Adding retirement income management presents operational challenges.
Creating a retirement income management (RIM) component within an existing practice is a popular topic these days. You can hardly pick up any financial practice publication without some mention of it. Much has been written about the potential pitfalls. Yet, few answers have been offered on how to actually run a practice successfully. At least part of the reason for this may be that this is uncharted territory for many financial advisors.
For many years, financial advisors have had the "luxury" (if you will) of dealing with accumulation-type clients. With rising assets and long-term goals to address, little attention has been paid to short-term cash-flow issues (of the financial advisor's practice). But with the looming baby boomer retirement issue at hand, many financial advisors are now faced with the possibility of declining revenues should their fees be based solely on a percentage of assets under management (AUM) with a client on a spend-down plan during retirement. Therefore, service pricing has been pushed to the forefront as an issue for those advisors to confront.
However, pricing is not the sole issue for advisors to deal with. There are several issues unique to Retirement Income Management (RIM) practices that require attention. Four issues that come to mind are:
Pricing/Profitability
Service Standards
Employee Retraining
Client Training
Pricing/Profitability
The issue of pricing is much larger than purely how you charge for your services. As any competent business owner will tell you, it is not about the gross, but the net. Margin might be viewed as the difference between gross and net. What many advisors are faced within the RIM model is the potential for shrinking net profits or margin compression. This may be caused by a variety of factors, not the least of which might be a reduction of gross revenue against the backdrop of stable (or rising) fixed costs.
The knee-jerk reaction to this is usually to reduce expenses, cut back on staff or find other ways to spend less. The more logical answer is to look at how you set your fees, and to also find ways to be more efficient with your expenses. The question that needs to be asked of the financial advisor is, "If you are basing your fees on a percentage of AUM and the asset base is declining for a client, are you (or the services you provide) worth less to that client?" For most, the answer is that, if anything, the services are worth more during this critical period in a retiree's life. Therefore, perhaps you should revisit how you charge for your services.
An a-la-carte pricing system, where asset management (for instance) is broken out from advice services and charged differently, might tend to smooth out the revenue stream while providing a client with a better understanding of what those charges represent. Many financial advisors have turned to a fixed fee (or hourly fee) for advice services. Some have even adopted modified forms of this for asset management as well. The result for the RIM practice is a reduction or elimination of shrinking net profits or margin compression. For those who believe that margin compression is the sole result of competition from other financial practices, the answer may lie in more fully developing their value proposition and sufficiently differentiating themselves from such competition (and not necessarily reducing your fees).
Pricing is only half of the picture. A key aspect of a firm's success is net profit. This means putting the pricing issue within the larger context of profitability. As an example, a firm produces approximately $950,000 annually in gross revenue. This firm has a large client base and offers a number of services to meet the needs of its clients. In addition to asset management and financial planning, the firm also offers additional services such as a fully staffed business and personal income tax department with business accounting services, a mortgage placement service and an auto-leasing department.
The firm, to deliver on such a wide array of services, has become staff-heavy. With a large facility and infrastructure costs, each time services have been added the firm's gross revenue has increased but its net profit number has diminished. The owner, a hard-working financial advisor (putting in about 70-hour weeks), is taking about $80,000 out of the firm each year in net profit (before taxes). For a veteran financial services firm, this is an appalling reality. One reason for such a low percentage of net profit to gross revenue is the firm's insistence on adding expensive service offerings without considering whether they might be profitable, given the cost of delivering them.
There is simply no room in a small firm for loss-leaders. Many firms have routinely offered advice for a fee and set that fee without considering the profitability of the fee. Some advisors have set a price and justified it by saying that if they are short on the front end, they will make it up on the back end (presumably in AUM fees). But those advisors could end up painting themselves into a corner if they later realize that overall company profits are suffering.
In investments, financial advisors routinely examine profitability ratios in analyzing a company's performance. Yet, this simple concept is often ignored when it comes to one's own company. When setting a fee for service, such as an advice fee (financial plan fee, etc.), the financial advisor should determine what goes into making that fee profitable.
As an example, if it takes you and your staff about 20 hours to prepare a comprehensive financial plan, and you charge for other services an hourly rate of $150 per hour, do you set the financial plan fee at $3,000? Maybe less, if you consider that at least part of the plan production involved staff that are paid less. Maybe more if you consider the cost of production (paper, binding, etc.), the proportionate costs of electricity, computers, office lease, copier expense, etc., etc. And, we have yet to consider the intrinsic value (but still very important factor) of the financial advisor's experience. Adding all these factors in to that fee could balloon it up to $4,000 or more in this example. Pricing set against the backdrop of profitability can become very complicated. But, it is a necessary step, and not just for financial plans.
Service Standards
Compounding the issue of pricing and profitability is expected service standards of the RIM type client, the second issue. For most, this client may represent a substantial increase in client touches (face-to-face meetings, calls, e-mails, letters, etc.) both prior to and after retirement. Though such meetings could produce additional revenue for a firm, they also can create time management issues (unless of course you like working 70-hour weeks).
Finding ways to maintain and/or increase time efficiency (electronic communications, using staff to handle minor issues, etc.) can mitigate some of the problems. However, for these clients, it may be necessary to assume that more time will be spent working with them. Preparation is another key ingredient in making your time more efficient. Consider setting service standards and having all of the steps necessary to perform those standards in written form (a procedures manual).
Employee Retraining
This leads us to the third issue, employee retraining. Once such procedures are in place, the next logical step is to train your employees to take on the potential added responsibilities associated with them. Workflow systems that can be quickly perused by the financial advisor or office manager increase time efficiency and serve to document the steps in each procedure with accountabilities.
Beyond just training on the steps, care should be taken to prepare your staff on how to handle the RIM client, whether on the phone, by e-mail, letter or in person. This client may be apprehensive about their financial situation, given retirement and fixed-income concerns. It is important to approach this client with care and understanding, recognizing that they may need more hand-holding at least during the initial stages of the engagement (or conversion to RIM status).
Client Retraining
The fourth issue is client training (or retraining). Clients, for the most part, have no idea what to expect from their financial advisor. Given the increased concerns and potential issues faced by the RIM-type client, it is likely that they will have lots of questions (and possibly some unreasonable demands). Much of this can be handled efficiently through an educational process with the client that illustrates your service standards and what they can expect from you in the way of information and feedback. This is also an opportunity to fully disclose your fee structure, underscoring the enormous amount of work you intend to do for them given those fees.
There are, of course, many other issues to consider beyond these four. Such issues as technology, infrastructure, office environment and product/service delivery systems are but a few of the many that also need to be dealt with when adding retirement income management as an integral and efficient aspect of your financial advisory practice. However, focusing on the four issues discussed above is a good start.
David Lawrence, AIF (Accredited Investment Fiduciary), is a practice efficiency consultant and is president of David Lawrence and Associates, based in Lutz, Fla. (www.efficientpractice.com). David Lawrence and Associates offers a variety of consulting services, including operational and technology consulting related to the financial planning process and investment management.