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RIA Transitions: What Gets in the Way

We pretend that transitions are just financial transactions when, in fact, they are a highly emotional event for RIAs. The reality of any transition deal is that advisers must give up control as well as equity to transition successfully, thereby gaining freedom, peace of mind and time for the things that matter most to them. This is easier said than done.

Whether it’s a merger, a sale or an internal succession, transitions reveal a subconscious labyrinth between an RIA’s head and heart. Approximately 80 percent of RIAs say they want a succession plan, yet only 20 percent execute one successfully. A recent Schwab comment notes that in order to become part of that 20 percent, you need to be fully aware of the forces that will support you, or thwart you, starting today.

If you’re a fee‐based, independent adviser who’s been taking care of your clients’ portfolio management and financial planning activities for years, there’s now an entire industry of consultants, seminars and services vying for the opportunity to assist with your transition plan. Their guidance is overwhelmingly focused on the deal structure and the numbers. While finance is our comfort zone, let’s be candid: the basic math is mental cotton candy that can be worked out in a few minutes on a cocktail napkin. But if the math is so easy, why are there so few “successful” transitions?

RIAs don’t sell their firms for three reasons that are, for the most part, entirely subconscious:

  1. You don’t have financial freedom
  2. You can’t sell your kids to the devil
  3. You resist losing control

Any one of these things can blow up or ambush a deal, effectively delaying your ability to move on to your next chapter. Advisers frequently spend months dancing around the truth of these issues only to walk away at the eleventh hour. Alternatively, their discomfort may emerge months later, and they’ll unwind the entire transaction.

Transitions with positive outcomes are entirely possible. Becoming part of the 20 percent will require you to call subconscious beliefs out into the open before they undermine you, then handle them with skill, empathy and respect.

Reason No. 1: You Don’t Have Financial Freedom

Despite our training as financial professionals, many of us struggle with acknowledging the truth about our own financial freedom. Generally, if you are a state-registered advisory firm, the net proceeds after tax won’t give you financial freedom unless you’ve already built a big, fat nest egg. If you’re a federally registered firm, your net after tax may be large enough to give you financial freedom, but the rate of return on your liquid assets is probably well below the money that your firm was paying you both directly and indirectly. In other words, a transition is a far cry from the massive payday everyone imagines.

It’s tough for advisers who find themselves in this position since they must replace the relatively comfortable incomes they previously drew from their businesses. They have to keep working to achieve their financial goals, usually by joining the buyer’s firm. Many advisers react to this realization by retreating from any serious discussion of transition altogether. They go into hiding, both intellectually and emotionally, until circumstances beyond their control force them into action.

However, joining the acquiring team can be positive as well as profitable, especially if the cultural fit is strong. When a longtime adviser with a smaller practice joined our team, our dialogue was as much about the similarity of our “work hard, play hard” cultures as it was about the financial gain he would enjoy by continuing to work as an adviser with us. We both have observed that the additional revenue he generates is creating great value for our clients, for him and for the firm.

Reason No. 2: You Can’t Sell Your Kids to the Devil

For many RIAs the transition of their clients is a defining moment. It’s highly personal and eclipses the value of the portfolios. They see themselves as trusted, hands‐on managers who are concerned with details and decision‐making; something they’re able to do with the support of loyal staffers who are wired to care about their clients the exact same way.

These advisers are very protective of their client relationships and skeptical that anyone else can take care of those relationships as well as they can. Some openly question whether bigger is better, thinking that it means a loss of the personal touch they delivered so effectively. They may view their potential suitors with mixed feelings, or even a negative bias that casts an acquiring firm in an oppositional role.

Of course, not all transition partners are the devil, and clients are quite capable of moving on to new advisory firms. But we’re talking about the subconscious mind where perception is frequently mistaken for reality. These advisers are in a mental trap. They can’t move on because they believe they’re selling their clients out. Yet not going forward keeps them on a treadmill with no transition plan and no positive outcome in sight.

