More clients and staff produce big revenue jump for these firms.
Every year, Moss Adams partners with SEI Advisor
Network and the Financial Planning Association to deliver research on
the financial and operational performance of independent financial
advisory firms. The commitment of this research year after year has
been to examine trends in the industry and to provide advisors with
valuable data and insights they can use in managing their businesses.
The data has shown significant growth trends among independent firms in recent years-including increases in assets under management, revenue and staffing. The survey also has seen increases in exposure every year, which means larger firms are participating in the study. In order to separate the impact of changes in the participant base from trends among the firms that have participated every year, Moss Adams identified a group of 71 advisory firms that participated in the survey in 2001, 2003 and 2005. We then examined this group of repeat participants to see how their results trended over the four-year period. The growth trends that we saw were quite impressive.
These 71 firms saw an increase in average revenue of almost 150% between 2000 (the 2001 survey year) and 2004 (the 2005 survey year). (See Figure 1.)
At the same time, they have seen a 164% increase in median assets under management. (See Figure 2.)
The change in composition of their revenue is also quite interesting. We have seen a large shift away from securities commissions and trails (24.7% of revenue in 2000; 12.6% in 2004) and insurance commissions and renewals (13% of revenue in 2000; 1.6% in 2004), and a large increase in asset management fees, both in dollar terms and as a percentage of revenue (40.1% in 2000; 72.1% in 2004). At the same time, we have seen an increase in planning and consulting fees in dollar terms, but a decrease as a percentage of revenue, suggesting that many firms are incorporating their planning fees in their asset management fees. (See Figure 3.)
When we see this explosive growth in a group of advisory firms, the natural question is, "Why?" What are they doing that leads to this performance? Do they have more clients? More people? Are they superior marketers? Are they better at client selection?
Both the median number of staff and the median number of clients have increased over the four-year period, though neither at the rate of growth of assets or revenue. (See Figure 4.)
In fact, the median number of active clients (those
clients with whom the firms have some scheduled contact during the
year) grew by less than 14%. So these firms grew revenue by 150% while
only growing their client base by 14%. They accomplished this by
focusing on wealthier (though by no means extremely wealthy) clients,
and more than doubled their median revenue on a per-client basis.
As you might anticipate when you see the huge increase in staff-more than doubling between 2000 and 2002-these firms went through an investment period during this time and actually saw a decrease in their profitability and their take-home pay in 2002 (the 2003 study year). The timing of this investment period and decreased profitability is consistent with the inflection point of $1 million in revenue that we consistently observe in our research. Overhead expenses increase as a percentage of revenue to their highest point when a firm is at about $1 million in revenue. (In the 2004 study we observed that overhead expenses were 43.7% of revenue for firms with $500,000 to $1 million in revenue, and began to decrease as a percentage of revenue once firms cleared that $1 million mark.) This is very consistent with the trend this group of repeat participants saw. Their average overhead expenses hit their highest point-and their average pretax income per owner hit its lowest point-when they were at the average revenue level of $950,000 in 2002.
This investment in growth is one most of these firms made deliberately, and with great strategic focus. When we put all this data together, we see an interesting trend in operational resources and the resultant growth. In the 2001 study (for the year 2000) the firms in this repeat participant base were generally solo shops; some were small ensembles with a second professional (another owner professional or in some instances a nonowner professional) and a part-time administrative person. They were at $570,000 in revenue and were pretty profitable-the average owner made just over $200,000 in 2000.
However, in the 2003 study these firms had really increased the amount of resources they had in place, as evidenced by their significantly increased overhead. As a result, the owners took home less money (they were down to around $160,000). Most of the increase in overhead expenses was from the addition of both administrative and support staff-what once were solo shops spent $124,619 (or 13.1% of revenue) on administrative and support salaries.
While the typical firm consisted of two professionals in 2003, based on their salary expenses we would conclude they were overstaffed for the level of revenue they were generating at that time. This was likely a both a reactive and a proactive move. Current workflows dictated that additional resources be brought in to handle the load. However, the owners of these firms also had the foresight to anticipate further growth and have since begun to reap the benefit. They have not added significant amounts of staff since 2003 and their overhead has gone down as a percentage of revenue, in part from lower costs of administrative and support staff (which has now evened out at 11.7% of revenue).
They have seen an increase in their leverage-their ability to create a practice beyond their own personal time-and their productivity. The median revenue per professional and support staff (paraprofessional positions) increased consistently over the five-year period, from $116,533 to $205,540.
It is interesting to note that this happened near the $1 million point of inflection we observed above, which, for firms pursuing a growth strategy, further reaffirms the need for a sustained commitment to such a strategy. If these firms had abandoned their growth strategies in 2003 (realizing they were working harder for less money), then they would not have made it through to the other side-where the average owner now makes $267,000.
More businesses go broke in their growth phase than in any other phase of their business lifecycles. The reason is that often owners do not have sufficient resources to fund their growth; they outstrip their ability to manage, and quality of work and client service suffers as their span of control gets stretched.
It appears that this group of firms achieved great growth over a relatively short period of time. But they did not do it by accident; they did so strategically. They defined their future visions, they committed to who they wanted to be as organizations, and they staffed their firms strategically to get there. They focused on a consistent client base, they priced their services deliberately, and they monitored their overhead costs.
Growth should always be pursued strategically both from a marketing positioning and an operational standpoint. It may not be possible for all firms to continually cull their client base, but a strategic pursuit of clients, formalized client acceptance procedures (that are adhered to) and/or the delivery of discriminating services to less profitable clients can all lead to growth and an increased bottom line. Similarly, the strategic addition of resources in anticipation of growth will also be key. However, this doesn't mean you can loosen your control of your staffing and other overhead expense. Pay attention to the trends in your income statement-if your growth isn't realized and/or you do not see any improvements in your cost structure beyond the investment period, it may be necessary to reexamine your strategy.
Best of luck to you for a productive and profitable 2006!
(I want to thank the firms that have participated in this research year after year. The gift you give to the profession by sharing your time and insights is invaluable. If you don't participate in Moss Adams research and would like to, please send me an e-mail at Rebecca.Pomering@mossadams.com.)
Rebecca Pomering is a principal in
Moss Adams LLP and consults with financial advisory firms on various