Talk about potential Schwab bid for TD Waterhouse has advisors bracing.

Times were when providers of custodial services wondered how long their financial advisor clients would stay in business. Now the tables have turned.

After the experience of recent months, financial advisors were stunned by two separate news reports. In March, the Vanguard Group announced that it was disbanding its business unit that provides advisors with custodial services. Shortly thereafter, Vanguard entered an informal agreement to steer advisors looking for a new custodian to TD Waterhouse.

Then came a bombshell. News reports surfaced in early May that TD Waterhouse was being put up for sale. The reports were quickly denied by Waterhouse in correspondences to its advisor clients.

But several analysts feel that, despite the denials, there is truth to the reports that Toronto-Dominion Bank is looking to sell its U.S. discount brokerage arm if the price is right. "It sounds as if it's pretty definite," says Matt McGinness, an analyst with Cerulli Associates in Cambridge, Mass. "From our perspective, it's an established fact."

One reason a sale is considered possible is that Toronto-Dominion Bank, Canada's second-largest bank in terms of assets, has already signaled its intention to pull back on its foreign operations and focus on its domestic market. The bank, which suffered its first annual loss in 47 years in 2002, bought TD Waterhouse in 1996 for more than $500 million. Some sources estimated that today the discount brokerage operation, including its institutional arm, might attract up to $1.5 billion.

On top of all the other issues facing them, advisors must also contend with figuring out which providers are going to be left standing a year or two from now. More than a few advisors were further shocked by reports that Charles Schwab could be one of the bidders.

Schwab, meanwhile, is in the process of forcing changes of its own on advisors. On July 1, Schwab is scheduled to hike its minimum-account fees and requirements-a move that will force up to 1,800 of Schwab's advisor firm clients to pay more, increase their account sizes or move their assets to another custodian.

In yet another development, advisors saw their custodial service options grow larger with the announcement that two former Jack White & Co. executives, who also worked at TD Waterhouse after it acquired Jack White, were launching a brokerage and custodial services firm in June that is focused specifically on fee-only independent advisors. The firm, Shareholder Services of San Diego, highlighted its policies against charging advisors any fees for holding accounts or having minimum-account requirements.

Industry Consolidation

Analysts speculate that the potential bidders in a TD Waterhouse sale could include Schwab, Fidelity Investments and Ameritrade Holding Corp., the latter of which has been aggressively marketing its own custodial services-particularly among small advisory firms-since entering the market more than two years ago. Adding to the intrigue was a confirmation by Charles Schwab, Schwab's chairman and co-CEO, that his firm would be interested in such a deal.

"We'll be a very competitive bidder on that particular property," Schwab told Bloomberg News Service. "We're one of the few players that can do an all-cash transaction, if that were required." However, observers also believe that privately held Fidelity could probably outbid Schwab if it wanted to do so. It's also unclear if a bid by Schwab, the market leader, would trigger an antitrust review.

A merger of Schwab and TD Waterhouse would have a dramatic impact on advisors because many of Waterhouse's clients are advisors who, for various reasons, have migrated from Schwab in recent years. Roy Diliberto, for example, is a Schwab client who started placing assets from his firm, RTD Financial Advisors of Philadelphia, with TD Waterhouse two years ago. His clients' assets are now split about equally between the two firms, he says. "Pretty much most of the new clients are put into TD Waterhouse."

Among the reasons he switched was that TD Waterhouse has lower costs, what he considers to be a cutting-edge technology platform, and their philosophy of partnering with, rather than owning, companies that service advisors. "I don't need to worry about moving from TD Waterhouse because I'd still be able to have a relationship with the vendor," he says.

Diliberto says he's not sure what to think about the possible sale of TD Waterhouse. The correspondence he received from Waterhouse maintained the stories were just rumors and Toronto-Dominion "has no plans to sell TD Waterhouse." Yet he doubts that the Wall Street Journal "made it up."

As for what he would do in the event of a sale, he says, "It would really depend on who bought them and what they intended. If it's Schwab, I'm right back where I was two years ago and I'd have to start making those decisions again."

Under the leadership of division president Tom Bradley, TD Waterhouse Institutional has gained the favor of many advisors. But their patience is now being tried.

McGinness notes that the reports of a sale come just a few months after TD Waterhouse denied news reports that it was planning to launch a retail, full-service brokerage operation that could potentially compete with its own advisor clients. "TD Waterhouse does need to be careful about retaining its current clients and continuing to reassure them that they'll continue to provide them with a high level of service," McGinness says.

Small Firms Get Squeezed

While advisors have reason to be concerned about what will happen to the custodial service marketplace, they're also coping with some immediate changes. On July 1, Schwab Institutional will put into effect a quarterly $1,200 fee on advisors whose assets are less than $10 million. The previous fee was $600 on assets less than $3 million, which became effective in 1999.

Schwab spokesman Lance Berg says the firm will not know how many advisors will be impacted by the change until July 1. Schwab, however, has previously stated that about 1,800 of its 6,000 advisor clients could potentially be facing the new fees, he adds. "We do expect that the majority will not be affected by this," he says.

Many advisors who do face the fee have been spending the past four months looking for a new custodian. Jean Shamo, co-owner of ShaMont Financial Services in Hilton Head, S.C., says the fee will force her to move her clients' assets to Ameritrade. The firm has about $5 million in assets with Schwab, and has been using the firm's custodial services for ten years. "That's too much cost for us," she says of the quarterly $1,200 fee. "It's obvious they are trying to cut out the low-end advisor."

Scott Dauenhauer, president of Meridian Wealth Management, is moving his $1.5 million in assets to Ameritrade as a result of the change in fees. Dauenhauer says he's unable to understand how Ameritrade can view him as a profitable client, while Charles Schwab does not.

"There are a ton of advisors out there who are growing, but who don't manage assets directly," he says. "I am serious about the business. I just don't do business the way she thinks I should."

Berg says the fee hike reflects the increased value of Schwab's offerings to independent advisors. "It's our hope that no advisors have to pay this fee," he says. "It can be avoided by centralizing assets with Schwab."

Asked if advisors who just barely meet the $10 million asset minimum will need to worry about fee increases and new minimum thresholds in another few years, Berg adds, "We review fees-for all parts of the business-on an ongoing basis to be sure they are appropriate for the services we provide. However, I can't speculate on future pricing decisions."

Ameritrade, which has targeted small advisors as part of its growth strategy, has seen a surge in calls from advisors over the past few months, says James C. Wangsness, Ameritrade Institutional's senior vice president of Advisor and Correspondent Clearing Services.

In the first quarter ending March 31, the firm saw its advisor clientele grow from 315 to 429, he says. Ameritrade, he says, has achieved operating margins and efficiencies that has allowed it to profitably serve independent advisors with $50 million in assets or less. That includes, he adds, those with less than $10 million. "Others are shooting themselves in the foot and we're taking advantage," Wangsness says.

Another firm likely to benefit from any fallout is the investment advisor division of Raymond James Financial Services, which was launched two years ago and now has more than $1 billion in assets.