Executive Summary
A recent McKinsey report surveying growth in the wealth management industry predicted that the struggles of small RIA firms would increase as larger firms continue to grow and overshadow the industry... again. Although the messaging that smaller RIAs must scale to survive has been offered many times before over the past few decades, many smaller lifestyle firms and solo RIA practices have thrived in their preference to stay small. Yet, despite that many smaller firms have enjoyed success, scaling the business remain to be challenging prospects for those aiming to grow.
In our 120th episode of Kitces & Carl, Michael Kitces and client communication expert Carl Richards discuss the challenges that small to mid-size RIAs face when trying to scale and grow and how the pressures of competing with larger firms can affect those endeavors.
Even when smaller RIAs didn’t have access to many of the resources that help advisory firms operate and grow decades ago, they were still successful because many of them learned how to leverage their relevance by intimately and impactfully understanding and addressing their clients' unique financial challenges. And for many firms, this specificity and relevance has been amplified by homing in on a particular client niche, allowing them to focus on very specific types of problems that their clients face. Yet, while cultivating impactful relationships with clients has always been a powerful means of maintaining a firm's relevance and success, many business owners are challenged with growing their firm, even with the boon of abundant technology and platform solutions available today that make it easier than ever before for small firms and solo advisors to be successful.
As while a business grows, there are more employees, clients, and operational logistics that come with growth that the firm must manage. And as these elements of growing a firm increase, problems also increase, and more solutions are inevitably needed to solve for those problems. Some firm owners believe the solution to address these problems is to add resources and grow further until they reach some attainable point they imagine where all their problems will become manageable and their growth can be capped, allowing them finally to maintain their firm at a comfortable equilibrium level. The reality is, though, that as a firm continues to grow, new problems will always arise and it is very rare for a firm to address with growth, to the extent that at some point they no longer need to grow! Which suggests that identifying a firm's expectations for success is what's most critical, as a firm who wants to stay small needs to define what success means to them in terms other than growth – whether that means they earn more revenue per client, develop a more focused niche, or enjoy a shorter workweek.
Ultimately, the key point is that despite surveys that may foreshadow the demise of the small lifestyle practice, small (and mid-size) RIAs are not going away anytime soon. Small firms who want to stay small can increase their success by finding more impactful and/or efficient ways to remain relevant to their clientele and provide meaningful financial planning services. And smaller firms who truly want to grow have more options than ever before that will help them succeed – from choosing the right platform, merging their business, or acquiring other businesses to help them grow and scale more efficiently and effectively. In the end, understanding which path to success a firm owner wants to pursue can help them decide whether scaling for growth is really the solution that will give them the best options for solving the issues they face today, or whether they need to remove themselves from the constant cycle of growth objectives and identify the real objectives that represent a successful future for the firm!
Authors:
***Editor's Note: Can't get enough of Kitces & Carl? Neither can we, which is why we've released it as a podcast as well! Check it out on all the usual podcast platforms, including Apple Podcasts (iTunes), Spotify, and Stitcher.
Show Notes
Kitces & Carl Podcast Transcript
Carl: Well, Michael Kitces. How are you?
Michael: I'm doing well, Carl. Fancy meeting you here at our pre-recorded...
Carl: It's crazy. I just came into this little Zoom meeting and...
Michael: pre-scheduled recording time.
Carl: ...boom. Wow.
Michael: I was just walking down the Zoom hallway and I glanced in this Zoom room and you were just sitting here. So, I was, "Hey, let's hop in and record a session together."
Carl: For sure. And guess what?
Michael: What?
Is The Demise Of The Small To Mid-Sized RIA Really On The Horizon? [00:36]
Carl: Every couple of years it happens. You know the old study somebody has to do, somebody big like McKinsey has to run out and do some study. Guess what they're saying? You're never going to guess.
Michael: Oh, is this our... It's now finally the demise of small advisors.
Carl: Yeah, that's it. Small firms, especially solo lifestyle, cute little lifestyle firms, anything like that. Even a small team...
Michael: You must have scale to survive.
Carl: Yeah, it's over. It's so sad because I thought it was just getting good, but it's sad that it's over. I don't know what everybody's going to do. It's so sad. But you know what I was thinking? This seems strangely familiar, this idea that it's over.
