It’s late November and Larry Roth is speaking from his office in the World Financial Center, across the street from the rising Freedom Tower, the phoenix of the World Trade Center already casting a long shadow over lower Manhattan.

Roth knows a thing or two about phoenixes—and standing in a long shadow. The firm he heads as chief executive officer, the Advisor Group, is a small moon in the penumbra of AIG, the insurance industry’s version of Jupiter (it enjoyed $64.2 billion in 2011 revenues). AIG has also had to rise from the ashes after its implosion and government bailout in 2008.
When the U.S. swooped in to take an 80% stake in the company, many of its subsidiaries, including the Advisor Group and its three component broker-dealers, Royal Alliance, SagePoint Financial and FSC Securities Corporation, looked headed for the auction block—marginal items ready to be sold at fire sale prices as the global giant rebuilt its capital.
Many reps at the Advisor Group saw the writing on the wall and scrambled for cover. Beset by client fear mixed with outrage over the wave of Wall Street bailouts in 2008, many advisors bugged out and headed elsewhere, and the firm’s 6,000-plus rep count shrank to a low of 4,600.

All for nought. It is now 2013. And the Advisor Group is still together—and still with AIG. Not only that, it just bought itself a new broker-dealer for Christmas, Woodbury Financial, a 2,600-rep firm sold off by AIG’s New England competitor, The Hartford. Quite a stocking stuffer: The purchase will bring the Advisor Group’s rep count up from 4,800 to a little over 6,000 again.

“We’ll be a little more than $125 billion in AUM and our projected revenue for 2013 is $1.25 billion,” says Roth. Woodbury did about $225 million in revenue last year, he adds.

“September 2008 is when the world changed for us, the financial services industry and obviously AIG,” says Roth. “It took until the mid- to last quarter of 2009 before things stabilized. At that point, we were running at about 4,600 advisors. And our number of advisors has increased since only by a couple of hundred, but our gross dealer per advisor has increased considerably. If you look at our graphics, we’ve been recruiting higher producers than we’ve been losing.”

Hard to fathom that just three years ago, in the summer of 2009, the whole Advisor Group was weeks (maybe days) away from being cannibalized by private equity firms (Lightyear Capital and Lovell Minnick Partners were reported contenders, though Roth can’t confirm it.) At that time, the sale looked so imminent even Roth thought he was moving. “If you had asked us during that time, we would have said the same thing: that we were going to be sold in a couple of weeks.”

Then came a very interesting off-site dinner in Houston with senior managers and AIG’s newly anointed leader, in mid-August of that year. “There were about 10 tables. We walked in thinking we were going to have a glass of wine with our buddies. There were name tags. And so I’m walking around, I look to my right and see ‘Bob Benmosche,’ and I think, ‘This can’t be good.’”

Roth found himself sitting next to his new boss. He says the flamboyant and famously provocative Benmosche spent some time at the table telling a favorite joke. The joke, to paraphrase, is about a man who comes home looking for his cat, which has fallen off the roof and been hit by a car. The cat’s owner tells his brother, “You should have told me the cat’s on the roof first. That would have prepared me.”

Later, when he asks his brother where their mother is, the brother says, “She’s on the roof.”

A funny story and a prelude to the real news: Roth still had a job. The joke meant things were not what they seemed.
Benmosche later went on to defend his decision not to scuttle AIG subsidiaries such as Roth’s. First, it’s important to recall AIG’s actual financial position at the time it became insolvent in September 2008, a year before Benmosche became CEO. Fully 95% of its subsidiaries were profitable and reportedly 50% of them were running record profits. Had it not been for an obscure subsidiary in London, little understood by top management, underwriting credit default swaps, AIG might have survived the financial crisis.

“Bob stood up for the 113,000 employees,” Roth says. “He stood up and said these are great companies. They are just as good now as they were a month ago or two months ago, but for this one division. And if you guys want to get your money back, and we intend to pay it to you, give us a little bit of breathing room.”

Great! But why? When others looked at the business, few could understand why AIG, operating in a business like property/casualty insurance with heroically wide profit margins, would still want to be in the broker-dealer business, an industry whose thin profits in the 5% area earn it sneering comparisons with grocery stores. In the wake of the crisis, many insurance companies have started getting out (especially in 2012, after many quarters of slack profits) of a variety of low-margin or high-risk business lines, including variable annuities and long-term care insurance.