Transitions only work for these RIAs once they’re confident that their clients will be well taken care of and happy. This requires sincere effort to establish a shared set of values with the new firm. A veteran adviser who merged her practice with ours was a fine example of this. Integrating her practice was much like getting engaged and married, then learning how to live together. We laugh about it now, but it took commitment on both our parts to understand each other and be honest in our communication. That meant a tremendous amount of talking about financial as well as non‐financial issues. The outcome has been well worth it for our clients, for her and for the firm.

Reason No. 3: You Resist Losing Control

Of the three, this one is the most subconscious and complex. RIAs say they want to sell or transition. They want to move on to their next chapter, whatever that looks like for them. But it’s rarely that simple.

Independent, fee‐based, registered investment advisers are a special breed. They spend years building their firms and taking extraordinary care of their clients’ wealth. As self‐made individuals, they’re used to being masters of their own universes. They are brilliant at what they do and will sometimes partner up in business if they find the right match of skills sets. Call them mavericks, or specialty acts, or whatever you wish. It’s often a challenge for them to release their old identities and join a new team, especially one that might ask them to embrace different ways of operating.

To transition successfully, advisers must give up control and equity in order to gain freedom, peace of mind and time for the things and people they love most. This is especially true for RIAs who have enjoyed their advisory careers and simply haven’t given much thought to what they’ll do the day after the deal is done.

Consciously designing that next phase is the key to being happy with the entire process. When you’re conscious, it allows you to be confident in your decision-making process. When you’re not, the subconscious issues that are lurking in the background will complicate your plans.

The co‐founders of my firm (who also happen to be my father and older brother) both embraced the idea of an internal transition, and it occurred very intentionally. They ceded decision-making over time while doing what they each enjoyed; for my dad it was stock research and client relations, whereas for my brother it was pursuing a new career. Not all family successions occur so smoothly. This one worked because our values were aligned, and we shared a vision for the business that allowed them to give up control and experience freedom. This ensured the best possible outcome for our clients, for them and for our firm.

What Do the 3 Reasons Mean for You?

Transition is a deeply emotional process, not simply a financial one. If you want to move past the subconscious barriers that can undermine yours, then let your rational mind stay busy with the trade journals, while the rest of you considers the truth of why you’re not moving forward with a deal.

I urge advisers to listen to their hearts as well as their heads in order to do what’s best for both their clients and themselves. Doing so will effectively disarm the three reasons I’ve identified and create a new level of mastery for advisers who are ready to embrace their next chapter.

Ryan Kelly

Ryan Kelly is CEO of Spectrum Asset Management, Inc., an RIA in Newport Beach, California, that is a second-generation family firm. Since 2012, Kelly has successfully led Spectrum’s acquisition of three right-fit independent advisory firms and continues to look for similar opportunities.

 


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Heed Your Own Advice: Plan

Research released yesterday from the Financial Planning Association and Janus Henderson titled, “The Succession Challenge 2018: Why Financial Advisers Are Failing to Plan for the Inevitable,” showed that financial advisers aren’t doing all the things they’re telling their clients to do when it comes to succession planning.

The research found that the number of financial advisers who reported having a formal succession plan in place has actually decreased from 28 percent in 2015 to 27 percent in 2017.

The research brought to light some reasons behind why advisers aren’t planning properly and also some interesting findings on how advisers in big firms differ in their succession planning from advisers in smaller firms.

Why The Lack of Planning?

There are several reasons why advisers are reluctant to plan for the next stage, the research found. Here are the top areas that presented the biggest challenges to succession planning:

Strategic. Fifty-one percent of planners said the biggest challenge was finding the appropriate successor or partner.

Michael Futterman, assistant vice president of Janus Henderson Labs professional development team, said this was a surprising aspect of the research findings—that advisers were not focusing on valuation but on finding the right successor.

“While valuation remains an important aspect of succession planning, it’s a math equation,” Futterman said. “The more challenging question of who [is the right successor] is one that cannot be answered with math.”