Michael: Yeah. Well, to me, the irony, it's over from something that was never supposed to begin. Really, the thesis is small RIA... RIAs have grown so much that the channel can't possibly survive against large firms, having evolved over the past 20 years by taking business from the largest firms known as wirehouses and winning business away from them every year for 25 straight years. But now after 25 years of growth, it's impossible for RIAs to compete against larger firms when that was literally their genesis in the first place. It's such a bizarre statement to make. When wirehouses owned the marketplace and an RIA was $18 million and an assistant, RIAs grew from that 20, 30 years ago to be the behemoths they are today.
And IBDs have also grown in that environment. Yet, the mantra is only the biggest, with the largest scale, can possibly survive. Wirehouses and megabanks are the future. They've lost the future for 25 straight years, but now they're the future. It's so bizarre to me that this comes up every couple of years, but it does. McKinsey was the latest, but I feel like there's some study like this every couple of years that makes this prediction. And a lot of advisors get really anxious of, like if they are a small to mid-size firm saying, "Can I survive? Is this really my future is doomed because the consultants say that it's doomed?" And I don't know, to me, it's frustrating to see that and then look at the landscape. I'm like, "If it was so impossible for small RIAs to compete against big firms, we shouldn't be here today. We should have died 25 years ago."
Carl: Yeah, I totally remember when I left and started my own RIA firm. We didn't even know what we were doing. Do you know what I mean? Nobody even knew that it was even... Can you drop your 7? That's not legal. Or do you have to or do you not? How do you do this compliance thing? Where do you get...? Where is the money kept? The idea of a custodian. And now there's this...
Michael: How do you bill if they don't just send you the commission statements. Like just deposit…
Carl: Or a check.
Michael: How do you get the money from the client's account? Because you've never done that before if you grew up in a brokerage commission world.
Carl: For sure. Yeah, I've heard this every year. Not necessarily from a big study or a big consulting, or somebody in the industry will say, "You're never going to survive." I don't understand it. So, that's actually kind of my question is, what are they pointing to? What are they missing? What are they getting wrong? Why is this thing happening every year, the same prediction?
Michael: So, my gut is that this kind of comes from a confluence of a couple of different factors. The first is, look, at the end of the day, if you want to come down to reports like McKinsey, you have to bear in mind who their audience is. It's not the average advisor in the first place. It's executives at major firms who are trying to compete against other major firms and figure out how to position their major firm that's already huge and has to keep growing to survive and keep moving forward against all the other major firms that are doing the same thing. For which I actually would make the case, yes, after the first, I don't know, few hundred billion dollars, there is kind of a growth and scale imperative. You are sort of too big to be small and nimble and lean, you got some mass and size and a much bigger ship that's much harder to maneuver. And so, to say to a mega-firm, "You might have to be a little more mega," I get it. And I get strategically why you'd pursue those kinds of avenues as a mega-firm.
So, to me, the first thing to recognize is, this is probably a report for firms that have billions of revenue, not billions of AUM, billions of revenue. So, hundreds of billions of AUM and UP. That's the target audience in the first place, which is just not most of us as individual advisors out of the gate. They're not talking to us and our strategy. They're talking to mega-firms that want to be more mega about how to be more mega. And, in general, there is sort of a standard playbook. Mega firms get more mega by growing, and scaling, and consolidating through mergers and acquisitions, because when you're that large, it's really hard to grow organically at any material growth rate, and just it's a different audience. And so, those big firms continue to compete against other big firms and hire consultants to do big firm consulting. And that formula tends to hold the test of time for how mega firms grow. So, every now and then it comes out, and then it seeps out to the rest of us who kind of point and scratch our heads and say, "But that can't really be true of my world as an individual advisor." And the answer is, yeah, you're right. It's not, I think, really true of our world as individual advisors.
How Scaling Doesn’t Always Solve Growth Issues [07:07]
Carl: So, interesting. Let's go down a notch from mega, mega, mega firms. But why do you feel like there's this tendency for us to start believing that if we don't get bigger, we won't survive?
