To raise your valuation, simplify your business

Simplify your business: The more complicated you make it, the less valuable it is.

Last week I met the founder of a midsize financial advisory firm for lunch and we discussed business tactics. At first glance, it seemed as if he had a great business with a large client base and recurring revenue.

But as our conversation went a little deeper, I became a bit concerned about the level of complexity he had created, not only for his firm, but also his clients.

Most of his clients were high-net-worth and mass affluent, yet a majority had investment positions in vehicles that were private placements and partnership structures. He was describing how difficult it had become to manage all the moving parts, from capital calls on private equity and venture capital funds to tracking liquidity dates on nontraded REITs.

Further, none of his clients were in models. He used mostly passive ETFs, but had a smattering of actively managed funds as well.

While talking with him, I asked him if his clients were satisfied with their investment performance. He said that they were fine with the actual performance, but that he’d been receiving quite a few complaints about the amount of paperwork and tracking it took to keep tabs on all the investments.

All of that, and this adviser is at a stage in his career where he is looking for some sort of succession plan — either internal or perhaps a sale to a larger firm.

From my perspective, the degree of complexity did not add any value. In fact, it was pretty apparent that the K-1s, wire notices, etc., were a big headache for most of his clients. Also, I sincerely doubt that his approach yields greater results than simply using a total market index fund for the growth assets.

To make matters worse, the complexity of his business model greatly reduces his odds of a fruitful succession plan for two big reasons. First, his clients have come to expect an investment experience that is quite different from that of other firms. If he were to step away, someone would need to learn his approach and then replicate it precisely to be able to retain an acceptable percentage of clients.

Second, the lack of efficiencies is a major drain on profits. The associated costs, in terms of time and resources, are much higher than the costs for other firms of this size and client structure.

The longer we spoke, the more he began to understand that if he wants to create a firm that can endure, he’ll have to make some changes and simplify his approach to investment management. Otherwise, there’s no way he’s going to be able to realize the maximum value for his firm via either an internal succession plan or through a sale to another organization.

As I’ve often said, if you want to raise your valuation, you need to simplify, while also emphasizing those things that are repeatable, measurable and scalable.

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Scott Hanson is co-founder of Allworth Financial, formerly Hanson McClain Advisors, a fee-based RIA with $8 billion in AUM.