Personal. Twenty-two percent of advisers said personal concerns were an issue. This could be because it’s not easy facing retirement. Maybe planners are scared or don’t know what they want to do in retirement. Maybe they’re concerned about their health, or that they’ll be antsy and restless.

“While finding a successor is clearly an important challenge, the data suggests that personal challenges play a big role for advisers when thinking about the future,” the research report said.

Structural. Fifteen percent of advisers said they weren’t planning for business succession because of reasons like structuring the business to maximize value, the research found.

Mechanical. Twelve percent of advisers said the mechanics of developing and executing a succession plan was their biggest challenge.

Bigger Firms Plan Better than Smaller Firms

The research found that 60 percent of advisers in firms that have $500 million or more in assets under management had a formal succession plan in place.

“I think that these advisers have grown because they see their business as a business—and they treat it accordingly—or at least in greater percentages than those that might not have been successful, Futterman said. “They are interested in leaving a legacy and providing support for clients.”

However, only 13 percent of advisers in firms with less than $50 million in assets under management has a formal succession plan in place.

“The smaller adviser is likely struggling and does not see a horizon where succession planning is important or imminent,” Futterman said.

Just Do It

It all boils down to this: you simply need to start planning, no matter what type of challenge you’re facing and no matter whether you work at a large or small firm.

“Plan early, often and with options in mind should your circumstances change,” Futterman said. “If you don’t take control then someone else or something else will.”

Editor’s note: Download the Janus Henderson Investors and FPA research here. If you’re looking for additional resources to help you with succession planning? Click here for more from Janus Henderson Investors. Also, Michael Futterman will present an FPA webinar titled “The Succession Challenge: Why Advisers are Failing to Plan for the Inevitable” at 2 p.m., EST on May 30. Register for that webinar here. Stay tuned to FPA’s Research and Practice Institute for two white papers diving deeper into the research findings in June and July.

Ana Headshot

Ana Trujillo Limón is associate editor of the Journal of Financial Planning and the editor of the FPA Practice Management Blog. Email her at alimon@onefpa.org. Follow her on Twitter at @AnaT_Edits.


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Planning for a Digital Legacy

Increasingly, the digital property of financial planners and their clients is up in the clouds, somewhere or another.

It turns out that the intersection between our mortality and the immortality of our digital property has become an important part of the estate planning process. That’s right—not only do you need to make plans for your tangible assets, but you also need to make plans for your email, social media, banking and financial accounts (investments, of course, but also things like bitcoin and PayPal), online memorabilia and documents; not to mention all those pictures, which at the time seemed artistic, but now just make up an ever-lengthening feed of status updates.

It’s important to know that a person’s digital property and electronic communications are referred to as “digital assets” and the companies that store those assets on their servers are referred to as “custodians.” The reason this matters is that these digital assets are usually governed by a terms of service agreement rather than by property law, and in many cases these agreements are silent when it comes to digital assets after Internet users pass or become incapacitated.

The other problem is the sheer number of online accounts we have today. Some estimates show that each American has, on average, 130 online accounts and that this number could grow to 207 by 2020.

What Now?

Fortunately, many states have enacted a measure to help simplify this issue. The Revised Uniform Fiduciary Access to Digital Assets Act (UFADAA) allows a fiduciary the legal authority to manage another’s property and specifically allows Internet users the power to plan for the management and disposition of their digital assets. At this point, all but 8 states have enacted this or a similar law, but it’s likely that every state will pass a law regarding fiduciary access to digital assets in the near future.

The action steps are to include the idea of digital assets in your normal estate planning and wealth transfer conversations with families. Along with that, you should include an amendment to a client’s existing will, trust or power of attorney which gives the designated agent the authority to direct or dispose of these assets. This amendment may take the form of a Virtual Asset Instruction Letter (VAIL) which allows one to list accounts, instructions for those accounts and the person(s) designated to access those accounts.

While many may doubt the urgency of this legislation, even the most Internet-resistant person can’t help but admit that our lives are becoming more and more digital. The assets that are housed in the cloud have value. Airline miles or hotel points have obvious monetary value, and others like pictures, emails or creative works have mostly sentimental value. The important thing to remember is that a person’s legacy is made up of both sides of that coin.

