First published on Family Wealth Report on March 11, 2019
The UHNW Institute, in partnership with Family Wealth Report, is a non-profit educational initiative serving UHNW families and family offices. The team of industry experts will provide curriculum in the form of articles, webinars and events throughout the year for their readers and be highlighted on our site.
Part 2: The Concept of Design
The market leaders in wealth management understand there is a pronounced demand shift and have moved from delivering products and solutions to a focus on how solutions are provided. In this post-product era, we have entered a design period where firms differentiate themselves by designing a client experience. Designing the experience can improve the level of diagnostics and discovery and affords opportunities for a firm and advisor to become more deeply connected with a client.
Such experiences, first conceived in consumer and retail product sales, are applicable equally to wealth management. Names such as Tiffany, Lexus and Ritz-Carlton come to mind. Design discipline requires input from employees, clients, and, potentially, other alliance partners and professionals, on how they want complex products and services delivered. It includes a careful review of all interactions such as work flow and work process and their effect on the ultimate delivery to the client.
The process can take time and is often iterative as firms explore and determine client preferences, rationalizing what matters most.
The Client Experience
In this post-product setting, some clients are yearning for something more existential, even impactful, best described as an experience. “Existential” is not so abstract as to be transcendent; rather, it’s an experience that goes beyond a discussion of a family’s prosaic financial affairs to a deeper level. Unfortunately, most clients have little reference for other possibilities that lie beyond their customary relationship with their advisors and they have only modest or low expectations.
The most successful firms understand this need to create a client experience and will be led by business managers who have had client-facing duties and know what drives this client experience.
What is this experience?
First and foremost—a compatibility in values and culture
An alignment of interests—true disinterest and impartiality
A relationship with an advisor and team where no one “owns” the client relationship
Solutions not products—access to the best thinking (contemporaneous information and advice) whether in-sourced or out-sourced
Privacy and security
Data assimilation—simplicity in the face of increasing information complexity
MFO Business Economics
The post-2008 period has been challenging for all wealth-management firms, particularly the smaller, less well-capitalized MFOs. Like many emerging industries, the relatively brief history of the MFO is one where the business economics remain extremely challenging. Costs are high, and few firms have any scale and, therefore, few firms enjoy any operating leverage.
Further, and perhaps most importantly, no firm has any meaningful market share or brand. Consequently, pricing power remains with the client/buyer. If there is pricing power it’s been with the investment component of the MFO delivery and not with the non-investment components, principally, planning-related services and the administration of household financial management. Unless firms are very disciplined and “stick to their knitting,” delivering on the non-investment components has tended to systematically erode their operating margins.
If the historical context is not challenging enough, the effect of the 2008 market collapse put pressure on MFO economics with an ugly combination of asset-based fee compression, lost business, negligible new business with less money in motion, increased service requirements, and increased costs, primarily for staff, compliance, and technology. Although the promise of the MFO remains noble, woefully few MFOs have succeeded in scaling their businesses or achieving any operating leverage in this extremely challenging market cycle.
Despite Inherent Weakness, Outside Capital Shows Interest
With few exceptions, MFO capital structures are weak and concentrated and, until recently, capital sources have been limited. While firm valuations (i.e., multiples) have expanded during the current, extended business cycle, the continued aging of principals, delayed succession planning and tepid organic growth have combined to have a dampening effect on potential UHNW firms’ valuations as compared to firms who serve the mass affluent and high-net-worth segments.
Leadership also must adjust - MFOs are often led by two general archetypes — either dynamic, externally oriented principals and/or investment or capital markets mavens. Firms will need a new generation of internally-focused business operators to develop a more sustainable, institutional character.
In spite of these weaknesses, capital sources and the low-interest-rate environment have spawned increased interest in the MFO segment and portend continued merger activity, recapitalizations, consolidation and internal equity transitions.
The Sales Paradox
Given their strict conflict-free agency mission and service cultures, MFOs continue to wrestle with an affirmative approach to sales, preferring to use the more benign term “client acquisition.” Organic growth rates (i.e., compound annual growth rates) in the low single digits are common, but there is hope as MFOs increasingly understand and are implementing client-acquisition strategies (i.e., client-to-client propagation rates, development of external referral channels, and improved onboarding processes) that can drive both margin expansion and firm enterprise value.
In the third and final part of our series, we will explore the elements of a successful MFO in the context of business economics and pricing, the latter one of the most challenging and complex topics facing not only MFOs but all wealth management firms today. We will explore the great tension between serving the economics of the firm while delivering on the elements of a successful client experience highlighting four key factors necessary to obtain success in both of these areas.
This article was adapted from James H. McLaughlin, “Ultra-High-Net-Worth and Multi-Family Offices: Proscriptions and Prescriptions.” Investments & Wealth Monitor, January/February 2016, pp. 21–25.