How to Escape the Small RIA Firm Poverty Trap
No doubt that being an RIA firm with $150MM or less in AUM in an unenviable position to be in. While many have the potential to scale their businesses, most will never make it there. If you’re a small RIA firm, here’s the one thing you can do to escape the poverty trap.
An RIA Firm Profitability Sketch
The economics of being a Registered Investment Advisor (RIA) firm simply aren’t made to work for small operations. The overhead, the cost of being in business, and the cost of complying with regulations take a huge bite out of profit margins. The results? Most small RIA firms struggle, are forever penny pinching, and can’t hire the quality of staff that they’d need to have in order to impress people with serious money.
Let’s take an example of an RIA firm with $100MM in assets under management. Let’s say there’s two investment advisors with $50MM each in their book of business. And let’s assume – and this is a big break – that they’re lucky enough to earn 1% off that $100MM. Now, most of the time we all know that for asset classes such as fixed income the fees much lower, but I’m being generous here. Not many RIA firm owners are going to put up with making less than $200k before Uncle Sam takes his piece. So, conservatively estimating, we go like this:
Revenue $100,000,000 x .01 = $1,000,000
Cost of Goods Sold – $400,000
Gross Profit (40%) $600,000
What’s next? So now we have to pay for the operations of the firm and the staff.
- If they’re taking home the full 1% fee that means they have inhouse research staff because they’re not fee splitting with a subadvisor. So pay a Chief Investment Officer/Director of Research about $100k (again, this is conservative) and a Research Associate about $70K. Now, as far as research staff goes these people are way underpaid if they are performing all the diligence and research that goes into managing $100MM of assets.
- Now you’ve got to keep the clients happy, and let’s say there are about 100 accounts with $1MM average. So there’s got to be at least one operations person, and if you want to really do it right you should have two because the trades have to go through even when sick days and vacations happen etc. So let’s say you pay them each $60k.
- Then you’ve got to have somebody to manage the office, keep your calendar and answer the phone, so let’s say we pay him/her $35k.
- And then you need to either outsource marketing or get someone to help you with the website, newsletters, and social media. Either way that comes to about another $35k.
- You need accounting and compliance support as well, to make sure everyone gets paid and the clients get billed, and that you keep up with all the regulations, so let’s conservatively say that costs $1k per month for you to outsource.
- Oh yes and then there’s IT support in case the server goes down, disaster recovery policy are followed, etc., another $1k per month for you to outsource.
- By the way, you haven’t paid rent yet and in a place like New York you’re looking at a minimum of $2k per month for a facility to house all these people.
Trust me, this is by no means all it takes; there’s way more I’m not including like office supplies. Before this headache turns into a migraine and you all hate my blog post more than you do already, let’s pick back up on the income statement where we left off.
Gross Profit $600,000
Operational Expenses – $460,000
Net Profit (14%) $140,000
So according to this sketch, and my expense estimates were conservative, the RIA firm isn’t at a healthy margin. When all is said and done, to end up with this little profit when things go right isn’t looking good for when things go wrong. And what about for those RIA firms with less than $100MM in AUM?
The Small RIA Firm Poverty Trap
The model above illustrates that most small RIA firms are just getting by financially. In the above example, with two partners at the firm being responsible for running the firm in addition to all their client duties, they aren’t doing much prospecting. Marketing comes last, and in the scenario described you can see that the budget doesn’t create the resources to reach the highly lucrative clients they want. There’s probably zero active lead generation. As a result, they “take what they can get”, accepting smaller clients that demand as much service as larger ones but barely cover the cost of sales and service when all is said and done.
This is why most small RIA firms don’t scale, or don’t scale the right way. The bigger the firm gets, the more financial strain they face. Mathematically that is what happens to a low/shrinking margin business that adds incremental clients. And this is what I call the Small RIA Firm Poverty Trap.
