One of the more absurd tendencies in the wealth management profession is to equate assets under management with the quality of a firm. Nearly every industry survey that purports to help prospective clients find “the best wealth managers” is, in reality, largely a listing of firms based on their AUM.  There also seems to be some sort of social pecking order among firms -- whether at industry conferences or even in terms of eligibility for membership in study groups -- that is based on how much money each firm manages.

This is nuts. In fact, there probably has never been such a widely used statistic in any industry that says so little about the quality of its participants.

Sure, sure, sure. In a business with fees largely tied to assets under management, if you don’t have any AUM, you are probably not in business. But as a prospective investor who looks at one hundred or so different wealth managers every year, I have found that for several reasons there is a very low correlation between AUM and whether you would ever consider investing in a firm, much less referring a family member to it.

First off, it tells you next to nothing about the firm’s economics – i.e., its revenue and/or profitability. For example, a few years ago, I ran into a wealth manager that has more than $3 billion under management but generates less than $3M of annual revenue and makes no money.

How is this possible? Well, it had one extremely large client – with a low capped retainer fee – and a bunch of small clients. And net of paying the owners a market level salary, it made no money.

This kind of low-revenue-vs.-AUM ratio is more common in this industry than many may believe. Easily more than a third of the 200 or so firms that currently report in excess of $1 billion of AUM fall into this category; this is particularly true of those firms that have large institutional as well as individual clients.

Even firms that have lots of AUM and lots of revenue are sometimes very poorly run businesses. For example, my partners and I recently ran into a wealth manager with more than $3 billion of assets and that had more than $15 million of annual revenue but somehow still managed to lose about $5 million per year.

Again, how is that possible? Well, the firm had five different lines of business and lost lots of money in four of them (you know the “we lose money but make up for it in volume” strategy).

Unfortunately, this too is fairly common. We have encountered many firms that have more than $1 billion of assets and at least $7 million of annual revenue but, after paying market-level salaries to their owners, make no money, zip, nada. They are effectively labor-cooperatives – you know, jobs more than businesses. Communes. And if you take this group of firms and add them with those that have lots of AUM but not much revenue, combined they probably make up about half of wealth managers that today have $1 billion or more of AUM. Yes, half!

More important, AUM tells nothing about the sustainability of a firm. When clients are looking for a wealth manager, they are looking for an advisor they can count on for the next 30 years. Unfortunately, numerous firms with lots of AUM have no more sustainability than a $50 million one-person-shop down the street. 

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