Succession planning: Why your solution could be in the next cubicle

The soft market for advisory businesses is revealing an old verity: A founder’s best successor is often a junior adviser who has been elevated to partner.

“For the past couple of years, advisers were on the sidelines in terms of partnerships because of the economy, but we’re seeing [that] they are more engaged in these partnership conversations with staff members,” said Mike Watson, director of practice management at TD Ameritrade Inc. “This is a huge topic we’re seeing for advisers all across the board.”

A study from TD Ameritrade released in June showed that 49% of advisers who have begun to think of a succession plan for their firm are considering partnerships within their staffs.

In the current environment, this strategy provides a way for advisers to maximize the value of their practice by working out an arrangement with an employee rather than settling for a lower price on the open market. It also sets up a long-term plan that allows employees to buy into the firm, which tends to bolster employee retention and boost company morale.

If done correctly, grooming an employee to be a partner and perhaps eventually an owner can work well, said Matt Matrisian, director of practice management at Genworth Financial Wealth Management Inc.

“If expectations are managed on the front end and the junior person knows what they’re getting into, they can be overwhelmingly successful,” he said.

But because internal transitions can be fraught with problems — often due to miscommunication among the parties and unclear expectations — internal partnerships work out only about 30% of the time, Mr. Matrisian estimated.

“Communicating with someone that they’re the heir apparent or a potential partner can be very powerful,” said David DeVoe, managing director of The Charles Schwab Corp.’s adviser services unit. “But you want to make sure expectations that you’re setting are clear down the road.”

Miscommunication commonly happens when selling stock to employees, Mr. DeVoe said. It’s common for an adviser to allow an employee to buy ownership shares at a discounted rate. However, the discount may be a one-time offer by the adviser, while employees are expecting to get discounts each time they buy in.

Another common example of miscommunication surrounds the timing of retirement. Employees may assume that the adviser intends to retire in five years, while the adviser’s timeline is 10 years or more, according to Mr. Watson.

Bob Rutkowski, president of Rutkowski & Associates, hired his son Marc and his son’s friend, Joe Donnellon, 10 years ago and has been training both of them to become partners and successors in the firm.

“It took a lot of time,” Mr. Rutkowski said. “I didn’t have a weekend free for six years, because I needed to mentor them.”

Mr. Rutkowski doesn’t plan to retire for at least five more years. He said that the time will be spent helping clients make the transition.

“I’m going to make sure my clients know who they are and feel comfortable with the team,” he said. “I want my clients to know there is continuity.”

Mark Berg, president of Timothy Financial Counsel Inc., which advises on about $300 million in assets on a fee-for-time basis, has elevated two advisers to partner, though he still owns the majority of the company.

Hoan Taussig, an adviser with the firm since 2007, currently owns less than 1% of the firm’s shares, and adviser Kris Johnson, who started there in 2003, owns about 4%. Mr. Berg, 40, said that he’s not made a decision about an heir apparent for the firm but wants both advisers to be partners with provisions to buy additional ownership each year.

“My hope is that both of them see the future in this business,” he said. “They’ll be able to buy into it over time in a way that’s affordable to them.”

Once an adviser who has been the sole owner of a firm gives up even partial ownership, it means opening his books to the partners and having a shared decision-making process. That can be difficult for some advisers

“We’re all Type A personalities,” said Norm Mindel, a certified financial planner and founding partner of Forum Financial Management LLC, which manages about $530 million in assets and has 11 partners. “Everyone’s very successful in their own right. It requires a lot of group discussions to make a decision.”

Even under the best of circumstances and with extensive communication and mentoring, there’s no guarantee that everything will go according to plan.

“We’ve had others that I thought would be the perfect fit,” said Mr. Berg. “It just didn’t work out.”

E-mail Lisa Shidler at [email protected].