Grow Your Advisory Firm Using Technology, Alternatives, and Economies of Scale

When trying to increase their profitability, an advisor can grow their firm’s assets under management (AUM), grow profit-margins, or do a combination of both. While doing both sounds like the best option, achieving it is harder than it sounds. However, offering premium services, such as access to alternative investments, and streamlining back-office activities with technology solutions, can pave the way to realizing that combination.

Increasing AUM

Grow client base

The most common way to increase AUM is to grow your client base. The more clients you have, the more money you manage, and the more your fixed costs are split between them, right? In most industries, growing a business helps create economies of scale—a proportional decrease in fixed infrastructure and overhead costs as a percentage of revenue. But with a heavily client-facing business, like wealth management, those economies of scale are less likely to apply.

A psychological principle known as Dunbar’s Number estimates that the maximum amount of stable relationships one person can maintain is around 150, which includes both business and personal relationships. This suggests that there is a ceiling to the number of clients an advisor can service successfully. 

So that means that if you want to grow your firm’s client base, you have to hire more advisors, hire more support staff in non-revenue producing positions, and maybe even move into a larger office space. This is likely to compound any cost inefficiencies that have been eating into your margins. This is why robo-advisors have become so popular; they are able to scale while delivering the same level of service (however basic those services may be) without adding much in cost. 

Michael Kitces research indicates that the larger an advisory firm is, the higher their overhead is as a percentage of revenue. Small firms with around $500 thousand in revenue average 35% overhead costs while larger firms with around $2 million have 39% overhead costs. Meanwhile, solo operations can operate with an average of 10-20% overhead.

Shift to Higher Net Worth Clients

An alternative to growing your client base is to move up the ladder to higher net worth clients. While you maintain the same number of clients, each client will, on average, have more assets for you to manage.

Additionally, high-net-worth clients usually demand more premium services. These services will allow you to charge higher fees, but they may require more investments on your part for better technology and/or more time spent on back-office activities such as analyzing your clients’ financial position and researching and executing new investments. High-net-worth clients are often interested in investment types that are more difficult to access and execute than standard stocks, bonds, and mutual funds.

Technology investments require upfront cost and often a recurring monthly fee, but they tend to scale better than office space and additional hires, which each have limitations to how far they will allow you to grow before requiring further investments in each.

Increasing Profit Margins

Raise Fees

Raising fees on the same level of service is only likely to lose your current business and make it harder to attract new clients. However, better services such as better reporting and access to alternative investments are attractive differentiators and demand higher fees. Higher net worth clients know that the services they require come with higher fees. The ones who are really contributing to your AUM growth may demand some discounts, but in those cases benefits may outweigh the costs. Some clients are likely to leave due to fee increases, but they can be replaced with ones that are a better fit, as long as your services are on par with what you are charging.

Streamline back-office activities

A survey of over a thousand advisors shows that time spent face-to-face with clients only accounts for 20% of the average advisor’s time. Another 20% is spent on business development. That leaves a whopping 60% of time that is spent behind the scenes. This could be anything from researching new investments to attending to that paperwork that keeps growing on your desk. There are numerous technology tools that can make your job as an advisor easier. 

Creating time-and-cost-saving efficiencies for those back-office activities can result in more face-time with your clients and more time available for those more time-consuming premium services that generate higher fees. 

Achieving Both with Alternative Investments and Technology

Taking important facets from each of the points above, you may be able to achieve both increases in AUM and increases in margins. The first step is to offer more premium services to attract higher net worth clients while graduating from less profitable clients that are not interested in your premium services. A decrease in number of clients decreases the need for support staff overhead, while the high average net worth of your new clients may be able to maintain or even increase your AUM. And the higher fees demanded by these services can help grow your margins.

One such premium service is offering access to alternative investments. When you think of alternative investments, your first thought may be of the paper-laden, extensive process that is required to invest in them. While stocks and mutual funds have long enjoyed an efficient online investment process, alternative investments have been stuck in the past. High net-worth individuals are increasingly interested in alternative investments, so advisors who wish to attract them have had to put up with this painful process.

But recent changes in regulation has opened the door to the application of straight through processing technology to alternative investments. This is similar to the technology that powered FundServ and took mutual funds from minimal adoption to millions of trades per day.

With these new technology tools, you can skip the paperwork with a streamlined online process. This technology not only facilitates the collection of investor information by only presenting fields that are relevant to a specific investor, but also by verifying that information in real time so that you don’t have to go back and correct the information later should the investment come back as not-in-good-order. Even time spent researching new alternative investments can be streamlined, as premium marketplace solutions begin to populate with more sophisticated investments than the traditional crowdfunding marketplaces that are rampant across the internet.

While straight through processing for alternative investments is still in its nascent stages, the end-goal is the creation of an infrastructure that spans the entirety of the alternative investment process, from sponsor, to advisor, to investor, and even third-party participants such as fund administrators and custodians. How the system integrates with custodians may be a chief concern for advisors, as alternatives that are not custodied at a major firm may not be counted towards AUM. However, as the technology is streamlined, more custodians will able to quickly and easily get on board with alternatives. 

With a smaller, more profitable client base, and streamlined back-office activities, and premium services, even a small advisory firm can grow their business without falling prey to unwieldy increases in overhead and the pitfalls of chasing economies of scale.