The Unhappiest Successful Advisors: Accidental Business Owners

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#OfficeHours with @MichaelKitces Video Transcript

Welcome, everyone! Welcome to Office Hours with Michael Kitces.

For today's Office Hours, I want to talk a little bit about a phenomenon that I'm seeing more and more often lately, which is financially successful advisory firm owners (particularly amongst the RIA community, though not exclusively), who are unhappy or sometimes downright miserable in their own businesses. And the common theme for all of them is that they're all in advisory firms that are managing right around $100 million to $300 million of assets under management. And it's a particular subcategory of firms. I think I'm going to start calling the "accidental business owners".

The Phenomenon Of Becoming An Accidental Business Owner [Time -0:53]

To understand the phenomenon of the accidental business owner, it's important to point out that I'm using the word "business owner" in a very specific way here. You know, we often talk about advisory firms being businesses but I make a distinction between true businesses and practices. And the difference is that a practice is built around the individual advisor: the practice is you and the services you provide to clients. You might have a staff member or two, perhaps an administrative assistant, client service manager, or a paraplanner, but you are the one who creates the primary value in the firm for clients. You are the one who brings in the revenue. You are the one who drives the outcomes.

By contrast, in an advisory firm business, a true business, it goes beyond just you as the founding advisor. There are other advisors who manage clients and who may bring in revenue. You may not even manage or service clients yourself at all anymore because you manage the business of serving clients and giving them advice instead. It's a very important distinction.

Historically, very few financial advisors were ever really business owners. And we would have to talk about being an entrepreneurial career where you owned your own business, but the truth is that we were by and large salespeople. We got paid sales commissions and our practices, and they were practices, were built entirely around ourselves. When we didn't work, no revenue came in. When we retired, the practice vanished because there was nothing left if you weren't out there selling and getting new clients for insurance and investment products.

But the transition from our commission-based roots, and particularly to the AUM model with its recurring revenue, has fundamentally changed the nature of advisory firms into businesses. Because one of the primary benefits of transitioning into that fee-based AUM model is that you had this recurring revenue, which means the firm gets paid even if you're not out getting new clients. And because the cost to service clients is lower than the cost to get them, you can create a real bona fide business that's beyond just you by hiring other advisors to service those clients and retain them, and retain their recurring revenue, and earn a profit as a business owner.

In turn, that means all you really have to do to start building a real business under the AUM model is just keep bringing in clients and handing them off to other service advisors. And then you can bring in more clients and hand them off to more service advisors. And suddenly, you have what might be several hundred million dollars under management, a multimillion-dollar revenue business, a healthy profit margin, and you are now primarily in the job of running the business and growing the revenue.

For advisors who want to grow a business, this is an amazing way to do it. In fact, when I look at the landscape of billion-dollar AUM firms today, almost all of the ones I know grew with this same basic formula. One or several founders who were pretty good at marketing and business development, who just kept bringing in new client revenue, handing it off to employee advisors who give great financial planning advice and service to retain clients, and then they go out and get more clients. Wash, rinse, repeat. Bring in more clients, hand them off, bring in more clients, hand them off. If you're good at making new clients come, you can power your way forward to $1 billion of assets under management.

But the fascinating phenomenon of the AUM model is that, because our client retention rates are so high in this industry, you know, we typically see RIAs with 97%, 98% retention rates, even bad advisory firms often have 92% to 94% retention rates, advisors tend to accrue clients over time, even if they're not necessarily trying to grow a big business. I mean, if you just keep adding half a dozen or a dozen new clients every year, at some point, after 5 or 10 or 15 years, you can have 75 clients, 100 clients 150 clients and some great revenue, and you hit a wall. You hit a capacity wall. And the only way to keep moving forward at that point is to hire a paraplanner or an associate advisor and hand off some clients because you're at-clients capacity. Not necessarily because you're trying to scale a big business per se, but just you hit that personal client capacity wall. And usually, I find for most advisors around 75 to 100 clients that they're really actively involved with.

In other words, you start making this transition from a practice that's just based on you and your ability to service clients to a business where other advisors service the clients and you have to start running the business, and it just kind of happens. As long as you're continuing to serve clients well, retain them, and getting a few new referrals every year... you just keep accumulating clients. That's the phenomenon that I call becoming the accidental business owner. Because you didn't necessarily set out to build a business that goes beyond you with lots of advisors and staff, but you accumulate enough clients that, over time, that's still where you end up.

And I find the path is actually what describes most firms today in that range of around $100 million to $300 million of assets under management. It might be one owner (or two or three partners) who've worked together, accumulated clients, hired some staff, got some associate advisors, started handing clients off because they hit their personal capacity wall and clients just kept showing up so they had to start doing this hiring and growing into a business beyond the original practice. And, you know, the exact numbers may vary a little. If you work in the less affluent middle market level, maybe you hit these thresholds at $50 million to $75 million of AUM or $150 million to $200 million with two to three partners. But we all tend to accrue to the same place once you're in the AUM model.

