Common wisdom holds that the advice business is not scal- able. While operating leverage
may be easier to attain in other industries, such as manufacturing or software development, advisory firms can
achieve scale once they reach a certain
level of critical mass.
Investopedia defines a scalable
company as one that can “improve
profit margins while sales volume
increases.” Does that description apply
to advisory firms?
The 2014 “Financial Performance
Study of Advisory Firms” conducted
by InvestmentNews and sponsored
by Pershing Advisor Solutions (www.
revealed that many growing advisory businesses are seeing margins
improve as revenues increase. For
example, overhead expenses as a percentage of revenue dropped from a
high of 48.1% to 28.9% as advisory
firms broke through certain revenue
and asset barriers.
The most precipitous decline in the
expense ratio was noted when advisory firms became “super ensembles,”
defined as an advisory business with at
least $10 billion in assets under management and at least $10 million in
annual revenue (see chart, page 46).
For the average independent firm
these numbers may seem daunting,
but $10 billion of AUM is not beyond
the reach of the next generation of
financial advisors. Not only does the
expense ratio decline as a firm gets
bigger, but revenue growth also accel-
erates with size. Why? Because a larger
market presence creates increased effi-
ciency, stronger discipline around busi-
ness development and the ability to
build a brand.
The number of super ensemble
firms today proves that the business
of financial advice is going through
profound change. When I first started
benchmarking the profession in the
late 1980s, many advisors hoped to get
to $100 million of AUM. At the beginning of this decade, the new Holy
Grail was $1 billion. Now the many
firms breaking through the $5 billion
mark and even the $10 billion mark
reveal a transformation that few imagined when the independent advisory
movement took root.
Yet most advisory firms are small
businesses that suffer the same strains
as any closely held enterprise. The
Small Business Administration defines
a small business operating in the service sector as a company with revenues
no greater than $21.5 million.
The consolidators like Focus
Financial and United Capital are capitalizing on the travails of running a
small business by bringing like-minded
firms together under one company, and
new model firms such as HighTower
are creating national advisory brands
using broker-dealer command-and-control structures while delivering an
advisory experience. But sizeable own-er-operated enterprises like Silvercrest,
Aspiriant, Oxford and Tolleson have
redefined the way advisory firms look
and feel by growing strategically and
organically, and not necessarily through
aggressive recruitment or acquisition
models, though tuck-in mergers may
have rounded out some of their growth.
The achievement of scale provides a
clear economic advantage to advisory
firms. It enables such businesses to be
more effective at the recruitment and
development of talent without straining the income statement. It helps them
create critical redundancies and allows
them to compete on price in cases
where that is important.
There are risks to growth, however. The pursuit of critical mass can
also contribute to cultural dysfunction,
defection of employees and impairment of quality control. The more the
principals in a firm are removed from
the daily activities and supervision of
specific client engagement, the greater
the risk that steps may be neglected,
recommendations may be inappropriate and errors may be made.
To protect against self-destruction
brought on by growth, advisors must
view scale not as a natural byproduct
do You Have a scalable Business?
Getting bigger is a great objective—if growth can be translated into results
formulas for success
By Mark Tibergien