Building a business in your sweet spot.

    You are no doubt familiar with The Pareto Principle, the concept introduced by Vilfredo Pareto in 1906 when he observed that 20% of the people of Italy possessed 80% of the wealth. In the 1930s Dr. Joseph Juran termed the concept the "vital few and trivial many," the principle that 20% of something-the vital few-are always responsible for 80% of the results: 20% of the roads get 80% of the traffic; 20% of your staff provides 80% of the headaches; 20% of the time produces 80% of the results. And of course, as we see in this industry, 20% of the clients produce 80% of the revenue.
    But this concept, as well proven as it may be, does not have to be accepted. In fact, I challenge you to refuse the 80/20 Rule in your practice. Don't allow 80% of your clients to be outside of your sweet spot. And don't allow 20% of your clients to subsidize the other 80%. Imagine what your business could be if you focused your efforts-your time, resources, staff, marketing, client service-on the clients within your target; but instead of those clients comprising only 20% of your client base, they comprise 80%.

The Impact Of Reversing The Pareto Principle In Your Business
    In The 2004 FPA Financial Performance Study, sponsored by SEI Investments, we found that in fact the firms that had a larger number of clients within their defined target market far outperformed those that had a small number of clients within their target market, regardless of what the target market was. Figure 1 illustrates the average revenue (the yellow bar/left axis) and the average pretax income per owner (the red dot/right axis) for those firms that had more than 80% of their clients within their defined target, and those that had fewer than 20%. The results are dramatic.
    You might assume that this is an issue of the client profile-perhaps these high-performing firms are focused on wealthier clients? In fact, no. To isolate the impact of client size from the ability of a firm to focus on clients within their target, we looked at the firms that were focused on smaller clients but had more than 50% of their clients within their defined target. These firms outperformed the firms that had larger clients but only 35% of their clients within their target. Their target and actual client base comparison looked like what you see in Figure 2 (page 52).
And their financial performance looked like what you see in Figure 3 (page 54).

Defining Your Target Client
    Your target client is one critical element in your Mission Statement. Your Mission Statement (or your 30-second elevator speech) states:
"We do [this] for [these people] in [this way that makes us unique]."

Very simple. But "We provide investment management to high-net-worth clients with a great client service approach" doesn't cut it.  Neither does "We provide life planning to the wealthy on a fee-only basis." Be as specific as you possibly can. Allow yourself to define a target that would leave some people outside the target; that would force you to say in some cases, "No, that prospect is not within our sweet spot."
    To do this in your practice, follow this sequence of steps:
    1. Envision what your business will look like five to ten years down the road. What is your personal definition of success? How will your practice be differentiated from every other practice in your marketplace?
    2. With that long-term vision in mind, think about the clients you currently have who are aligned with that specific vision of the future. These may or may not be your current favorite clients, but they will be the ones who will have needs, interests, demands and personalities aligned with the business you want to have.
    . Then identify the common characteristics of these clients who are in the sweet spot of what you want your business to be. Create a grid with clients on one axis and characteristics on the other, such as: source, age or other demographic, marital or family status, background, profession, income, wealth, delegation propensity, philosophy, personality, concerns, unique needs.
    4. Identify where there is overlap in these characteristics. What do these clients have in common?
    5. Consider where you can find more clients that have those specific common characteristics. That is how you will replicate the clients you have that are within your sweet spot, given your desired vision of your business.
    My favorite example of this is of an advisor I met in southern California last year. I wish I had gotten his card so I could give him due credit for what is the best, most specific target market I have ever heard defined. We were having lunch with a group after a presentation, and we were chatting about the need to define the sweet spot. And this gentleman said, "Yes, we have done that. We only work with clients who have large dogs and RVs." 
    I paused for a moment, to figure out if he was serious or not. Then I asked him to elaborate. He said, "We did what you told us to do. We envisioned our business five to ten years down the road, and we thought about the clients we had that were most in line with that vision. What we figured out was that the clients we liked working with the best, and who were best aligned with our business strategy, all had large dogs and recreational vehicles. Now that's all we work with." As we discussed it, the common characteristics of these clients became very clear. As a generalization, of course, people with large dogs may tend to be family oriented, low maintenance (these aren't high maintenance lap dog people), they like to spend time outdoors. People with RVs may also tend to be family oriented (they enjoy one another's company enough to spend long spans of time in tight quarters), they have enough money to take the time to travel around the country, they have a sense of adventure but are not cliff-divers, they are down-to-earth and easy going.
    This decision about your target client-in line with your business strategy-will drive many other decisions in your business: 
    Where do you go to get clients? How and where can you replicate the clients within your sweet spot?
    What do they need? This will drive your product and service offering.
    Who do you hire to work with them? If your target market is trapeze artists with intergenerational planning needs, you aren't going to hire actuaries in business suits to be their planners.