So even though that Luddite client may scoff at this idea, it has become an important part of the estate planning process. I’m sure that after having this conversation, that client will provide a status update to all their Facebook friends letting them know how happy they are to have had it.

Editor’s note: A version of this post appeared on the Janus Henderson blog. You can find it here.

Ben Rizzuto

Ben Rizzuto, CFS, is a retirement director for the Defined Contribution and Wealth Advisor Services Group. In his position Rizzuto works with financial advisers, platform partners, Janus Henderson colleagues and clients to find solutions for today’s increasingly difficult retirement issues, whether they be within retirement plans or for those clients that are trying to figure out how to retire on their own terms. He also contributes to the dialogue surrounding these issues as the host of the “Plan Talk” podcast and through periodic posts to the Janus Henderson Blog.


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Dos and Don’ts of Passing Down Your Practice

The average age of financial advisers in the U.S. has climbed north of 50 years old and approximately 43 percent of the total population of advisers are between ages 55 and 60. With so many advisers nearing retirement, the industry is facing a crisis when it comes to succession planning.

Typically, when the owner of a financial advisory practice wishes to retire, they’re faced with one of two choices: they can sell their firm to an institutional buyer, such as an RIA rollup shop, private equity firm or a regional acquirer; or they can bring in a junior partner and gradually introduce them to his or her clients and transition the book of business over bit by bit.

Ideally, firm owners prefer to transition their book of business to a junior partner over a five- to 10-year period. However, throughout my career helping small business owners transfer ownership of their firm and retire, I have found that financial planners ironically have some of the worst track records when it comes to successfully planning and executing an ownership transfer.

In this light, here are a few dos and don’ts when transitioning ownership of your business to a younger partner:

Don’t delay. It’s never too early to start the succession planning process, which can take more than a decade from start to finish. It takes years to introduce a new partner and provide them with the training and resources necessary to keep the business afloat. Too often do I see advisers continue to work into their senior years only to realize they have no exit strategy in place. Consider your clients; who is going to take care of them after you leave? And how are you going to monetize the business you’ve worked to build over the course of a lifetime?

Do get your younger partner involved in discussions and meetings with your larger, more significant clients throughout the transition process. Junior partners are typically brought on initially to handle an adviser’s smaller accounts. While this is all good and well in the beginning, it does not provide the new owner with the proper experience and training required to serve the bigger clients, which will be one of their primary responsibilities once ownership is transferred.

Don’t forget about the intangibles like the management style, likeability and cultural fit of the new owner. Some financial advisers still run a very formal shop with pressed white shirts and systemized client communication techniques. Others are more comfortable in khakis and a polo shirt, and prefer a more casual style of correspondence with clients. Also, does your new partner fit in well with other employees at the firm? Making sure you two see eye to eye in these categories can really smooth out the transition process, both for yourself and your clients.

Do go over the company’s financials. Not only must you teach the new partner how to handle your clients, you must also teach them how to run a business. What size client is most profitable? How does the business manage its costs? How do we manage the staff? Many new business owners overlook these extra responsibilities, which can be overwhelming at first. But as the outgoing partner, you need to make sure the business is left in a position to remain profitable. Typically, selling advisers are paid out in installments. If the business fails, these payments could stop, leaving the outgoing adviser in a sticky situation.

Don’t think you won’t need outside help. Hire a team of lawyers, accountants and even a management consultant to delegate the distribution of responsibilities throughout the process. Many times the incoming owner wishes to take over more responsibility at a faster pace than the retiring adviser is comfortable with. Management consultants go a long way in easing this tension.

Do be open to some degree of change. Relinquishing your power and watching the business you spent years creating change in front of your eyes can be a difficult pill to swallow. However, standing in the way of the new adviser’s vision will only muddy the process. You must accept that some aspects of your business are going to change under new ownership. The sooner you come to terms with this reality, the better.

