If you’re like many other boomer advisors approaching age 60, planning for a graceful exit from your practice is probably a low priority right now. Why mull over an event that’s not due to happen for another five or 10 years, you might ask, when you have so many other tasks to attend to?
Think again. Succession planning–transitioning your clientele to a new advisor over a period of years as you prepare to leave the business–is possibly the most important activity you can undertake now to assure yourself a financially rewarding retirement. The earlier you start the planning, the greater are your chances of a making a trouble-free exit.
“Exit planning takes a lot of time and effort,” says John Brown, CEO of Business Enterprise Institute, Inc., Golden, Colo. “The departing advisor has to cultivate a strong and deep rapport with a younger prot?g? who will gradually assume more importance in the client relationships. If you wait until age 65 to begin a succession plan, then it’s probably too late.”
Lisa Van Zandt, a director of succession planning at AXA Equitable Life Insurance Company, New York, agrees, adding: “The exit plan should take place over an extended period of time. If clients aren’t transitioned appropriately–if the successor advisor hasn’t developed good working relationships with them–they could become dissatisfied and take their business to another company.”
How far in advance of retirement should one start the planning? Depending on the number of clients to be serviced and the complexity of the practice, experts say, one should start at least three to five years before the expected date of departure.
One Long Transition Plan
Or, if you’re like Carl Polhemus, a financial representative for Northwestern Mutual-Denver, an affiliate of Milwaukee-based Northwestern Mutual Financial Network, make that 10 years.
A 30-year industry veteran, Polhemus started transitioning about 950 of 1,000 clients to a younger prot?g? five years ago. Each month, he would review with the junior advisor the files of about 20 clients. Thereafter he would send the clients a letter indicating the associate had joined his team and would be calling on them to assess current financial needs.
Had he not undertaken the years-long planning, says the now 64-year-old Polhemus, he would have been unable to meet his current objective: dedicating his last five years in the business to transitioning 50 high net worth clients to a seasoned wealth manager. At retirement, the task of reassigning the less valuable 950 clients to other NMFN producers would have fallen to someone who has no knowledge about the clients’ planning needs.
“One client might make $1.5 million annually, be worth $50 million and have sophisticated planning needs, whereas another may earn only $50,000 per year working for the government and have no additional needs,” says Polhemus. “You don’t necessarily want the same producer meeting with these two people.”
The varying financial needs of clients likewise factored into Polhemus’ exit planning strategy. The 50 people he’s keeping–among them affluent business owners and executives who collectively account for about a third of his lifetime sales production–met three criteria he established for segmenting his clientele: (1) He enjoys working with them; (2) they value his expertise; and (3) they have significant revenue potential.
“Because of these clients’ long-term potential, I feel like I’m giving them a promotion by introducing them to [the wealth manager],” says Polhemus. “I think they’ll like his model better than mine because it’s more comprehensive.”
Keeping it all in the Firm
While all has so far worked out smoothly, Polhemus acknowledges that he undertook a “seat-of-the-pants” approach to his exit planning. Other firms allow little room for such improvisation.
Case-in-point: Rogers Group Financial. Fifteen years ago, the 38-year-old firm, based in Vancouver, B.C., instituted formal procedures for transitioning ownership and management of the firm from one generation of principals to the next. Among other requirements, says Clay Gillespie, a managing director for the firm, each of the 14 partners must annually sell back to the firm 10% of their shares in the business starting at 60 and concluding at age 70.
t retirement, the exiting advisor cedes the partner title to a successor who has been groomed through an “articling” program the company established for new advisors. While under the tutelage of a senior advisor, says Gillespie, the junior associate is expected to meet several requirements. Among them: joining client meetings with the mentoring partner; pursuing coursework leading to an educational designation (such as the CLU, ChFC or CFP marks); and demonstrating an ability to bring new business to the firm.
Those who can–informally dubbed “finders”–are the cream of the crop. Not everyone enrolled in the articling program, observes Gillespie, becomes a partner. Other new advisors who lack the requisite prospecting and sales skills–”minders” (those capable of servicing clients); and “grinders” (individuals suitable for back-office work)–may still have a place in the practice, albeit below the partner level.
“At our firm, there is room for some minders and grinders, but to be a partner, we want finders,” says Gillespie. “We’re not a huge firm. So we have to be sure all of the partners are pulling their weight by expanding the business.”