The Advisor Problem With Being An Accidental Business Owner [Time - 6:09]

But here's the fundamental problem that crops up for all those financial advisors who find themselves in the positions of being accidental business owners: The job of running an advisory business is different than the job of running a successful advisory practice. Running a practice as a financial advisor is all about you and your ability to effectively service your clients. You bring them in, you do the planning for them, you deliver the service to them, you have the relationship with them. You may have some support staff to help, but it's all built around your personal ability to connect with clients. And because that's challenging to do well, you're rewarded well for it. Being a successful solo advisor pays really well, with standout solo firms netting as much as half a million dollars of take-home income, and just the psychologically rewarding value of having all those client relationships.

By contrast, running a successful advisory business is different. Your primary job now is teaching and training other financial advisors to be good at the business development and the planning and the servicing clients and the managing relationships. It's your job to manage the firm, hire the rest of the staff, make the technology and the infrastructure decisions, set the direction of the firm, and be the actual leader who leads the growing team forward, while continuing to focus on growth because that's how you give more opportunities to all that growing number of team members that you've just spent so much time developing and now you want to retain.

Which means if the primary reason you started your firm was because you like to be a financial advisor, give people advice, help them, and have those client relationships, being an advisory firm business owner is pretty miserable because you don't get to do any of that stuff anymore.

And that's why I find so many advisory firm business owners are really unhappy in the business as they start crossing in that $100 million to $300 million range. Because once you accumulate that many clients and you have that much revenue, you must have more staff to handle well. Not just paraplanners and admin, you need other advisors and you have to manage them. And then you need more operations and administrative staff, and then you have to manage them. And then you need more of an investment team or department, and then you have to manage them. And then there are so many people that you need an operations manager to manage all the people, but then you have to manage the managers. And the more clients that keep accruing, the bigger it all gets. And the bigger it gets, the less your job is about financial advice and clients, which may be what you set out to do, and the more it's about managing other people. Which you may or may not enjoy, and candidly, you may or may not be very good at.

No offense intended. This was a challenge for me as well. It took me a long time to learn that I'm not actually very good at managing people. It's not my strength. It's not my skill set. I think that's true for a lot of us. You know, just recognizing that having an interest and desire and skill set managing and developing talent in your firm is very different than managing and developing client relationships. And unfortunately, there's not even that much in our industry that actually teaches us how to be a good business owner of an advisory firm.

And then just to add more salt to the wound, the reality is that once you grow past about $100 million of AUM, you don't make any more money either. In fact, when we actually look at the industry benchmarking studies, the typical advisory firm owner or a partner, anywhere between about $100 million and $1 billion of AUM makes less in take-home pay than successful solo advisors. You have to actually get higher than about $1 billion of AUM for take-home pay per owner to exceed what the most successful solos are able to achieve.

Because all that additional revenue and profits as you go from $100 million to $1 billion under management just ends up being continuously reinvested into more hiring, more staff, more infrastructure, more technology, and everything it takes to scale a business from $1 million to $10 million of revenue because that's the path you're going to pursue.

Now, obviously, you are building a more valuable business enterprise itself. So what? You may have less take-home pay. Someday you get to have a liquidity event where that business is sold for a chunk of money and maybe make back some or all of those foregone years of income. But it's a long haul. Even the fastest growing firms, it's rare to see a firm grow from $100 million to $1 billion in less than about 10 years. Most firms basically do it over a lifetime. You know, 15 to 25 years of accumulating clients over a career, which basically means 15 to 25 years in the role of accidental business owner, doing more and more managing you may not like while you get further and further away from the clients you originally set out to serve.

The Path Forward For Financial Advisors Who Are Accidental Business Owners [Time - 10:34]

With all this being said, the question that arises: If you find yourself in this position or you see it coming in the next few years, what are you going to do about it? It's 2018, it's the new year, good time for New Year's resolutions. So the question I'm going to pose to all of you is what are you going to do to resolve this situation for yourself if you're in the position of being one of these unhappy accidental business owners that's now doing way more managing than you wanted to and finding yourself with less time to do all the client stuff that you enjoy doing?

In essence, I think there's a fork in the road here. The path to the left is to embrace your role as a new business owner. You may not have set out to do it, but here you are and this is an opportunity to grow. Learn something new, do this well, you can build some incredible value. Because there are a lot of accidental business owner-advisors who decided they wanted to step up to the challenge of actually becoming successful business owners and so they reinvested in themselves to learn a new skill set. And that's something you can do too. But that means really learning how to run, manage, and lead a business. So this isn't about going to conferences to learn how to be a better advisor and get better advice and manage client relationships, it's about learning to be a better business owner.

Start checking out books like Verne Harnish's "Scaling Up", Gino Wickman's "Traction", and his "Entrepreneurial Operating System". Look at some of the emerging options in our industry that actually teach you how to be an effective business owner. Schwab now has an Executive Leadership Program, and Fidelity is working with Ensemble Practice and Philip Palaveev, what they call their G2 Leadership Institute.

