This is an excerpt from the executive summary of the 2014 InvestmentNews Financial Performance Study of Advisory Firms. To preorder the full study (available in September), click here.
The independent advisory industry is in a golden age, growing at a rapid rate and achieving unprecedented levels of profitability and return on equity for its owners. Success has found firms of all sizes and benefited business owners across all types of organizations. However, firms need to use these prosperous times to prepare for future challenges. Competition is intensifying and new, large and ambitious competitors are emerging among the rank of independent firms.
The industry has been evolving steadily for the last 15 years. Now this growth is escalating quickly. Firms with $5 billion in assets under management (AUM) are not rare, and some competitors are reaching well beyond $20 billion. New clients are no longer just coming from the ranks of the self-directed and brokerage houses, but also from other independent firms. The ambition to acquire and merge is no longer left to chance and opportunity, but is part of a well-thought-out strategy.
The (formerly Moss Adams) InvestmentNews Study of Advisory Firms is the longest-standing survey of financial performance in our industry, and has been used over the years as the standard for benchmarking the results of individual firms. In the 2014 edition of the survey, 300 firms submitted their full income statements and answered a variety of questions about their strategies and business decisions, allowing us to glean insight into the best practices of the industry.
Times of Growth and Prosperity
The last five years have seen unprecedented growth in the advisory industry. From 2009 to 2013, advisory firms have grown by an average of 20% per year. While each year's number comes from a different sample of firms, if we assume the growth is representative for the industry as a whole, then the typical advisory firm today is twice as large in terms of AUM as it was at the end of the financial crisis in 2009. This blistering pace of development has not only changed the firms quantitatively, but also qualitatively—they are more complex and more sophisticated organizations today than they were in 2009.
As you can see in the chart above, growth has also been very rewarding for the owners. The typical income for an owner-adviser in our industry was $465,000 in 2013, nearly equal to 2012 and up 41% since 2009. This puts advisers among the highest compensated professionals in the U.S. and demonstrates the high level of success of the advice profession. However, this also clearly demonstrates the law of diminishing returns: note how doubling in size only increased income by 25%. The gains in growth and income, however, were not distributed equally across the industry.
New Type of Firm
Rapid growth has created a new kind of advisory firm—a large, sophisticated, aggressive, multi-office enterprise with a clear strategy for even more growth. We first started using the term “super ensemble” in an article in 2010 to describe the largest firms in the industry. At the time, the term referred to those firms with at least $1 billion in AUM. Today, we classify super ensembles in our survey as those firms with at least $10 million in revenue. The average size of the super ensembles in the survey was $17 million in revenue and rapidly growing. In fact, they are among the fastest growing firms in the industry, and voracious acquirers.
Behind the super ensembles is a group of firms between $5 million and $10 million in revenue that we refer to as “Group B.” This is a group of highly successful firms who will be the future billion-dollar firms, and many will compete with and perhaps become super ensembles themselves.
That is not to say that solo firms or smaller ensemble firms have been unsuccessful. They continue to grow rapidly and achieve high levels of owner income and growth.
On average, the typical super ensemble had $1.45 million in owner income compared to $640,000 for Group B firms, $430,000 for ensembles and $305,000 for solo firms. The fastest-growing firms were Super Ensemble firms with 18.6% growth, followed by Group B firms with 17.5% growth and Ensembles with 17.1% growth. Small firms grew the slowest with an average growth rate of 15.4%. As shown, larger firms enjoy a high level of profitability and income. However, being large is not in itself a guarantee of success. In fact, we find top firms in every category of size.
The industry is very successful but also increasingly consolidated and competitive. To succeed, firms need not only to consider their competitive environment today, but also position themselves for the future of the industry. The question to business owners is: Can you make such prosperity sustainable?
Philip Palaveev is the owner and chief executive of The Ensemble Practice LLC, a business management consulting firm that defines the evolution of growing a multiprofessional advisory practice. Brandon Odell is director of business consulting with The Ensemble Practice LLC. The Ensemble Practice is a strategic partner to InvestmentNews Research and the 2014 InvestmentNews Financial Performance Study of Advisory Firms. This study was developed in partnership with the Ensemble Practice. Click here to preorder the study, or visit here to register for our Best Practices Awards and Workshop Event.