And then, when you least expect, the unforeseen happens. You didn’t see it coming and now you’ve got a mess to deal with.
- You get hit with an audit and some exceptions come up. Now you’ve got attorney bills and the risk of going out of business, can’t focus on your clients and you’re running behind schedule every day.
- The market dips and you lose 40% of AUM overnight. Now you can’t even pay your bills.
- WannaCry virus hits and you didn’t update your firewall because your tech person is a novice 25 year old. You’ve got some explaining to do to clients.
- Your top portfolio manager leaves and takes your three largest clients and because you didn’t sign a non compete agreement you can’t do anything about it. Now you’ve got to reassign accounts and cut back on the bonus pool this year.
So all this begs the question, how can a small RIA firm take care of its clients when so often it can’t even take care of itself financially? Ask most analysts at small RIA firms and they’ll say they’re happy with their level of responsibility but the pay is way lower than what they can — and will — get elsewhere after they pass their CFA® exams or get their MBA or get a few more years of portfolio track record. I knew one guy who was President of an RIA firm and he had to take two years with no salary just to avoid closing down his firm after the recession hit. That RIA firm to this day is saddled by debt that they just can’t shake.
I’ve worked on the buy side for a company with over $2BB in AUM and I’ve also worked as a consultant to clients with as little as $40MM. Overall my experience working at/with small RIA firms is that while they put on a cheery face and have an optimistic attitude towards their clients, at the heart of it, the staff is overworked and underpaid, and the firm constantly operates in a state of vulnerability. There are no small risks; even a minor issue becomes a major one.
Is There Integrity in the Marketing Pitch?
So now that we’ve established that most small RIA firms operate in a poverty trap, what does this mean for clients?
Well first of all, why do clients work with small RIA firms rather than big ones? Most of the time it is a personality match. Most RIA firms haven’t built their brand and don’t actively pursue the cold market. Referrals and personal networking are where business comes from, and the reason people say “yes” to a small RIA firm is likely the promise of better service or the comfort of knowing the person that they’ll be working with.
While small RIA firms tout customized, responsive service, are they really delivering on this promise? Do they really have the resources to deliver what a mid or large firm could in all possible circumstances? Stepping back and seeing it objectively, I doubt it. Is a firm with all these vulnerabilities and resource constraints really going to be able to outservice even a mid-sized competitor? I’ve come to realize that this marketing pitch is a false hope that lacks true integrity most of the time. And apparently the rest of the world is seeing through it, too.
Small firms stay small for a reason and usually it’s because they can only get small clients. The larger accounts ($10MM and above) are the ones you have to compete for. And I mean, compete with a capital C. It takes a tremendous amount of time, attention, focus, polish, branding, and customization to get through to these folks because just like the pretty girl at the party, everyone wants to talk to her. Just one wrong word in a marketing pitch can blow the whole deal. Appearances matter and most small RIA firms look small and unsophisticated in the eyes of someone with serious money.
Sorry if I’m being too direct here. For all you small RIA firms, please hear me. This is the elephant in the room preventing you from scaling your practice.
So how do I know all this? I am uniquely suited to pull away and see it objectively. For many years I myself was a financial advisor (until I had two children in under two years which put quite a damper on having to meet my quota to my boss). Now that I’m not a practicing financial advisor anymore, I can see the industry as an insider and outsider at the same time.
If I won the lottery and was awarded $20MM, or even $10MM, would I go to my college buddy who lives down the street and has two people working for him, both twenty somethings? Or, would I go for the name brand at Morgan Stanley with a credentialed staff to choke a horse? I don’t know that I’d choose the small RIA firm. It would just be too much of a risk. I would just see too many things that could go wrong.