And, he adds, the worth of the individual practices. By keeping the clientele in transition wedded to the firm, says Gillespie, the exiting advisor’s book of business has greater value than it would have if the practice were sold to an outside advisor. The reason: Clients are less likely to bolt if the servicing of their portfolios remains within the company.
Gillespie says the financial component of the hand-over varies from one practice to the next. Some partners prefer an “earn-out” in which they garner a share (say, 25%) of recurring fees and trailing commissions earned by the successor advisor. In other cases, the incoming partner buys the practice with a bank loan, then funds the loan repayments from ongoing fees.
Coming Up with Price
How much might advisors get for the sale of their practice? A general rule of thumb, sources say, is to multiply income by some factor. For recurring revenues, such as fees derived from investment advisory services and trailing commissions on product sales, observers suggests a multiple of 1.5 to three times revenue. For non-recurring revenues (e.g., heaped or front-loaded commissions) the multiple will generally range between 0.75 and 1.25.
When markets are down, the computed figure–the sale price–could be substantially below what the advisor wants. Hence, experts caution against selling a practice in a contracting economy. Especially vulnerable are investment advisory fees charged as a percentage of assets under management, which fluctuate in tandem with prevailing equity values.
“If the market has been down for two to three years straight, then your recurring revenue has likely also been down over the same period,” says Randy Miller, an attorney and business consultant at National Planning Corp., Santa Monica, Calif. “So the valuation is affected and your business won’t be worth as much in a down economy. Conversely, it’s probably a good time to sell when the market is up.”
For producers who generate mainly one-time commissions on life sales paid by clients whose loyalty to the firm is tenuous, it may never be a good time to sell. When these agents retire, note experts, the clients are as likely as not to leave the practice.
“The relationship between the life insurance professional and clients is usually personal to that professional and is difficult to transfer to another life insurance advisor,” says Brown. “In my experience, it seldom works, unless the exiting producer is transferring the business to a child who, because of the family connection, can inspire loyalty among the clients.
“Whenever possible, I recommend that agents expand the practice beyond life insurance, such as by offering investment advisory or financial planning services,” he adds. “These fee-based services are more easily transferable owing to the ongoing stream of income.”
Putting it all in Writing
Sources say that that many financial professionals bypass a critical step: putting the succession plan in writing so that the plan’s stakeholders know what to expect–and when–during each phase of the transition. Such an oversight can be bad both for the seller and buyer.
All too often, experts note, the parties reach an informal understanding, but then one or the other doesn’t follow through on verbal commitments.
Miller recounts the time an advisor sold his practice to another shortly before retiring and didn’t notify clients about the transition to the buyer. He also failed to renew licenses. Many of his clients left the practice for another, and because he was no longer licensed, the seller was unable to partake in new commissions generated by the buyer.
“It would have made more sense for him to keep his licenses and to have structured the deal differently,” says Miller. “Basically, he was cost-conscious. And he was very checked out of the business before he sold it.”
Another pitfall of exit planning is the failure to indentify a suitable buyer. The ideal candidate, says Miller, should share the seller’s high ethical standards, presentation style, investment philosophy, product mix and technology.
Gillespie agrees, but observes there is room for differences. A senior advisor can also learn things from a junior associate being groomed to take over the practice, particularly in respect to productivity-enhancing technologies.
“An articling advisor may have new ideas or technology skills that would benefit a practice in transition,” says Gillespie. “Yes, a successor should share the departing advisor’s outlook and business processes. But the junior associate should also push the outgoing advisor to try new things.”
AXA Equitable’s Van Zandt also cautions that advisors should be open and flexible when choosing a successor.
“Sometimes advisors may not consider a potential successor because he or she isn’t exactly like them, or doesn’t do something exactly the way they do it,” she says. “Advisors should be open and look for someone who has strong skills, who knows the business and will service the clients properly, even if they might do it in a different way.”
If the successor is one of several adult children of the retiring advisor, then pressure may be brought to bear to equalize the value of the estate for siblings by purchasing life insurance. Miller, however, thinks that’s not necessarily a good idea.
“Buying life insurance to equalize an estate may not be fair to the child inheriting the practice,” says Miller. “That child has to maintain a business that, if things go awry, could be worth a lot less in later years. The other kids will get a lump sum of cash that they can dispense with as they please.
“If the advisor wants to be fair, it may better to separate the business from the rest of the estate, then divvy up the non-business assets among all children equally,” he adds. “In any event, the advisor should make clear in a will, the purchase agreement or other estate planning documents his or her wishes for passing on the estate.”