Or just recognize that you really need help even within your own business. If you're more of a visionary type, which a lot of us are as entrepreneurial advisors, and you can see what needs to be built but you're not really great at being the manager that builds and integrates it all together, then make the reinvestment, hire a chief operating officer to be your right hand for implementation. And then check out a book like "Rocket Fuel", also by Gino Wickman, which is all about how many of the best businesses out there were actually created by duos. The visionary tends to be the one that you see externally, and the integrator behind the scenes who helps execute it all and make sure it actually happens.

Walt Disney was an amazing visionary but his brother Roy was the integrator that actually made the business survive. Because otherwise, Walt would have run it into the ground. He almost did more than once. You don't have to be good at all this, but you do have to be ready to hire the people around you to support the parts that you're not good at. So that's one path of the fork in the road. To really take ownership of the business to the next level and learn to run it as a business and change your role and your relationship with the firm.

The other path is to go back to being a successful solo advisor again. This is by far I find the most painful path for most of us because it means downsizing the firm. Downsizing the number of clients you serve, downsizing the staff. It means instead of scaling up, you're scaling back. And for a lot of advisors it just…you know, we're so wired towards growth, it feels like a failure to have to scale back. Except it turns out it may be the single fastest step to actually make you happy in your business again.

Because most advisory firms are still dominated by the good old 80/20 rule, 80% of the profit is derived from about 20% of the clients. So if you just took a deliberate step to say, "I'm only going to serve my top 20% or so, and from the rest, I'll walk away, maybe I'll sell them off. I'm going to get rid of the other 80% of my business."

Just think for a moment about what that would do. So you might be down to 50 or 30 or 20 of your top clients, you might only need 1 or 2 staff members to support you, you'd probably be working half the time and you'd probably be making, I'll bet, at least the same amount of money with that relatively smaller revenue. In fact, you might even be making more. I mean, just do the math. If you're at a firm that's, you know, $100 million or several hundred million of AUM, how much do the top 20% of clients pay you? What's the cost of one or two staff members to service them and support you? Beyond that, you won't have much overhead cost because it's just a few of you. How much would you be taking home? Is it more than you're getting now? How many hours would you actually have to work to service just that 20 or 30 or 40 clients?

Now, the one thing you can't do with the fork in this road, which unfortunately is what I see most unhappy advisors actually doing, is nothing. Is just standing there looking at the fork in the road. They're not willing to sell the 50% or 80% of the business that they don't really want to serve and revert back to a healthy practice, but they don't want to change their own habits and skill set to learn how to actually lead the business. So they just stand still. And unfortunately, if you stand still, so does your business. And with no one to really lead and develop your people, ambitious ones start to leave. Then you have a turnover problem. Then it feels harder to make progress because you're trying to hire people but you keep losing your talent.

And then it's even less enjoyable in your business so you hunker down more and you get stuck. And the business gets stuck. And it can even start to die because once you're a business, the sad truth is you have to keep growing and moving forward as a business. Because you have to keep offering new opportunities to your people or they start leaving and the business starts dying. You can stand still with the practice built around you, there's no standing still with the business.

But at a minimum, as you get started here in the new year, I hope you take a good long look at what you've built so far. Is it a practice? Is it a business? And more importantly, what do you want it to be? Do you really want it to build a business and make the reinvestments, financial time, effort, learning new skills that it takes to truly lead the business or do you really just want to run a successful practice, make good money, serve the clients you enjoy having relationships with, and regain control of your time? Because truly, both are okay.

I think we bash lifestyle practices way too often in our industries. You may have heard from some of our Financial Advisor Success podcast, from folks like Matthew Jarvis, that you can make great money, earn a lot of income, possibly even as much you would have gotten by building a business and sell anyways, and have great client relationships and regain control of your time and your life when you make a deliberate decision to just operate a good practice.

But at a minimum, you have to decide what you want to build towards. And if you've found yourself accidentally treading down the wrong path, you were one of those accidental business owners that doesn't really want to be anymore... recognize that going back to a lifestyle practice is an acceptable answer. You can do it gracefully, you can ensure your clients are well served because it's you that's going to decide who's going to take over those relationships. Are you going to sell? Are you going to transition out of your partnership and get back to the business that you enjoy? And if you want to build a business then, by all means, reinvest in yourself and keep building.

But in any event, I hope that's some helpful food for thought and just some perspective on how even sizable advisory businesses can seem great and profitable on the outside but leave us unhappy on the inside. And it's okay to be in that position and to want to make a change. But if you do, it's still up to you to make the deliberate decision about what you want to run in the future.

This is Office Hours with Michael Kitces, normally 1 p.m. East Coast time on Tuesdays. Thanks for joining us, everyone, and have a great day.

So what do you think? Have you become an accidental business owner? Have you been a part of a firm where the owner couldn't decide whether they wanted to be a business or a practice? What should advisors do when they face this fork in the road? Please share your thoughts in the comments below!