The reality is, sitting here in the position of the consumer (and at the same time, having a deep knowledge of how the investment industry works), I would be more inclined to work with a financial advisor that had $500MM or more if my account size were $20MM or above. Or $10MM, or $5MM. I’d want to see 20 years in the business and seasoned, deep staff resources. I wouldn’t be that happy seeing a cast of twenty somethings. It would also be important to see top security to protect me from risk of theft and misappropriation. That means everything, from encrypted email to making sure someone locks the file cabinets every night.
While this wouldn’t necessarily lead me to Morgan Stanley, it would rule out most small RIA firms in favor of any mid or large sized RIA firm, just based upon these simple needs. And that’s why life stinks for small RIA firms.
Sound familiar? There is one thing a small RIA firm can do about it.
The Internet is the Great Equalizer
The way out of the Small RIA Firm Poverty Trap is to create a big concept that people associate you with. I’m not saying “fake it until you make it.” Exaggerating is going down the wrong path entirely. Lack of sincerity is exactly what created distrust of our industry in the first place.
Even the smallest RIA firm can create a big brand. It requires creativity and a laser like focus on what your unique strengths are. And then you apply it a million different ways in every presentation of your company. You’ve got to do it in a way that makes people attach to you emotionally.
The good news is that this doesn’t have to cost a fortune. With the Internet as accessible as it is, marketing can be done relatively inexpensively. It’s so easy to scale a brand on the Internet if you do it the right way, and it doesn’t have to cost a fortune. That’s a good and a bad thing at the same time, by the way. While it makes it cheap to get in front of an audience, the low barrier to entry means you’ll have to seize the audience’s attention by doing something out of the ordinary.
Gone are the days of expensive paper mailers and marketing brochures. The currency of social credibility is how big you look on LinkedIn (which you can set up for free, by the way). Even if you’re the smallest RIA firm out there, if you have a big following online it signals value to people, rightfully or wrongfully. In their minds, people will figure out that there must be some good reason you’re getting all this attention. They’ll at least check you out. See, it’s just like dating. First you have to get their attention, then you have to start a conversation…it’s the same way that marriages are made.
Use the Internet to Blow Up Your Brand
But just getting on the Internet isn’t enough. You’ve got to get a nice, big brand online. Now, many RIA firms think brand doesn’t matter. They don’t even know what branding is and haven’t paid much attention to it. But this is the elephant in the room keeping you from where you want to be. Here’s why.
Forgive me for sounding so brash, but I can’t convey this point without doing so bluntly.
99% of RIA Firms say the same thing in their marketing.
It’s easy enough to prove my point. Just go to Google right now and type the search term “RIA firm” in your local area. You’ll see the first 5 firms that come up are saying the same things on their websites. I mean, it’s that obvious. They even use the same exact wording: “customized asset allocation”, “20 years in the business”, “fee only, independent advice”, “objective.” Blah blah blah.
So how do you set yourself apart? For some concrete examples of good and bad RIA firm branding, read this blog.
To bring back the example of me winning the lottery (which I must admit, is quite pleasant to think about!), let’s suppose that I came across an RIA firm on LinkedIn that had $50MM in AUM, but was specifically targeting New York City mothers. Let’s say that they had several blogs on New York 529 plans and seemed to know everything about them. Let’s say that they had a conference call on working mothers and how to make sure your kids can access your investment accounts if you were to pass away (how DO they get the passwords, anyways, especially if you were a single mom?). Now let’s suppose that they have 10k followers on LinkedIn, were featured at a seminar as one of the top firms in the country in women’s finance, and their logo and tagline were female-oriented. Well, in that case I might just overlook the drawbacks of their small size. Since they’ve branded themselves as a financial advisor targeting women, there’s something about them that calls out to me. See how brand matters? It enlarges something of value to me, it stirs up my emotions, it makes me take a second look and focus on what they want me to see rather than what I want to see.
Solving Your Biggest Client Issue May Be at Your Fingertips
Written by: Shileen Weber
When the American Funds’ Capital Group asked 400 advisors last year to name the biggest issues they face in their businesses, it wasn’t the DOL, market uncertainty or the economy that sat in the center of the idea cloud of answers.
