Not to take anything away from previous Broker-Dealers of the Year winners, but the interaction between this year’s honorees at our roundtable discussion in Chicago was top-notch, once again showcasing the passion and dedication that earned each of them the award.
All of this year’s participants were owners or part-owners of their respective firms. This meant that on topics such as service (“We look not at how many reps we have, but how many relationships we have.”), succession planning (“As much as we talk about wanting to keep this going forever, somewhere along the way we have tough decisions to make.”) and budgetary priorities (“When you’re spending your own money, you make decisions much differently from when you spend somebody else’s money.”), the entrepreneurial spirit was present throughout.
Initially seeded with questions from the host, each had so much to say that crosstalk dominated much of the day, and we were content in our role as “flies on the wall.” Their candid views on regulation, their competitors, the outlook for the independent space and technology continued into lunch and on breaks, which had us fearing some nugget of wisdom would escape and therefore kept us busy with constant recording.
As always, the interview was punctuated with laughter, good humor and mild ribbing. They engaged in a free-flow exchange of ideas and, although they were competitors, held little back.
This year’s winners (or their firms) aren’t new to the process, with three of the four capturing top honors over multiple years. They are David Stringer of Prospera Financial Services; Barry Knight of NEXT Financial Group; and Eric Schwartz of Cambridge Investment Research. The only newbie to the group, David Pintaric of WRP Investments, was particularly moved during the award ceremony for the validation it bestowed on his family-run firm.
Each had a lot to say and, as with every year, editing the transcript alone took a bit of doing. An excerpt is provided here, but the 22nd annual BDOTY celebration continues online at AdvisorOne.com, where readers can find an extended version of the interview transcript, individual interviews with this year’s winners and behind-the-scenes video from the magazine’s photo shoot. Our archive of past winners, as well as their print and video interviews, are also available.
Regulation and Fees: How One Contributes to the Other
Jamie Green, Investment Advisor: The Financial Services Institute, an organization that lobbies on behalf of independent broker-dealers and their advisors, has come out rather strongly against fee increases that FINRA has proposed. Part of its formal statement suggested that the industry is facing a profit margin squeeze already, and these proposed fees might in fact push some broker-dealers over the edge, especially smaller broker-dealers. Is what FSI has to say true?
David Stringer, Prospera Financial: I’ve heard that argument, and maybe I’m naïve, but I haven’t seen it happening. We’re having record revenue, and as a firm we seem to be profitable. I do see there is a squeeze, and I understand that. I think we’re all going to be impacted. Many of these fees are increases at the individual rep level, so in many cases these are pass-throughs to the rep. I wasn’t happy when the SIPC charge went up. I do see those things happening, but I haven’t seen it put us in a position where we’re not able to compete.
Barry Knight, NEXT Financial Group: You got that part right. I don’t think that the FINRA fee increase in and of itself is catastrophic by any stretch of the imagination. I do have ongoing concerns about the margin compression for the industry over all. I suspect all of us here at the table are doing well because we’re doing things well. The reality in our industry is that margins have always been narrow. We try to serve the individual representative and give them back most of the money that they earn. Just the reality of FINRA fees or SIPC fees or the cost associated with meeting the increasing regulatory expectations over all, from a compliance standpoint, I’m sure has increased for all of us. All of these things collectively start to raise some concern; not from a survivability standpoint, but certainly from a margin standpoint.
David Pintaric, WRP Investments: Kudos, David. I was thinking of saying the same thing. I was asked this question at the end of last year about our size and viability. What prompted the question was that a firm similar in size shut their doors. My response was, “I don’t get it.” We do about $42 to $45 million in GDC; much smaller than you two big guys, but we’re having record profits and doing just fine. Now, maybe living where I’m living is different from somebody who lives in San Diego or Boston. We’ve avoided a lot of problems that some of our peers size-wise did not avoid, and that may have something to do with it. We stay out of the fancy investment products. We watch the pennies very closely. As you get bigger, you get sloppy when it comes to cost containment. My firm was started by my mom and dad, and my mom knows how to pinch pennies. I have this term that she could rub two nickels together and come up with 11 cents. Both of them are Depression babies. That has influenced how my brother and I run the firm.
Eric Schwartz, Cambridge Investment Research: Nobody who is regulated likes the idea of more regulation and more expense. Certainly over the last 10 years the regulatory burden and cost to our industry has doubled or tripled. Fifteen years ago we were a fairly regulated industry; now it’s much more. We would all like to see better regulation rather than more regulation. If it was better regulation, it wouldn’t have to cost as much, and we wouldn’t have to have as many of these increases. There’s been a discussion that the RIAs don’t want to come under FINRA because it would be too expensive. They’d rather just get an audit cost charged to them by the SEC. Well, the amount that [the average RIA] has to spend on regulation and fees is de minimis compared with what we have to spend to do a comparable amount of business. So it’s no different from any other industry. We’d rather have better regulation that costs us less but still does the job, rather than keep piling on more and more.
Consolidation: More or Less
Green: It was just announced that AIG Advisor Group will acquire Woodbury Financial from The Hartford. It seems that a number of insurance companies are getting out of different parts of their business. How will this bode for the industry consolidation we hear so much about?
Stringer: I think some of the small firms, especially the really small firms where senior management is also producing, are saying, “Does it still make sense to own my own broker-dealer?” We’ve had maybe five broker-dealers that fit that model. What we found is that when they shed the broker-dealer to become independent reps solely, their production goes up. There’s a strong case for some of them to decide if that’s in their best interest. A lot of the bigger firms are looking for scale, and that’s not something we’re looking for. We’re celebrating 30 years as a small firm and plan on continuing to celebrate years as a small firm. So I don’t see consolidation for the ones who are in it for the right reasons. The ones who wanted to be their own broker-dealer because they wanted that control, they’re having to reassess that decision. I think there’s plenty of room in the industry for the small boutique firms.