In fact, sources say former AIG Chairman Maurice (Hank) Greenberg, the hard-charging, empire-building billionaire who transformed AIG from an obscure international P&C insurer into the world’s largest financial services concern, frequently noted that the securities brokerage did not produce the spigots of cash other leading business units did. While some of Roth’s predecessor B-D executives often voiced admiration for Greenberg’s intelligence and work ethic—he was rumored to take off only six days a year—they questioned whether he really understood the securities and advice business.

Furthermore, changes in the business are adding to the margin squeeze. Reps want more money these days, and since there is a shrinking pool of them, the top ones can dictate terms. Armed with recruiters and widely advertised payout ratios they see on the Web, the biggest independent reps are now in a position to demand payouts of up to 95%.

There is also a growing regulatory apparatus further putting pressure on profits, as B-Ds must spend weeks with auditors in their offices to prove their virtue in the Madoff age. And the money that brokerages used to get back just sitting on money market funds has gone bye-bye in the low-interest, low-spread era.

Add to that the infrastructure problem: Many firms must make huge capital investments in technology to keep up with the arms race against giants like LPL and Raymond James, which already had a huge head start. That weakens margins further.
Benmosche did offload such units as the AIA Group, an insurer in Asia, and American General Finance, a consumer loan business. So why did he want to keep a broker-dealer unit with $1.1 billion in revenue (barely a dent in AIG’s $64 billion), when the insurer, after all, owed the U.S. taxpayer a return on his investment?

One word: belief.

Benmosche, having logged time running MetLife and serving at the PaineWebber Group, knows and believes in the advisor business, says Roth. He sees the need to have an advisor presence and to be plugged into customers and their communities in intimate ways that reach beyond the homeowners’ and auto insurance markets.

There were also likely pride issues as well. Benmosche is well known in the press for butting heads with regulators. (He made outspoken comments about Andrew Cuomo when Cuomo was New York attorney general; AIG also recently considered joining a shareholder lawsuit against the federal government, but rejected that idea in the face of public anger.) But in 2009, Benmosche rejected on principle, says Roth, the idea of damaging good companies by offloading them at fire-sale prices.

That concept was also disparaged at the time by AIG’s largest non-government shareholder, Hank Greenberg. Still outraged about being deposed in 2005 by New York State Attorney General Eliot Spitzer and then watching successors let one business unit destroy an empire he had spent a lifetime creating, Greenberg was apoplectic at the prospect of the federal government selling highly profitable businesses for a song. Furthermore, he knew better than anyone that there simply were no quality buyers for AIG’s businesses. Credit for acquisition finance in early 2009 was non-existent.

For whatever reason, most of this seemed to escape AIG’s interim CEO, Ed Liddy, a former All-State CEO who had been brought in at the height of the crisis by Treasury Secretary Hank Paulson, when AIG was faced with insolvency because of its credit instrument losses. “He was brought in by the Fed to essentially … sell everything that you can,” says Roth. “And so he hung a for sale sign around lots of things. In retrospect, to be polite, that was the last thing you should have done.

“Bob came in and said, ‘This is nuts,’ and took it off the market.”

He says that his bosses, Benmosche and Jay Wintrob, head of AIG Life and Retirement, are true believers in the advice business. “They have continued to fund us through the difficult times, through ’08 and ’09. Our operating budgets were not reduced a nickel. Our technology budgets were all increased.”

Three (Going On Four) Cultures
If the idea was to hold on and keep the Advisor Group going as a strong national concern, however, then the strategy might seem all the more confusing when Roth says definitively that his Advisor Group is not a brand. This at a time when competitors like Raymond James and LPL are working hard to make people think otherwise.

The Advisor Group, after all, is not one company but three (four if you count the new kid Woodbury). None of them want the albatross of a national company on their necks, and it’s part of Roth’s job to make sure they don’t have one. His job, he says, is to give them the technological breadth and deep pockets of a large national concern while letting them cultivate their own identities. The strategy demonstrates again the peculiar nature of the business—one where consolidation and huge resources are increasingly necessary, but where the reps prefer a cottage industry feel, just like their customers.

Jerry Murphy, CEO at FSC, says, “As far as FSC is concerned, I would characterize it as that small-firm feel. Southern or Midwestern, but it has that sort of attitude toward it.”

SagePoint’s CEO, Jeffrey Auld, says his reps largely don’t even want the company name on their door. (SagePoint, the only B-D that did have the AIG name on the door in its previous incarnation, suffered the misfortune of losing more reps than the other subsidiaries, about 800.)

