Asset-based pricing is just one way of pricing. It's time to go beyond your comfort zone.
When your business model is designed around collecting a fee pegged to assets under management, the ebbs and flows of the financial markets can be nerve-wracking.
For small advisory firms, which don't have a lot of room to cut overhead when revenues decline, the advice being offered most frequently is to diversify away from asset-based fees.
"Any firm, regardless of size, that is primarily using an AUM-based pricing strategy is susceptible, because when AUM goes down, so does a firm's ability to generate revenue," said Vanessa Oligino, director of business performance solutions at TD Ameritrade Institutional.
Custodians and industry consultants have been trying to steer registered investment advisers away from AUM-based pricing models for years, but it remains the most common fee structure at 90% of firms.
Even while recognizing the challenges posed by presenting clients with new pricing models, Ms. Oligino believes it is imperative to start thinking beyond asset-based pricing.
One strategy she prefers is an annual minimum fee that sets a floor on a firm's revenues.
"We ask advisers to think about what it costs to service the account, and we advise them to have a minimum in place to introduce some protection for your revenues," she said. "You don't want your revenues to drop 10% when the market goes down."
The minimum fee can accompany an asset-based fee structure, Ms. Oligino said.
"The minimum fee should not necessarily be less than the 1% an adviser is already charging," she said. "The minimum fee should be breakeven or higher."
Rick Shoff, managing director at Captrust, also acknowledges the difficulty financial advisers have when it comes to shifting away from asset-based pricing.
"Diversifying fees is hard to do unless you started your business with that construct, and most firms didn't start that way," he said.
In addition to a minimum fee, Mr. Shoff encourages advisers to follow the institutional model by building in a "fee escalator."
"Years ago, the institutional model went to a flat fee, and as assets started to grow, it became clearer the value of an adviser was not directly related to AUM," he said. "A fee escalator can be built in to the flat fee that is based on something pegged to inflation or cost-of-living adjustments. It makes the revenue stream much more durable."
Ms. Oligino said the conversations with clients about changing pricing structures will be less awkward if the emphasis is on everything that is provided beyond just investment management.
"The conversation needs to explain that most RIAs are not just money managers; they help clients meet goals," she said. "When you only charge on AUM, you're minimizing the value of financial advice."
