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Merging for the right reasons: Fundamental considerations for RIAs

Many independent RIAs would be able to serve clients better if they combined their resources with like-minded advisers.

Feb 19, 2014 @ 8:50 am

By Michael Nathanson, Robert Glovsky, and Nadine Lee

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Many independent RIAs would be able to serve clients better if they combined their resources with like-minded advisers.

The general service model offered by most independent RIAs is naturally attractive to clients and prospects who comprehend the difference between an independent RIA and other types of financial advisers. In general, independent RIAs, to the extent they are “fee-only” and not brokers or dealers, serve as fiduciaries to their clients and, by law, must place the interests of their clients above their own. In turn, they tend to offer advice that minimizes the conflicts and biases that might exist when the pursuit of profit is allowed to take precedence over the provision of fiduciary-based investment advice.

Independent RIAs are likely to offer customized advice, and highly sophisticated wealth management service that can be offered only under a service model that contemplates a complete understanding of the client's individual circumstances.

While it is now commonplace to state that a financial services organization provides “comprehensive wealth management services” to clients, independent RIAs are well-positioned to provide such services because of their ability to customize their services.

Yet, despite the favorable service model offered by independent RIAs, they are subject to certain disadvantages that must not be overlooked. The independent advisory industry is highly fragmented by any standard. Even the largest independent RIAs typically have fewer than 100 employees, manage less than $1 billion, and have less than $10 million in revenue. As participants in a fragmented industry, independent RIAs often lack the size, depth, and scale that could make them truly great organizations, designed to thrive through generational shifts that will occur among their clients and personnel.

As a result of their fragmentation, the majority of independent RIAs are not run as efficiently or effectively as they could be. It is not at all uncommon for a principal at an independent RIA to serve as an adviser, a portfolio manager, a research analyst, a compliance officer, an operations manager, a business development specialist and, on top of all of that, a management professional. Only the largest of the independent advisory community are able to achieve the type of labor specialization that allows for the efficiency and effectiveness offered by a well-run business.

Most independent RIAs operate more like practices or collections of practices than actual businesses.

These inefficiencies almost invariably lead to a lack of resources necessary to optimize client services. One solution is for independent advisers to combine with other like-minded advisers through mergers or similar transactions to achieve the depth and breadth of expertise, experience and resources necessary to serve clients most effectively.

To be clear, mergers are not always successful and must be pursued with a great deal of care. Perhaps most importantly, they should never be pursued primarily for money, and they should be pursued only when there is a sharing of common values. Buyers and sellers should pursue mergers primarily from a joint desire to serve their clients better by solving for the problems of fragmentation, inefficiency, resource utilization and succession. The strength of the independent adviser community lies in its collective quest to serve clients better, and advisers should be bound by this same collective quest in pursuing everything they do.

A merger can be utilized to acquire new talent and to refocus existing personnel on more specific functions in which they can be most effective. Simply by expanding the size of the company, a merger can create a clearer career path for key employees who seek higher levels of professional success and fulfillment.

A merger also should facilitate synergies between the merger partners. These synergies should lead to increased cash flow, which, in turn, can be invested into improved technology, research, and systems. Increased profitability also is essential to attracting and retaining the best talent available.

A merger can also address a firm's succession issues. First, a merger can facilitate the reduction of interests held by larger owners, particularly when cash is utilized as part of the consideration. A merger also can expand the distribution of ownership interests and, in some cases, the redistribution of ownership to the next generation of leaders and key employees. Equally importantly, a merger can ensure that there is a second generation of advisers readily available to transition into the role of trusted adviser when the prior generation is ready to retire.

Given the confluence of passion among RIAs for outstanding client service and the need for RIAs to address some of the issues they face as a result of industry fragmentation, consolidation among RIAs is likely to continue — and at an increasingly accelerated pace. Yet those RIAs that ultimately seek out a path leading to a merger must remember why they are on such a path and merge only for the right reasons.

Michael Nathanson, Robert Glovsky, and Nadine Lee are principals and officers of The Colony Group, a registered investment adviser. Mr. Glovsky was president of Mintz Levin Financial Advisors and Ms. Lee was president of Prosper Advisors, both of which merged with The Colony Group.

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