Developing a sophisticated wealth management approach

Nick Hilton takes a look at recent changes within the wealth advisory industry and examines the evolution of the corporate model in this space.

While there have been a number of different views of what constitutes a corporate business, recent industry changes are likely to drive an increase in the scale and sophistication of what constitutes a successful wealth advisory business.

These industry changes, which stem from a number of government enquiries, are likely to reduce revenue and increase the cost of running a wealth advisory business, therefore leading to a reduction in business profitability.

This reduction in profitability will lead to lower business values as the industry moves from valuations based on multiples of recurrent revenue to profitability based approaches to valuation.

Additionally, uncertainty regarding how these changes will be implemented, and more importantly the extent to which the business models will need to change may further impact business values.

Although these changes represent the most significant industry impact since the introduction of the Financial Services Reform Act in 2001, they also present an excellent opportunity for entrepreneurial participants within the industry to capitalise on the changes.

Businesses that are able to drive business growth to increase scale and improve efficiency are likely to survive and prosper.

While organic growth opportunities will be significant for those who are able to deliver appropriate services at a competitive price, acquisitions will continue to present an opportunity to grow more rapidly.

With the absence of volume related payments, these acquisitions will be more about achieving traditional strategic benefits such as growing advisory income, diversifying income sources and cost savings, rather than trying to achieve a better negotiating position to move margin.

We are already seeing participants within the wealth management industry looking to diversify their business activities into other services such as accounting and mortgage broking.

In addition to adding scale, this diversification is likely to have a number of impacts on the value of businesses, should it be implemented correctly.

Firstly, they should experience an increase in profitability as the cost of acquiring clients reduces via cross-selling new services to existing clients.

Secondly, the other business activities will provide diversification of business income, which will limit the impact, drops in equity markets have on business performance.

Finally, providing a range of services will better meet the needs of more sophisticated clients expecting a range of services from one provider.

We are also seeing buyers become more sophisticated when they are looking at potential acquisition opportunities.

That is, they want to enter into more formal due diligence processes where they can gain access to high quality information and go through more structured approaches to verify that information.

Therefore to achieve a successful outcome, potential sellers of financial planning businesses will need to be able to readily supply information that will be subject to a heightened level of scrutiny.

Efficiency within wealth management business will be driven by a continuing requirement to reduce the cost of the advice to the client and stay competitive with the market.

While there are many ways businesses will achieve efficiency, including via economies of scale mentioned above, other approaches would become equally important.

Firstly, businesses will be more conscious of the manner in which they remunerate their staff and look to increase the variability of the employment costs via implementing performance based incentives.

Secondly, businesses may look to IT solutions to reduce the cost of delivering services to clients.

Finally, businesses may look to outsource functions to specialist services providers, which have achieved scale to deliver efficient services in their own right.

While the industry changes will lead to a need to diversify business activities and create scale, these factors will also increase the complexity of the businesses operating environment.

To deal with the additional complexity, businesses will need to develop more sophisticated operations.

These may include; more sophisticated governance structures, including external representation on boards; more sophisticated decision making structures, including greater levels of autonomy provided to professional managers; and the need for more sophisticated financial management techniques, including greater awareness of future financial performance and scenario testing the impact of industry changes.

Implementing these changes and managing larger businesses may be a significant challenge for some business owners.

However, institutions with scale will continue to provide much needed support and help businesses implement appropriate arrangements to effectively deal with these changes.

Nick Hilton is national manager of the MLC Adviser Business Centre.