Can you put a price on the value of your advice, your standards and your relationships?
In recent years, independent advisors have been
deluged with marketing ideas about how to maintain and grow a
separately managed account (SMA) business. But what about the flip side
of the coin? What happens when it's time for those independents who
have built powerhouse SMA practices to take down their shingle and
By all rights, these successful advisors should be able sell their practices for a handsome return and relax, knowing that the buyer will treat these newly acquired clients with the same nurturing and hands-on service they have come to expect. But when it comes to selling a business, particularly one as personalized as an SMA-based practice, nothing is quite so simple.
Several possible factors separate the sale of an SMA practice from the more traditional fund-based or transaction-oriented business. First, despite the staggering growth of SMAs (last year on a percentage basis, assets in SMAs outpaced mutual funds by almost 100%), it remains a niche business for independent advisors. That means, experts say, that the chances of a seller finding a buyer with the same knowledge and dedication to the product are far less than when dealing with a fund-based business, a straight financial planning practice or a transaction-based advisor.
And beyond that, according to industry experts, is the very likely possibility that the prospective buyer, while professing a commitment to keep the SMA practice as is, might well take the obvious steps of attempting to convert clients back to the product area he or she is most comfortable with or specializes in. When you consider that many clients at least consider bolting when a practice is sold and their advisor retires, the addition of a shift in asset strategy is likely to cause even greater consternation for them. And since the eventual sale price of the business is based on the amount of clients and assets under management remaining with the practice, too much change in that practice could possibly result in a significant loss of expected or future revenue for the seller, as well as the buyer.
"The concern is more acute for an SMA business," says one New York City-based SMA advisor who is contemplating selling his business (and didn't want to be named because he hasn't discussed it with his clients). "For one thing, because SMAs are a more personalized product and solution, we tend to have very close relationships with our clients. And I believe clients will expect that kind of relationship to continue with the new advisor. But if they end up being transitioned to a more generic product, and with that, maybe more generic treatment, many just aren't going to hang around."
Many industry experts agree. According to Mark Tibergien, a principal in the Seattle-based consulting firm, Moss Adams LLP, the "stickiness" of a client after a sale is always a question mark, and it becomes a bigger one with each additional change. "It's not unusual for the buyer to pay the seller over the course of three years based on revenue generated," he says. "As a result, every client who doesn't stay put reduces the amount of money the seller gets. And remember, the sale of a practice is traumatic for the clients. And if that sale goes to someone who isn't as passionate about SMAs, or generally does things differently than the previous owner, it is going to set off alarm bells for some."
The word, in short, is "disruption," and it is the one thing that clients never want when it comes to the management of their assets, especially high-net-worth and the ultrahigh-net-worth clients. However, Tibergien continued, many concerns regarding sales of SMA practices are largely psychological. "The psychological effects can be significant," agrees Scott MacKillop, president of US Fiduciary LP, with offices in Sugarland, Texas and Chicago, " because the clients have become more like family members or friends to the advisor, in a sense."
Tibergien's point about the costly ramifications to changing the business after the fact is key. As everyone in the industry knows, the factors that go into establishing the sale price for advisory businesses are complex. But, reduced to its simplest elements, it's fair to say that businesses with strong fundamentals, high assets and a strong client base with growth potential will fetch a good price. The question of what kind of products clients are holding is not very high on that list. Especially because the idea of working with an advisor in the first place is that the client cedes the specifics of investment decisions to the advisor. What clients want, of course, is an agreed-upon mix of stability, risk management, preservation and growth. The vehicles used to attain those goals are up to the advisor. And clients rarely worry as long as the goals are being met.
But there is a counterpoint to the idea. It's the result of the overall success independents have had building an industry around the kind of personalized service-including the value of good advice and being a fiduciary-not necessarily seen in the traditional brokerage environment, according to Stephen Winks, industry consultant and publisher of Senior Consultant newsletter. "RIAs have carved out their niche around close relationships with customers, and specifically on the idea that there exists a personal connection beyond just dollars and sense. That means that clients of these firms have rightly come to expect a different level of service."
Valuation expert and attorney David Grau, president of Business Transitions in Portland, Ore., says, "The higher standard of care is an obvious outgrowth of the very nature of the separate account business. Most SMA advisors, especially those who are wealth managers, say they feel closer to their affluent SMA clients-obviously more so than, say, a transaction-based broker with 1,000 mutual fund clients-and they are more tuned-in to their families, their lifestyles, their estate and legacy planning goals. Again, this prompts the seller to make sure the buyer has the same, or similar, philosophy of having a client-centered practice as the seller does."
