Of all the trends that have influenced the financial advice business, perhaps the most profound is the evolution from lifestyle practices to more enduring business models.
(Related: What’s an Aging Advisor to Do? Join an RIA)
A “lifestyle practice” typically depends on one or two advisors. These advisors do not have a succession plan, human capital plan, definable strategy or means to measure success. They feel content with their existing client base and have no plans to grow.
By contrast, an “enduring advisory firm” is structured to survive the founder. The leaders have a clear vision of why the firm exists, a structure that supports this vision, depth in leadership, a career path for their people and a systematic means for obtaining new clients. An enduring firm actively manages to profitability and has a plan to create an orderly transition of management and ownership.
Evolution and Evaluation
Our business continues to evolve; we have reached an inflection point where advisory firms must assess their chosen model. Six big developments led us to this inflection point in the advisory profession.
In the 1970s, fixed-rate commissions were eliminated amid a loud cry from the large brokerage firms. This change in how revenue was generated led many prominent firms of that era — including Kidder Peabody & Co., Bache Halsey Stuart & Co. and E.F. Hutton — to fail. Diverse reasons precipitated their demise, but the lowering of transaction costs from 80 cents a share certainly uprooted their economic model and opened the door to competitive platforms, most notably discount brokerage firms.
Around the same time, financial planning became a profession with the creation of two meaningful designations: Certified Financial Planner (CFP) and Chartered Financial Consultant (ChFC). The emergence of this field enabled financial professionals to shift from being product advocates to client advocates.
Thus the independent contractor broker-dealer was born. This model allowed financial professionals to leave captive environments that required the sale of proprietary products. These broker-dealers had the freedom to deliver “whole of market” to their clients and, in many cases, to set up hybrid advisory practices wherein registered reps could function dually as brokers and as advisors. These reps operated as independently owned businesses under the supervision of their broker-dealers, rather than as employees of the supervising firms.
The hybrid model triggered the rapid growth of corporate registered investment advisors (RIAs) sponsored by broker-dealers. Evidence of this transformation appears on the books of Pershing LLC, one of the largest securities clearing firms in the U.S., which has seen advisory assets at broker-dealers grow from 5% of the total in 2008 to nearly 50% of the total in 2017.
Then, in the 1990s, another evolution enabled professionals to leave the supervised environment of FINRA-regulated broker-dealers to become RIAs under the purview of either the Securities and Exchange Commission or state regulators. This further propelled the financial advice profession into a cottage industry of small, entrepreneurial advisors, free of ownership by a big bank or brokerage firm.
Now the industry is experiencing a dramatic new trend: industry consolidation. Private-equity-backed firms are acquiring advisory practices in bulk, and growth-oriented advisory firms are strategically merging with other RIAs. While motives vary, the idea of creating scale and critical mass in a people-intensive business makes sense.
There is a certain predictability in this roundabout evolution from large employer-based organizations to a highly fragmented entrepreneurial industry, back to larger employer-based organizations. According to the “2015 InvestmentNews Advisor Compensation & Staffing Study” sponsored by Pershing, independent advisory firms currently include more employees than owners.