The culture has been so strong at Royal Alliance that any hint of dilution was taken personally by a few large advisories that became very public defectors. Some left the firm, scoffing in the press at the “bigger is better” mentality.

Arthur Tambaro, Royal Alliance’s chief, responds to two of the biggest defectors this way:  “In one instance, the most recent instance, the advisor felt that combining the three firms at one conference was in effect lessening the culture of Royal Alliance. “Well, the conference was an extraordinary success and hence one could suggest that that advisor may have been wrong. [Another] instance was a personality fit. But in both instances, both advisors said they love Royal Alliance.”

Much has been made of the Advisor Group’s bounce-back from limbo since then and its aggressive recruitment (and in some cases its attempt to woo back advisors who left in the first place from renegade branches. In one reported lawsuit against FSC, a former branch manager who had tried to buy the company from AIG claimed in the suit that the company was retaliating by trying to reclaim some of those who left with him.)

But the “back from the dead” stories weren’t enough. The Advisor Group has made a more demonstrative gesture by purchasing Woodbury (a deal finalized in December). Woodbury not only brings over 1,600 new reps, but will help the firm maintain the strength of its per-advisor gross dealer concessions. Woodbury itself had already been aggressively recruiting—it brought in 200 reps in 2011 with average gross dealer concessions of $225,000. The Advisor Group’s average GDC per rep is now in the $175,000 area.

Roth says that Woodbury brings in a host of advisors who understand the insurance side of the business and have platform capabilities that the Advisor Group was still struggling with. The Hartford sold the business at the same time it got out of annuities, after the tough market forced insurers to play to their strengths.

If so, again it begs the question, why is the broker-dealer business too anemic for the Hartford, but nutrient-rich for the once-beleaguered AIG? Will future AIG CEOs possess the same deep-rooted belief in the business that Benmosche obviously does?

Roth says that on paper by itself, the Advisor Group looks small from a margin standpoint. But next to AIG’s other products, its annuities businesses and financial products, it’s a great pipeline whose value is worth more than the sum of its profits, even if most reps recoil at the notion that they are a distribution channel for the parent. And he says his firm is in better stead to negotiate revenue sharing with its many vendors.

“Quality is the most important aspect of this business,” Roth says, “and we all measure things like advisor satisfaction as measured by retention, productivity of the advisor, recruiting—all the things that you’d expect. We measure the sale of our strategic partner products, we measure the sale of our sister company products. So they do see that we sold X number of hundreds of millions of dollars of stuff.”

“We’re part of AIG Life and Retirement, which is about $250 billion, maybe $260 billion in assets. We’re bigger than 99% of the B-Ds, but we only have about $250 million in equity. So I can provide a great ROE on my little bit of dough and we can sell—it may be 5%, but it’s still maybe five, six or seven hundred million dollars worth of product—and it makes sense. It’s high quality, low risk and there’s not a lot of capital invested.”

The size is important, because the broker-dealer industry has otherwise become so hazardous that many insurance companies, not just Hartford but also ING, have gotten out or, like MetLife, are examining options for their B-Ds after seeing that the low interest rates and rising technology costs are going to be more painful than they realized—and for more than just a couple of quarters. Auld and Roth say the loss for others is the Advisor Group’s gain, since the industry pressure has unloosed a migratory horde of high producers into the market, people who have the clients and smarts and just need a place to set up camp.

Auld lists the problems facing small B-Ds: “There are demands for technology from a variety of sources; the expectations from our regulators are increasing, which takes more technology; the expectations from our financial advisors [who] are expecting more technology; and [advisors] are also getting more expensive,” he says. “So to me, I think a lot of small broker-dealers are realizing they’re not making money today on the capital they have in the business. And if they grow, if they were to grow, it would require additional capital,which is hard to justify if you’re not making money on the existing capital.”

Being in the broker-dealer business ultimately means competing with companies like Raymond James and LPL, which are already ahead in the most important areas: consolidation, the integration of legacy companies, branding and technology building.

LPL is a great company, says Roth, but he’s not going after those kinds of numbers. “Some of our biggest competitors are one size fits all,” Roth says. “And if you’re a number or you don’t write your business the way they would like you to write your business, a lot of advisors like that are moving.”

So how much does the mother ship interfere? The word from AIG, says Roth, is: “Grow a quality business, don’t embarrass us [with regulators], provide a reasonable product, sell our products where appropriate and we’ll see you at the next meeting.”