Michael: So, I think when you get out of the mega firms, and part of the reason why I do think this resonates for a lot of firms, at least I'll say are the mid-sized range, which, and our industry will call that north of $100 or $200 million up to a billion or $2 billion. If you're in that middle range, you probably have between 10 and 50 team members. I do think there's a challenge for firms, a very real challenge when firms get to that size where you really are at an in-between stage. You're too big to stay small. You've got multiple advisors. There's a lot of mouths to feed. You've hired some people with this career track thing that they told you you're supposed to make, and now apparently you have to keep growing because, otherwise, the career track ain't going to manifest. The career track ain't going to manifest, then the people leave, if the people leave, the clients leave, if the clients leave, the revenue leaves, if the revenue leaves, then we all get eaten by tigers and it's doomed and over. And so, it's "Oh, my gosh, I guess I have to keep running on this treadmill."
And there is, I think, a reality for businesses when they're in the growth stage that just resources feel scarce. There's this mentality, if I was just a little bit bigger, I could hire a couple more people to do these things that are sort of overwhelming me right now because I just don't have enough resources to hire. So, if I was just a little bit bigger and a little bit more scale, I could hire a person to do that thing and that thing over there, and then it would be okay. Except in practice, it's not okay because you get a little bit bigger, and then more money, more employees, more problems, and new things crop up. It's, "Well, we solved that problem, but now we got to deal with this one," and it doesn't seem to end. Right? "We got to get operations sorted out. Well, we hired an operations manager. Okay, we sorted that out, but now our trading isn't systematized." So, we hire someone to do trading. It's like, "Well, okay, but now we have a lot more overhead, so we need to grow a little more. So, we add some few more advisors. Now, we added advisors. We need career tracks." So, then we go and build the career tracks. "Well, now I got career tracks, but I don't have enough clients coming in to serve them. So, now we got to do some sales and marketing training and, well, that doesn't work as well as we hoped, so we're going to centralize the marketing. So, now I got to hire some marketing people to do that. Well, that's working. But now operations are having a problem again because we're adding more clients, and they don't have enough capacity for that. So, we're going to go solve the operations problem."
It's the nature of business that, as businesses grow, just new problems crop up, new things emerge that you have to deal with that you didn't have when you were smaller, that you have to deal with now when you're bigger. That's business. That's how business works when you grow. But I feel like there's this mentality in our advisor world. I know part of it might just be our...we like to plan, we like to goal set, "I painted the picture, what the future looks like, and I'm going to march over there and get to that future." And then you get to that future and it's, "Well, crap, the goalposts moved on me. I didn't move the goalposts. The business reset its own goalposts because now it has new needs when I get there." And I feel like we can quickly feel like we're getting stuck on this treadmill where I keep getting a little bit bigger, and then when I get there, I find out I still don't have enough and I need to get a little bit bigger. And when I get there, I find out I still don't have enough because another new problem crops up and I keep feeling I need to get a little bit bigger. And if you live that pain long enough, then when someone comes out and says, "Well, apparently you just need to acquire 47 firms and merge into a bajillion-dollar enterprise and then finally you'll have everything you need," it resonates. It does kind of hit a nerve for a lot of firms that have been on that growth treadmill for a long time and still don't feel like they're there because they just keep walking but they're not really closer to being "there" in quotes, like there, done. "It's finally where I need it to be. I can chill out."
But I don't think that's a scale problem, or M&A problem, or anything else. It's an expectations problem. Imagining that if I just build my business to a certain point, everything will be easy and there won't be problems anymore. I'm sorry, that's just not a realistic expectation, at least once you put other people on the bus. If you want to be a solo and just build the practice, the exact number of clients you want to serve, that gives you the income you want to serve. And the only person you answer to is the one you see in the mirror, you can get there. You get to the point that says, "I've got enough for me and it's running the way I want," and you can chill out. But once you put other human beings into the equation, employees that have their own goals, and their own aspirations, and their own objectives, their own career tracks, and their own families, and you take on that responsibility as a business owner, the treadmill doesn't turn off. The scenery changes, but the treadmill never turns off.
Carl: Nice. Well played.
Michael: I'm trying. I'm pushing the metaphor a little hard here.
How Adding Employees Can Trigger The Growth Treadmill [12:41]
Carl: No, it was good. I'm not qualified to talk about any of that stuff, but everything you're saying resonates. And what I want to spend just a little bit of time on is just painting the picture of the beautiful small solo, whether it's solo or solo and one person helping, whatever. But the reason I think there is no concern in my head...now, I may be wrong about this, by the way, but the reason I see no concern is the ability to be deeply relevant in a small group of people's lives, right? And I just can't even imagine, there is no competition for you're serving 25 to 125 people who you know intimately and preferably, hopefully, you know the answers to their unique financial challenges. Preferably, you've got a niche that allows you to specifically… Don't… I can see you wanting to say niche, but I'm just going to tell you not to. Preferably...