No matter how much you plan, transitioning your business will almost inevitably come with a few bumps in the road. However, following this list of dos and don’ts will put your firm in a much better position to smoothly and successfully navigate the transition. Many of your clients have worked with you for decades, and you owe it to them as their financial adviser to ensure their financial futures are maintained. The first step in doing so is to make sure your business is taken care of after you’re gone. So take this transition process seriously and start early. Your clients’ well-being depends on it.

 

Stephen Brubaker

Stephen Brubaker CFP® is president and wealth management adviser at Exit & Retirement Strategies, Inc. He holds his bachelor of science from Miami University in Oxford, Ohio.

 


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Building Growth Through Succession Planning

Succession planning isn’t just an “end-game strategy”; it is the key to growth and sustainability.

The specific goals of the succession planning process depend on the founder and his or her circumstance—including age, health and family demands—and they vary case by case. The point, though, is to take a methodical and practical approach to building a business that will endure beyond the builder. Four key areas to concentrate on are:

  1. Building strong, sustainable growth;
  2. Creating a focus on the bottom-line;
  3. Implementing a practical and reliable continuity plan; and
  4. Designing an income perpetuation strategy for the founding owner

The first is perhaps the most important. Building strong, sustainable growth for the business is supported by a clear succession plan in two ways. First, by incorporating next generation advisers who will be investing financially and physically as they buy in. One of the most effective ways to grow a business is to help the next generation build on the foundation the founder has already created and gradually transition ownership—and leadership. The next generation will learn not only how to “think like an owner,” but to be an owner. They will connect the daily goal of revenue production with the long-term goal of producing sustainable revenue in an efficient and scalable manner. They will make decisions that benefit the whole, not just themselves.

Second, growth through succession is about even more than just improving numbers. Strong, sustainable growth demands that the business owner increase their own capabilities as a leader—not just as a producer. As an executive of a multi-generational business, building the strength and depth of the entire team fuels continuous growth.

Cultivating ongoing growth in this way allows a founder to realize exponential value in the business they’ve built, while allowing them to plan for life after advising without worrying about the future of the business or the clients.

Unless the world of professional financial advisers discovers immortality or the fountain of youth, 100 percent of today’s advisers will see their careers come to an end, one way or the other. The only question is how you’ll help your clients transition from your advice and care to someone else’s. Will it be through a professional and carefully crafted succession plan; a last-minute sale to a friend or colleague; or will the clients be left to fend for themselves?

Building a business is about building for the future—your future and your clients’ futures. With a solid succession plan you not only promote growth—you build a legacy, and most importantly, you provide for your clients’ needs beyond the length of your individual career.

david_grau_sr

 

David Grau Sr., J.D.
President and Founder
FP Transitions
Lake Oswego, Ore.


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The Financial Implications of Selling Your Practice

Prior to selling a financial advisory practice, along with selecting the right buyer, it’s important to be knowledgeable about the financial aspects, including: price versus value and the aspects of the deal.

Price Versus Value
To begin, it’s important to know the difference between valuation and price. For example, you may think your practice is worth a certain dollar amount because of the hard work you have put into it and the wonderful clients you have, however the valuation may show otherwise.

Valuation looks at the entire enterprise value of the firm based on the methodology that is most appropriate for a given situation. Most valuation approaches are classified as: income approach (net value plus future potential); market approach (comparison to similar practices); and asset-based approach (tangible net assets determine fair market value).

While the debate continues as to which is best, and rules of thumb are suggested, the best advice is to seek multiple valuations.

When preparing for your valuation, the following factors are often key determinants for buyers and lenders:

Age of your clients. If a large number of them are nearing retirement, they may be considered less valuable than younger clients who are in the accumulation phase.

Number of clients. A smaller number of clients with higher net worth are easier to manage than a large number with fewer assets.

A buyer will also look at the current profitability of your firm and the amount of growth you have experienced over the past years. Equally important will be how you manage your business. For example, fee-based income is more predictable and looked at more favorably by lending agencies.

