Thinking about going independent? You’re not alone. In 2011, 44% of wirehouse brokers who left their firms landed at independent firms. By yearend 2014, Cerulli predicts major brokerages will see their market share drop to 34% of assets, from 41% now.
In our experience, advisors who opt for independence are hard-wired to be entrepreneurs and are willing to delay monetary gratification. Independents generally offer only modest deals to woo advisors; independent advisors get their paydays when selling their practices. Given that the average advisor is over 50, this is a top of mind concern for many. There’s a big spread between wirehouse pay to advisors who handoff their practices to other advisors and what independent advisors get when they sell. Departing wirehouse advisors keep about 150% to 200% of commissions at their last payout over a three- to five-year period. Independent practices are selling for about 1x to 3x gross commissions or 3x to 10x EBITDA for RIAs. Another plus for independents: They pay a capital gains tax on the sale proceeds, much lower than a personal income rate.
Within the world of independents, there are five basic choices on how to set up a business. Take a look at these options to determine whether any suit your business model. Keep in mind that valuations for the different models also vary.
1. Independent Broker Dealer – the most popular
IBD platforms provide advisors with the same ease in executing the mix of fee-based and commission business to which they are accustomed. Advisors continue to be registered with FINRA. Payouts typically are 85% to 90% or slightly more. But you own the expenses. So that payout is more likely to translate into net income between 55% and 65%. It all depends on your ability to control costs.
Note: Among IDBs, advisors can choose between national, name-brand companies and smaller IDBs. The national firms offer bigger deals to join. The Big Four in this category are: Wells Fargo Finet, Ameriprise, Raymond James and LPL. By contrast, some prefer the increased flexibility and personal service of smaller IBD’s. Off the beaten path business models may be fine here and compliance decisions can sometimes be made in a matter of hours not days.
2. RIAs with a Broker-Dealer Affiliation:
Advisors who do fee- based business can opt to register as an RIA within an existing broker dealer or set up their own independent RIA, both under the regulatory eye of the SEC.
The fee-based advisor within an IBD becomes an Investment Advisor Representative. IARs pay their broker dealers for compliance oversight as well as client reporting and billing. They are typically on the IBD’s grid payout and operate under the same compliance regimen that governs their broker/dealer business. For example, they generally cannot place assets with custodians other than their broker/dealer.
Advisors who have their own RIAs within their IBD are known as hybrids or dually registered RIAs. Hybrids are hot. They are responsible for their own client reporting and billing and pay the broker dealer solely for its compliance oversight. Hybrids are therefore less profitable to the broker dealer. Many advisors prefer this model because these RIAs are less dependent upon their broker dealer and have a more independent feel. Cerulli reports that Hybrids have been growing at 8.9% per year for the past 4 years. They predict that hybrids who held 7.9% market share in 2011, will increase their market share to 10.3% by 2014.
3. Independent RIAs – the pure fiduciary
Advisors who are 75% or more fee-based have an additional option: they can set up their own independent RIA without being part of a broker-dealer, cutting out a layer of fees. They typically have their own compliance consultant or in house chief compliance officer, so decision making is speedy and flexible. And they can have multiple custodians. Of course, liability is borne solely by the advisor. For the moment, RIAs are regulated by the more benign SEC instead of FINRA, the aggressive bounty hunter. This could change however, as the regulatory environment is in flux.
4. IBD and RIA Employees.
These advisors work for independent firms but are not burdened with the responsibilities of running a business. They can focus their efforts solely on client facing activities.
Payouts are lower than those of pure independent contractors. Investment freedom can be less as well. At some RIAs for example, advisors handle house accounts in accordance with the firm’s prescribed investment program.
5. Special Situations
There are a number of creative business models in the independent channel. I expect more to emerge in the next few years. Here are some examples:
- Equity in the firm. The Hightower Advisors model is an intriguing one for $2mm plus producers or teams whose business in more than 50% fee based. They can join an independent firm with a multi-custodial platform where they’ll receive an upfront recruiting package and equity in the firm.
- Platform partners. Dynasty Financial Partners serves as a platform for advisors with a minimum of $300 million in assets. They help advisors choose and negotiate deals with custodians.
- Aggregators. These serial acquirers purchase all or part of an independent firms free cash flow for a multiple of the firm’s EDITDA. There are some aggregators who are seeking wirehouse teams who have a minimum of $3million in fees and assets north of $500 million. Some provide multi-custodial platforms with marketing, technology and other support.