Right. I can't even describe the impact. Many of the solo... I'm not getting choked up. That was just something that... This is a subject I can get choked up on, right? But I can't even describe the impact that many of the solo lifestyle small niche firms I know have made in their client's lives. I remember one of my clients saying to me that they got cold called from somebody at a big firm and he said, "I was stumped as to even how to describe the difference of what they were talking..." You're not even in the same world. You know what I mean? Do you need to buy that...? We got this muni bond that yields 6.2%, or whatever it was back in the day. And my client was, "You don't even..."
Michael: Well, I would take that phone call right now.
Carl: Yeah, exactly. But you don't even know what you're talking about. And so, the impact on the small...and I believe the reason for that impact is relevance. I think when you're deeply relevant in somebody's life and you understand their...I'm going to use the word problem, I mean it in the classical sense. You understand their problems as much, if not more than they even do, you're so impactful. I don't think that's going away anytime soon. I don't even know how you put a value on it. And so that's, to me, the flip side of this. I think we're speaking different languages when those reports come out, you know what I mean? We're talking about different things.
Michael: The other thing to me that's striking about just the environment including... So, again, if the reality was tiny firms that don't have scale can't compete against the mega firms of today, it should have only been worse 20-something years ago.
Carl: For sure.
Michael: If you go back to the late '90s, early 2000s... Truly, a big RIA was $18 million under management and an assistant, wirehouses were trillions of dollars. They were the dominators in the marketplace. They had the plurality of the market share. And even the conversation from a tech and resources end, being an independent advisor was a technology wilderness. There was nothing out there. All the tools and platforms that we have today didn't exist yet. Many of them actually were built in the late '90s by early RIA entrepreneurs who so couldn't find any technology, they just made their own solution and then they started selling it to their friends because their friends were, "Oh my gosh, I need that, and I can't find anything either." That's where Redtail came from, Junxure came from Orion, Tamarac were all homegrown solutions built by RIAs, who literally had no technology. And we're, "Screw it, I'm going to make my own," and then sold it to their peers while the wirehouses were, "Yeah, we just built an entire new technology platform and amortized it across our 10,000 advisors with our multibillion-dollar technology." You can't even imagine a billion dollars under management when you got $18 million under management. They're, "We spent a billion dollars on tech."
Now I look today, right, wirehouses are still...the big players have 10,000-15,000 advisors each. Leading tech vendors have more than 50,000 advisors. And so, independent tech vendors have more advisors and more scale than not just the largest of the wirehouses, but all of them put together. eMoney, I think, has more than twice as many advisors than all the wirehouses. And that's just eMoney. And so, in that environment... I think the thing that continues to get missed in this whole, "Do you need scale to survive?" is, most of what comes from scale is the ability to build technology and platforms. And the reality is the independent technology providers today are the most scaled companies in the space. They're more scaled than any of the platforms. They're more scaled than any of the firms. They're building tech for all of these firms in the aggregate, and just literally, from a pure scale end, eMoney and Fidelity gets to amortize the cost of developing eMoney across 100,000 advisors. A wirehouse only gets to amortize the cost across 10,000 advisors.
Yes, as an individual advisory firm, if you're trying to build your own software for 12 advisors, it's kind of not cost-effective and very challenging. But you don't have to anymore. You did 20 years ago, but you don't have to today. The ecosystem of technology and increasingly now service providers and platforms of all the various types and flavors, to me, means I look at it today, I've never seen a better environment for solo RIAs and small firms than today. It's so, so much better solutions available than it was 20 years ago. But to me, the irony is we've been so successful. We've been so successful that many of us have grown out of the solo practice stage. We're in the multi-employee building a-business stage. And I think the toll that's taking is not, I don't have the scale to build my technology and implement the things that I need to implement, it's growing this business with all these people feels like a freaking treadmill where I keep trying to get a little bit bigger to do what I need to do, and then when I get there, it doesn't work because some other problem crops up. I guess I need to be a little bit bigger. And to me, that's just a failure to recognize that, once you grow to multiple employees, especially once you grow to multiple advisors, you're not walking a path to an endpoint. You're on a treadmill that doesn't stop. So, either you learn to enjoy the journey or you can step off. And there's plenty of firms that I'm sure will acquire you if you're in that mid-stage and you don't like it there because the big firms are growing with mergers and acquisitions. But it's not a scale problem to me. It’s a this is just how growing a business works.