Knight: I agree with your comments. I think there’s also room for, if there is such a thing, medium- and large-size boutique firms as well. I think that if you look around the room here today, there are four actual independent firms represented, which might be educational since that’s not the norm. I think that absolutely there is a market for truly independent firms, and we will continue to see that. Not all firms are going to be aggregated. Not all firms are going to be moved up into some larger conglomerate or entity because there’s a very important role in serving representatives. Clearly we’re able to do it in a way that those representatives appreciate.
Pintaric: I don’t think the trend that we’ve experienced over the last three years of roll-ups and reduction in the universe of broker-dealers is going to continue. Most of the firms that in the last three years have ceased to exist did so because they did something wrong; whether it was intentional or not, they brought something on themselves. Service is a very personal experience. It’s difficult to systemize personal service. There are some reps who want to go to the “big box” broker-dealers, and there are some who would rather avoid that and deal with the small family organization. I made a decision when I first got into this business that I wanted to be like LPL Financial. I always admired LPL and what they did. That was my youthful exuberance speaking. I still admire them, but I don’t want to be like them anymore. No disrespect to a firm like that, but I like what I have now: to be able to personally know the people we serve, and they know me. That’s going to come back in our industry more and more.
Schwartz: I think there are four categories of reasons for why you have some consolidation going on. Some of them go in cycles and some of them are ongoing. The first is the bad product/extinction level event. We saw 50, 75 broker-dealers go out of business because of Medical Capital and Provident Royalty, etc. Some smaller firms sold disproportionate percentages of those, but also they didn’t have the capital. Had LPL Financial been unfortunate enough to sell a couple of hundred million dollars in one of those products, it could have solved it. There’s going to be less of that in the near term because those products aren’t there.
The second issue is just that the four of us around the table are entrepreneurs who run our own businesses. Even if you decide you want to keep it going all your life, you still have an estate tax problem because somebody will sell at some point. The most common case is sometime between the age of 55 and 75, the senior people, usually one or two big dogs, sell because they want to cash out. And the only buyer that can come up with that much money is almost always an institution that already owns some other broker-dealers: thus, consolidation. As much as all of us at the table talk about wanting to keep this going independent forever, somewhere along the way we have tough decisions to make as to how we do that.
The third area is insurance broker-dealers. They were the main buyers a number of years ago. They’re becoming one of the main sellers now. I think the message they’ve gotten loud and clear is either get serious or get out.
The fourth thing is that there is potential for somewhat of a middle squeeze. You’ve got niche players that can deliver the personal service like our two smaller firms here have done. They can survive as long as they don’t hit one of those extinction-level events. They have a level of commitment from their staff and from their advisors to personal service that they can’t get at a 5,000- or 10,000-rep firm. The top 10 firms right now control 55% of the GDC in the entire distribution channel. Fifteen years ago, I believe it was between 15% and 20%. The top seven or eight firms 10 or 15 years from now will control 80% of the business. But that means there’s still another 20%. That’s room for an awful lot of 200- to 500-rep firms.
Stringer: I agree on a couple of those points. Just as with advisors, there’s an aging population of firm owners now who are looking to make difficult decisions. But one of the good things that’s come out of the financial crisis is that the survivors have gotten better at risk management. It doesn’t matter what size firm you are—risk management is not something that you can skimp on.
Schwartz: Traditionally, you were a commission guy or you were a fee guy. We were one of the leaders that said, “Well, why do you have to be one or the other? Can’t we figure out how to do both?” Now, of course, everybody does that. In the same way, it seems like the choice has always been be independent with the risks and rewards and benefits of that, or be swallowed up by the big conglomerate. I wonder if there isn’t an opportunity for small, midsize and even large firms to form some sort of joint venture or association where [multiple] firms work together. What’s the benefit of AIG adding another firm today? Now, they have four firms; they’re still only going to have one due diligence department when it’s done, but they’re going to have four firms benefiting from it instead of three. So why couldn’t the four of us in this room say, “OK, from now on we’re going to have a due diligence team that’s going to work for all of us.” We could become more cost effective and compete better with bigger firms who have economies of scale. Now you have five or 10 firms that collectively represent $1 billion of revenue that are not repeating the exact same process; they can have the best of being independent, but some of the benefits of scale.
Knight: I expect we’ll start to see what Eric’s describing, especially in the context of some of these private equity firms that are buying up individual firms, yet at the same time letting them continue to operate somewhat independently. I think it will look different from some of the aggregation we’ve seen in the past because of exactly what Eric is saying. I suspect that they will keep some personal identities and culture going, but start to really aggregate some of those back office functions, particularly around the areas Eric mentioned like due diligence, things of that nature.
Schwartz: The clearing business got started very similar to that. And, of course, the correspondents have tried to branch out beyond just clearing, because they can’t make a living on $5 ticket charges or whatever. They have to offer some other value-adds that you’ll pay for, so they try to step into that gap to some degree.
Service: And all it Entails
John Sullivan, Investment Advisor: As a midsize firm, how do you balance scale with the personalized service?
Knight: The key is the folks you service. That may sound trite, but the key to all of the success we have enjoyed is continually staying focused on serving our individual reps and how we can help them achieve their vision and success. Paying an awful lot of attention to them is the key. Now, of course, we’re also owned by our reps; if I ever forget, they’re always there to remind me. Eric touched on it earlier and I love his quote: He said, “Be big, but act small.” Even as the numbers get larger, if I don’t have a personal relationship with every single individual one of them, I make sure that somebody on my management team does. Also, absolutely providing forums for their voices to be heard and making it very easy for them to say what they need.