Aspects of the Deal
How you are willing to structure payments is an important element of the sale and can affect the buyer’s and loan company’s willingness to participate. Unfortunately, there is no boilerplate formula. On average payment terms were split between three payment types:

  • Down payment: 36 percent
  • Promissory note: 55 percent
  • Earn-out: 9 percent

Advisers need to keep in mind that a sizable down payment may be impractical because the assets are intangible. The bank can’t repossess a book of investments.

However, there are institutes that are set up to make loans of this type. The buyer or seller might also contact his or her B/D or custodian to see if it has a program available.

The promissory note allows the seller to receive fair value over a reasonable amount of time. Most sellers are paid in full within three to five years.

The earn-out compensates the seller a percentage of future revenues based on future performance. Performance can be based on gross revenue, AUMs, net acquired assets or any other measure both parties agree too. It’s a good way for buyers to be protected against an under-performing firm or sellers to receive the full amount of its worth.

The important thing is to set up a deal that you feel okay with and the buyer will be able to find funding for.

phil-flakes

 

Phil Flakes
Co-founder
Succession Link
San Diego, Calif.

 


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Are You in Retirement Without Even Knowing It?

Advisers deal with pre-retirees every day. Some of these clients are anxious to quit working, but many more say they’d like to work in some capacity once they retire. The 2015 Work in Retirement: Myths and Motivations study, conducted by Merrill Lynch and Age Wave, found that 7 in 10 pre-retirees want to work in retirement. In fact, it’s becoming so common that people now talk about “Retirement 1,” “Retirement 2,” and “Retirement 3,” with each stage representing a reduced schedule and set of responsibilities.

For advisers, this is easy to understand: “dying with your boots on” is an industry norm. Work in retirement may be different or happen at a different pace, with many tenured advisers putting in fewer hours and taking more time off, including sabbaticals. In any case, there’s a clear trend of advisers staying in the business longer—or not leaving at all.

The problem is when you slip into retirement mode without even realizing it.

Maintaining a Viable Lifestyle Practice
Many advisers are comfortable with the idea of running a lifestyle practice but bristle at the suggestion that they’ve entered “Retirement 1.” Whatever you call it—Retirement 1 or a lifestyle practice—there are several key points to consider if you want to keep your business healthy.

  • Am I still growing? By definition, healthy businesses are growing businesses. In our industry, that’s generally measured by assets under management or overall production. At a certain point in an adviser’s career, it becomes difficult to recruit new clients. Existing clients pass away or move into the distribution phase. Attracting new business to replace lost AUM becomes challenging as clients seek an adviser who will outlast them. When AUM starts shrinking, the business owner needs to assess whether the practice has begun to die on the vine, making it less attractive to potential buyers.
  • Am I keeping up with industry developments? Regulatory requirements, new technology, marketing strategies, emerging products that deliver answers to complex client issues—staying on top of all the developments in our industry requires a certain amount of time and commitment. Downshifting to a lifestyle practice shouldn’t mean letting your focus slip or becoming nonchalant about certain aspects of the business.
  • Do I have a documented continuity plan? No matter what kind of practice you have, going without one borders on unethical. The need for a continuity plan is well known, but unfortunately, many advisers still don’t take this essential step to provide for their firm’s (and their clients’) future.

A Personal Choice (But it’s Not Right for Everyone)
Mid-career advisers may observe the attractive lifestyle of more tenured advisers and think, I want that, too! For their part, millennial advisers entering the industry may look around and assume a lifestyle practice is the norm. But if significant growth is on your agenda (and for many younger advisers, it is), the activities that will get you there generally require putting in some evening, weekend and summer work.

Of course, how you balance work and life is ultimately a personal choice. In the independent world, as long as you’re compliant and your clients are protected, it’s no one’s business but yours. Just be sure you’re making the decision deliberately rather than simply falling into it.

Joni Youngwirth_2014 for webJoni Youngwirth
Managing Principal of Practice Management
Commonwealth Financial Network
Waltham, Mass.