It was client issues.
At a time when regulatory concerns and market turbulence would seem to be at all-time highs, the advisors who answered the survey were most concerned about servicing their clients as well as ways to find new ones and grow their businesses.
It’s one of the ironies of the business, that the things most people find so hard to manage – creating financial plans, managing assets and staying ahead of events – are what advisors find to be the easiest parts of the business. Marketing - the business of selling themselves – can be the area advisors find the hardest elements to master.
In this age of instant communication, it can be even more intimidating to market your practice, especially to younger clients for whom many traditional methods like newsletters, postcards and phone calls don’t work anymore. For them, email is the preferred way to get information, and, if it’s important, they are more likely to respond to texts, not phone calls.
But, it doesn’t have to be that hard. The digital age gives you access to ideas and content of all kinds you can use to touch your clients in a way that positions you as a valuable resource. The key is to keep it simple, stick to some basics and create consistent outreach that clients and potential clients are interested in and will appreciate you sharing with them.
Here is a common-sense approach you can take that will not require you to hire an expensive agency or take valuable time away from managing your clients’ assets and running your business.
Content is King
Create a content calendar for the year: Think about reasons to touch a client 13 times during the year – that can be once a month and on their birthday. (The common rule of sales is that it takes at least 7-13 touches to make a connection.) The number is limited and keeps you from inundating the clients who likely already feel inundated with content. You can take the seasonal approach – tax planning in the fall, January for account review content, college financing in the spring – and supplement it with topical events during the year. Creating a calendar will help you stick to a plan. Here’s one resource for a content calendar.
Review what content is already available to you: Basically, this means finding the resources you already have and determining what pieces will be most valuable to your clients. Start first by checking out content your broker-dealer already generates that you can personalize. Many firms have economists who write regularly about the market. That’s content you can pass along to keep clients up-to-date they would not have access to anywhere else. In addition to your broker-dealer, mutual funds, your clearing firm, and money managers are all excellent sources of informative and even analytical content.
Personalize the content you use: Add your name, the client’s name or some way to avoid making it feel like canned content that you are using just to check the outreach box. See what capabilities your email program may have to help you.
The birthday strategy: One advisor used clients’ birthdays in a new way. Instead of the card or lunch date, the advisor asked the client’s spouse for a list of friends he could invite to a birthday lunch and made it a memorable event that was also a soft approach to getting referrals.
Become a curator of good content: What your review will show you is that you don’t have to generate the content yourself. You can point clients to pieces you find insightful. You are likely already doing this every day just to keep yourself informed. The next step is to compile it and send out the very best pieces to your clients, again, with a note with your own thoughts about why you found it valuable.
Find out what is working and do more of it: Use your client interactions, in-person and online, to find out what types of content clients liked and any they didn’t. You can use tracking on your emails to see how many were opened as a measurement tool, but the personal interactions tend to provide more insight than raw data.
Be disciplined about your execution: Get help from an office assistant or schedule the time each month to do the content development and outreach. As any good strategy, if you make it a habit, it won’t seem so hard.
Most importantly, be yourself and be personal: You may want to regularly get personal by talking about your family and hobbies. The ultimate is if you can provide content that is personal to your clients, not just about their investments – they get that from their statements, apps and online portals. Think alma maters, hobbies, children and parents.
Of course, as a disclaimer, you have to make sure all content and communications are complying with regulations and the rules of your own broker-dealer.
The process of creating a plan will get you thinking about your clients in a new way. That exercise alone can re-energize your business and get you seeing marketing opportunities in places you may never have seen them before.
Shileen Weber is Senior Vice President of Marketing and Communications at GWG Holdings. She was previously Director of Online Strategy and Client Experience at RBC Wealth Management, where they placed first in two JD Power and Associates U.S. Full Service Investor Satisfaction Study (2011 and 2013).
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