The danger of independent advisory firms getting caught “in the middle,” those operating between $1M and $8.5M in revenues, is a new concern. This idea seems to be taken from the consumer industry, which over the past decade has seen the large online retailers, such as Amazon, and small, low-overhead “overstock” sellers, prosper, while many “in between” traditional businesses have gone out of business.
In the independent advisory industry, this dynamic is said to appear in the growth of large “mega” firms, and small firms, such as the emergence of the “one-person” millennial model. The conclusion is that mid-sized firms between those two extremes are left to vainly struggle against much larger marketing budgets and service offerings on the upper end of the scale, and low-overhead, better targeted businesses on the lower end.
But there is a problem with this market analysis, and it offers good news for firms who fall into this alleged “no-man’s land” of the middle, and those who aspire to grow into it. Simply, service businesses are not retail businesses, and within that difference lies the solution for advisory firms that fall into the middle.
That’s not to say that firms in the middle don’t face significant challenges. They do. But the good news is that most those challenges aren’t the result of increased competition from larger and smaller businesses.
The problem is while these firms have grown considerably since they were founded, their owners still run them as if they are small businesses — that is to say, by the seat of their pants.
Based on nearly two decades working with advisory firms “in the middle,” I suggest that owners of those type of firms change their leadership style to prosper in today’s industry, as well as:
Determine your desired business size. Back in 2003, the average size of an independent advisory firm was roughly $400,000 in annual revenue. Today, the average revenue of an independent firm is somewhere between $3 million and $4 million. The point is that firms tend to grow larger the longer they’re in business. The key to true success in the independent industry is to control that growth so that you continue to have the business you want.
It’s not all about the money. It’s true that owners of large firms tend to take home more money — to a point. But adding partners and employees will take a bite out of free cashflow. And reinvesting in technology, staffing, marketing, etc. depresses the bottom line as well. Most owners begin to feel this bite in the $3 million and $4 million revenue range — right in the middle of the middle.
At this point, the benefits of ownership shift from high incomes to high equity values in ownership of the business. Therefore, if cashflow is your goal, think twice about growing your firm into this middle range.
How important is quality of life? If you want to grow your firm larger, be prepared for a dramatic change in your working life. For one thing, you’ll have to start spending more time on your business, and less time working with clients, training advisors, or taking time off. Further, if your business continues to grow, you’ll certainly have to decide whether to stop working with clients and become CEO, or hire someone else to fill that role.
Hard choices. Long before you have to deal with the CEO question, you’ll have to get serious about running your business as a business. This often requires making hard decisions — on a regular basis. (Which I suspect is why firm owners often avoid taking this next step.) In addition to watching your personal income level off — or even decline a bit — you’ll have to stop using your business as an ATM machine, or even a bank. To grow and sustain a larger business requires, among other things, controlling your business’s cashflow.
In a business, cashflow is the fuel for growth: it enables you to attract more clients, hire more staff, improve or add services, and add or upgrade technology. Consequently, it will be important to control and predict your cashflow to use it most effectively. And frequent fluctuations due to “personal” withdrawals will make this process much more difficult, and impossible if you want it to survive the “middle.”
What about your employees? In the early stages of an advisory business, owners tend to pick up the slack from employees who aren’t getting their jobs done. Sometimes they do this out of hope that these employees will come around and become good at their jobs. Other times, it’s just out of sympathy.
While these motives can be admirable, once your business grows into or approaches the middle range, you really won’t have that luxury: you’ll need every employee to perform at a high level.
The reason is simple: your business will be competing for clients against much larger firms with a lot more resources and smaller firms with limited client bases and a high level of personal service.
Firms in the middle can, and do, compete effectively with the larger and smaller counterparts but it requires a team effort from all employees, which leaves little room for slackers. You’re employees are not your friends in the middle. When you start running a business like a business, you can be friendly, but making hard decisions doesn’t always make for friendships.
Paring down services and clients. For mid-sized firms to compete effectively, they have to operate as efficiently as possible. This brings us to both clients and services. Smaller firms and their owners tend to waste resources by offering unprofitable services to unprofitable clients. Every firm owner knows that some clients are more demanding, time-consuming, and/or more difficult than the rest.
There’s nothing wrong with keeping these clients as long as the only consequence is lower owner income in a small business.
But if you want to grow your business into (and out of) the middle — you’ll need make changes. Providing an unprofitable service or two is fine as long as they attract clients who then use profitable services. Financial planners have been doing this for decades. But you’ll you need to take a hard look at all the services you offer to determine whether the unprofitable ones are worth it.
The same goes for some clients. If your staff is spending 75% of their time on 25% of your clients, you need to think about making some changes. Sure, every advisor has some clients who are friends or relatives of good clients — and that usually makes economic sense. But I’ve found many advisors who have more than a few high maintenance clients for no good reason. In the past, many well-run middle market firms worked with clients who all needed essentially the same services. But today, to compete with larger firms, most successful mid-sized firms offer a broad array of services to a broad array of clients. To make this work from a business and competitive standpoint, make all the services you offer as financially efficient as possible, while broadening your potential client base.
Middle market firms today aren’t doomed to extinction. In fact, it’s the opposite: many of these firms will not only survive and prosper, but grow to become some of tomorrow’s largest and best firms. I know this because I have helped many of the largest firms today grow out of the middle.
The key to success in the middle of the growth cycle comes down to one simple business concept: operating efficiency. Which means, getting the most out of the resources you have, including investing for a more efficient future. My best advice for all firms in the middle is, solve your problems with your brain, not your pocketbook.
Angie Herbers is an independent consultant to the advisory industry. She can be reached at firstname.lastname@example.org.