    In fact, this decision about your long-term vision and your target client will drive all the tactical and resource decisions in your business. Every opportunity you evaluate and decision you make will be made through the filter of, "Is this opportunity/hire/strategic alliance/vendor/product/service I am considering going to be meaningful to the clients in my sweet spot, and is it going to move me closer to my vision of my business in the future?"
    One of the mistakes that advisors make is to assume that strategy is the same as marketing. In reality, marketing is a subset of strategy. A strategy helps you to make decisions about how to spend your resources of time, money, management and energy. Part of this is on marketing, but much of this is on the client service experience.
    With the cost of doing business rising faster than revenue in many firms, a focused effort allows you to build more efficiency into how you deliver what you do. As in the example above, if your strategy revolves around wage earners, then you can scale your service offering, technology and hiring of staff to that market. If your strategy revolves around business owners, the client service experience and investment in infrastructure will be much more substantial, and the time you spend with those clients will be greater, therefore justifying the higher fees.
    You can relate to this in everyday life. If you go to Costco, you are not seeking a warm and fuzzy shopping experience but rather the ability to purchase a year's supply of toilet paper at a competitive price. If you go to Barney's or Nordstrom, you won't even find TP in quantity; they transform the paper into wrapping, packaging and bags for you to carry your items out of the store. A different experience.
The Danger Of Diversification
    I know that even if any of you were not familiar with The Pareto Principle, you are familiar with the concept of diversification. Forget everything that you know about diversification. While it is a sound and fundamental concept in investment theory, it is a recipe for distraction in an advisory firm. Until a firm is dominant in its target market and has resources to spare, they do not have the resources to diversify. If a client came to you with $1,000 and asked you to create a diversified portfolio, you would tell them, "You don't have enough resources to diversify."  The same is true with advisory firms. Focus you resources on your sweet spot-the defined market in which you want to make an impact.

    In fact, if you think about it, diversification is a defensive strategy, not an offensive strategy. As within investments, the primary reason one diversifies is to manage risk. It is difficult to win on defense alone. The question for you is, what will propel your business forward-where's the point of the spear? When you combine a strategic focus with appropriate defensive tactics, you build a better business model. So your current client base may represent your diversification effort; your future client base within your sweet spot will represent where you are going to grow. A good metric to observe each year is what percentage of your clients is in your sweet spot, and is that percentage growing.

What To Do With Clients Or Prospects Outside Your Target
    Core to focusing on clients in your sweet spot is being diligent in your client selection process-both for new clients and ongoing relationships. There are two schools of thought on whether or not you should fire clients who do not fit in your target. I have seen either option work effectively. Many firms have to release at least those clients that are outside their target with no hope of ever being inside it. Remember, you only have 20% of your client base available to dedicate to nontarget clients.
    The same goes for prospects. Most advisors will argue that they can't turn away a prospect from their best client-the client's child (or even the client's aunt's hairdresser, which was an argument I was faced with once.) At the beginning of each year or budget cycle, you need to budget how many nontarget clients you will accept in a year. If your goal is to bring on 40 new clients in a year, only eight of them (20%) can fall outside your target. And that is assuming you don't need to overcorrect with new clients to compensate for old clients outside your target who you don't want to let go of. A prospect that you expect may one day qualify for your sweet spot still counts as one of the 20% nontarget clients your budget limits you to.
    Certain prospects and clients always need to be on the "no" list. Say no to:
    A lone client who asks for something outside your competency
    Clients who ask for a discount-don't work with anyone who doesn't value what you do
    A financially attractive prospect who doesn't fit your competency or philosophy
    Bad, rich clients who abuse you or your staff
    Offerings your sweet spot clients don't care about
    Don't accept as gospel that it is acceptable to have 80% of your clients outside of your sweet spot. Decide to build a business where 80% of your resources are focused on the "vital many" who generate 80% of your results, instead of letting the "vital few" fund the "trivial many." Your clients and your business will thank you for it. 

Rebecca Pomering is a principal in Moss Adams LLP and consults with financial advisory practices on matters related to strategy, compensation, organizational design and financial management. She is co-author with Mark Tibergien of Practice Made Perfect.