greatest advantage at smaller firms. Smith continued, “Service quality is generally better because there is not much else we do, and if we don’t do that, well, we’re out of business. So the emphasis on service is enormous (as opposed to larger firms, where the emphasis is on services, not service).”

Brian Kovack, president of Kovack Securities, a 267-rep firm based in Ft. Lauderdale, Fla., believes that larger scale does not necessarily translate into better service. According to Kovack, “Firm payouts are for the most part at an all time high across all channels, and related rep-incurred expenses are all similar if not the same—regardless of firm size. The pitch that service is better at a large firm, where a rep calls into a phone tree and is identified as Rep Number 4,212 versus dialing direct to the back office employee who knows them by name and is responsible for their request is simply not true. The marketing campaign that the rep makes more at larger firms and has better service is for the most part just that—a marketing smoke screen.”

Private versus Public Ownership?
Independent broker-dealers were excited with LPL’s success going public because it brought credibility to the independent channel. With most of the midsized firms being privately owned, there was no shortage of opinions on the advantages of private vs. publically owned. Tim Edwards of Prospera sees being privately owned as a huge advantage due to the fact that the firm only has to answer to its advisors. Says Edwards, “If you are publically owned, you have to answer to the shareholder and are under the gun to hit your quarterly numbers. We are under the gun to do what is best for our advisors and do not have to worry about short-term outcomes.”

It’s that long-term time horizon that’s a major benefit at private firms according to Tim Smith of Comprehensive Group. “Public companies have high expectations to meet and if they are not met, management can change quickly and so can strategies, and policies. Private company ownership usually has a longer term view, and can deal with short- to medium-term underperformance without changing course, as long as the reasons are not related to policy or management. The result is longer management tenure, longer personnel tenure, more consistent policy and market positioning, and less squeezing of margins when things are a bit tighter, because the private companies understand it’s cyclical and they just need to ride through it,” says Smith.

All things considered, midsized firms have enough economies of size that costs for compliance supervision are not a concern, as they may be with small firms. With new Dodd-Frank regulations, those being most affected by mounting compliance costs will be firms tied to banks such as the wirehouses, leaving the independent channel with minimal additional compliance requirements.    

Jonathan Henschen, CFS, is president of Henschen & Associates, which helps advisors find BD relationships that best fit their business profiles, while helping them uncover previously unknown opportunities. Visit his website,, or contact him at [email protected].


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