Carl: Yeah. Look, it turns out growing a business is hard in any...
Michael: Really hard, painful.
How Technology, Platforms, And Remaining Relevant Keep RIAs Competitive [20:41]
Carl: ...in any business. Yeah, that makes sense to me. And I do, I agree. You were thinking tech, I was also thinking from a messaging and marketing perspective, so much easier than it was, so many more ways to reach people. Now, that does mean it's noisier, but that just highlights to me the need to be relevant. If I'm really, really clearly relevant, I know exactly who I serve, who it's for, and what it does. If I know those 2 things really clearly, I can talk to so many more people so fast. When I didn't have the internet and somebody would ask me to fax something to them and I didn't know how to work the fax machine either, it was a lot harder.
Michael: Yeah, the era of fax machines and cold calling and cold knocking, A, was not better, but B, small firms won in that environment and took market share from mega firms. And that's been the dominant trend for more than 20 years now is independent broker dealers and small RIAs, which were supposed to basically not exist, winning market share every single year and building more and better resources and more and better ecosystems for them every single year because the bigger that space gets, the more solution providers there are for them. Which is why our advisor, TechMap, exploded with logos over the past 5 years. All the growth is just begetting more solutions. But back then, we were all solos because we were mostly commission based. You don't build a big team when you're mostly commission based. You have an administrative assistant to help do the applications and the paperwork and then you go out and sell more stuff because every January 1st you wake up with no income until you go and earn new commissions for the year. So, to me, just that the shift really that happened is not it's harder to build a small independent practice today. Truly, to me, there has never been a better time to build a solo practice or even just a small to mid-sized firm. The platform, and the resources, and the technology are truly better in this environment than they ever were. And we've been growing for the past 20-something years to get to here. So, it can only be better from here with more solutions and more resources. But we used to run practices and now more of us are actually trying to scale businesses and just, that stuff's hard. It's painful, it kicks your backside on a regular basis. That's part of what comes with the territory. So, I didn't mean for this to be a hard medicine kind of theme, I feel like that's where...
Carl: The message I'm taking from it is…
Michael: ...where I came out on this, but we have better resources than ever and more capabilities for scale. But that doesn't mean it's going to be easy or that you'll just finally be there once you get a little bigger. That's not how business building works.
Carl: To me, the message of that is just proceed with caution. We've had this conversation, probably 5 or 6 different times about the beauty of a solo firm and the ability, net income ability of the solo practitioner, and how beautiful that is, and how it's just Thursday for me because I'm skiing, all of those beautiful things that come with it. If you decide you want to go to the next step, awesome. Just proceed with caution and be aware that you're entering into a new world there that is much more about building a business than it is about being a financial advisor and you've got to just decide if you've got that operator skill. And then you're fighting a different... That's a different game altogether. But I think, to me, the demise of the solo or small RIA firm has been greatly exaggerated. That's the message.
Michael: Yeah. And I would even scoop up, within that, the death of the independent advisor at the broker-dealer as well. To me, the independent broker-dealer business model is challenging. The functional purpose of a broker-dealer is to facilitate the sale of securities products and if everybody is going fee-based and literally doesn't earn commissions from the sale of broker-dealer products, you literally don't need a broker-dealer anymore. There's nothing left to broker and deal. But the essence of broker-dealers, once you pull out the brokering and dealing part, it's the same thing. They're platforms for independent advisors, technology, compliance, support, practice, management, consulting, community. It's the same thing that's cropping up in the direct RIA channel as well. And you already see some of the big independent broker-dealers starting to rebrand themselves as national RIA platforms. Commonwealth has done that and others seem to be moving that direction. So, to me, this is even like it's broader than RIAs because it's sort of the independent broker-dealer channel morphing itself into giant fee-based platforms for RIAs as well. That whole landscape just continues to blossom with more resources and more support from platforms. But that doesn't mean growth is easy.
Carl: Amen, my friend. Super good.
Michael: Well, thank you, Carl.
Carl: Yeah. Cheers, Michael.
Michael: Cheers.
