Next up was the question of whether a firm should be investment-focused, perhaps with a staff of CFAs and proprietary investments solutions, or embrace an open-architecture, planning-focused platform. Proprietary in-house investment management can be highly profitable and permit RIA firms to eliminate paying fees to outside managers.
To no one’s surprise, more than 80% of the advisors in the session voted for open architecture. Investment management is time-consuming and CFAs are well-compensated, Seivert said. One advisor noted that leading purveyors of active management like Fidelity Investments have outstanding managers who have beaten their benchmarks for years and their funds are still suffering from outflows. Why would an advisor want to play in that hornets’ nest?
Open architecture also leaves a firm with more options when it comes to mergers and acquisitions, Seivert argued. Then, of course, there is the issue of disappointing performance. Replacing an outside manager is a lot easier than firing an employee who may be a major shareholder or even a founding partner with a big equity position in the firm.
Should a firm looking to maximize its value take a holistic or narrow approach to financial planning? Seivert said the wealth management business already has a 95% retention rate, so adding services like tax preparation and insurance isn’t going to move that needle very far.
Tibergien maintained holistic wealth management inevitably leads to more revenue and stickier relationships. Advisors in the audience agreed by a margin of 66% to 34%.
When it comes to the choice between selling a firm to internal successors or outside third-party acquirers, advisors at the event were split almost evenly, with 49% favoring internal succession. Tibergien acknowledged that a third-party buyer may be willing to pay more, but declared that internal succession creates continuity coupled with control for the seller.
Internal transactions have trended from 40% to 60% of all deals, Seivert noted. However, they’ve proven to be a lot harder to execute than many imagined. With internal sales, “valuation discounts are the norm,” he explained.
Compounding the low valuation problem is the absence of any competing bids, which puts the internal buyer in an advantageous position. Internal transactions can also create tensions within a firm and force young advisors to leverage themselves when many are also trying to save for their children’s education and their own retirement.
“Today, there are many private equity buyers,” Seivert said. That creates the possibility of multiple arbitrage. An outside buyer with lots of capital and a large, scalable business may be able to command a higher multiple than a smaller firm.
Advisors confuse succession issues with the sale of the firm, Tibergien argued. “Dan’s right” that selling to an outside buyer probably translates into more money. “But will the business last?” Tibergien asked. “The reality is only 25% of firms make it to the second generation and 10% make it to the third generation.”