It cannot be overstated that the concerns surrounding the sale of an SMA practice must be looked at from the client's perspective. It must be understood that the client and advisor have "bonded" with each other, and the professional money management details are almost secondary to the trust factor of the relationship. As Mark Dransfield, president of First Allied in San Diego, rightly notes, "Since the SMA advisor is usually working with skilled, outside, independent money managers to handle the clients' accounts, it becomes a seamless transition from buyer to seller. All that really changes is the 'relationship' manager."
And from the buyer and seller's perspective that is absolutely right. But from the client's perspective, that relationship manager (the advisor) is key. "As the relationship manager of the SMA clients, the advisor tends to know more about the client and his or her family, attending the birthday parties, the christenings, the golden wedding anniversaries and so on," continues Dransfield. " There is a special connection that occurs, especially with a small but very high-net-worth practice. That's why I think the biggest hurdle will be the personality changes within the practice, from seller to buyer. Also, a big concern is whether or not the purchaser can maintain those kinds of relationships with the current clients that the seller has already established and enjoyed over the past 20 years or so. Usually the answer is no, not within a short period of time."
The critical key point Dransfield makes about maintaining the long-term relationship is the expected generational transfer of wealth within the seller's client base-taking the existing relationships down to a less personal level by the new owner will have an impact that goes beyond just the immediate clients' accounts. "The buyer, depending on the demographics of the clients, must consider that if the clients are older and they begin to retire, then pass away, and the assets are passed down to the heirs, well, if the buyer does not have a relationship with the heirs ... these children or grandchildren may take the inheritance and buy a house in Beverly Hills, buy a yacht, go on cruises, pay off debt," he says. "So it's important for the potential buyer to look at the client demographics when he or she does their due diligence. If the clients are in an older age group and the purchaser doesn't have time to cement these relationships-well, out goes $50 million or more in [current or potential] assets, and they realize they have overpaid for the business."
MacKillop agrees with both Dransfield and Grau. Having been in the SMA business for close to 30 years, developing separate account platforms and consulting for some of the industry's largest asset managers, he has seen many successes and even some disasters in buying and selling. And he, too, is squarely in the corner of those who say any sale of an SMA practice to a buyer not exclusively focused on that business puts long-established client relationships at risk. "I have worked with numerous SMA advisors over the years and the very nature of these practices is quite different. My belief is that the number one risk is the buyer will lose too many accounts and, consequently, compensation down the road will erode. The potential for a huge 'disconnect' among the buyer, seller and the clients is most definitely there," he says, concurring with the consensus.
Says MacKillop: "If the seller has worked diligently
over the years cultivating the generational transfer of the clients'
assets to the heirs, and if the new owner does not continue cultivating
the relationships, or does not understand the intricacies of both the
relationships or the money management, then the new owner will not be
able to "harvest" the benefit of all of that hard work over the years
by the selling advisor."
So, all of that said, what special burden is there on the seller of an SMA practice? First and foremost, say the experts, is due diligence, but not in the strict fiduciary sense that is always required in the sale of business. Tibergien says, "What the seller must do is make sure the buyer is not just buying the business to incorporate it into a different business model." And to protect the clients' comfort level, and by extension, the longer-term money coming from the sale, the seller should sell the business not when they are completely ready to retire, but rather when they have an extended period of time to be part of the transition. "As the seller you should be prepared to spend anywhere from two to five years keeping an eye on the business," he added.
In addition to creating a prudent practice so that all the tangible strengths of the organization are transferable, Steve Winks agrees that the seller must create the right mechanism for oversight "either by serving as consultant for a period of time or else overseeing some similar type of successor management put in place."
When asked about the ideal way to discuss with clients the transition and all that it entails, Scott MacKillop says that you can't cut corners. "Having one-on-one conversations with as many clients as possible is a great benefit for them. Doing a client appreciation event and announcing it to everyone will definitely not work in anyone's favor." He believes clients would be negatively affected by this approach. "With advanced planning and time management, the seller might try segmenting the clients into various categories ... starting with having face-to-face meetings with the largest clients and making your way down to friendly phone calls to the smallest, and you might find that many of the smaller or newer clients (or those less involved) may not be affected one way or the other as long as their money continues to be managed effectively," he says.
MacKillop offers a last word to a prospective buyer, emphasizing that, without question, any buyer of an good-sized SMA practice "must possess consultative skills, specifically, otherwise it is going to be a difficult transitioning to this world." He also cautions the buyer, "Client relationships can be so fragile you might not even realize you have lost a client until you receive the paperwork from them. And you may not get a second chance at serving the client if that happens."