With the shift in recent years to providing financial advice that’s more centred on financial planning than on portfolio management, the financial services industry has failed to realize one of the big differences between the two approaches. While portfolio management is a scalable business, financial planning is not.
Portfolio management can scale indefinitely because it doesn’t cost an advisor more time or money to run a portfolio that has $1-billion in assets than one with $250-million in assets.
Comprehensive financial planning doesn’t quite work that way. This model is focused on providing clients with ongoing advice on investments, insurance, taxes, wills and estate planning. Clients receive anywhere from two to four in-person meetings annually, with each meeting lasting no less than an hour. So, time limits the services advisors can provide.
Let’s assume that there are about 220 working days a year after factoring in vacations, holidays and conferences. At eight hours a day, that’s 1,760 hours a year that can be allocated to serving clients and running an advisory business.
Let’s also assume that each financial planning meeting requires a minimum of three hours for preparation, the meeting itself, and follow-up work for that household. That’s about 12 hours per household annually.
Basic math suggests that even if advisors dedicated 100 per cent of their time to serving clients, which is unlikely, they would be limited to about 147 client households. Given all the other demands of running an advisory business, that number is likely closer to 100.
Another consideration is the theory that there’s a limit to how many relationships the human mind can actually keep straight. The most commonly quoted limit is 150. Beyond that, your ability to remember someone starts to break down.
Let’s say, for sake of argument, that a client household can basically be thought of as one relationship. There’s still one adjustment that has to be made – other family members. Subtract those from the 150 and you’re likely left with a number, yet again, closer to 100.
So, how do these figures compare with the industry’s current reality? Various surveys peg the average advisor serving between 200 and 500 client households, with the average being somewhere around 280. That’s well in excess of the number of people to which an advisor can deliver comprehensive financial planning.
The implications of this dynamic are simple: Either everyone gets limited to poor service, or some people get great service while others get little to no service. The U.S. registered investment advisor (RIA) market has woken up to this fact as there has been an intentional downward trend in the average number of client households advisors serve to between 60 and 80 highly engaged clients.
Will the same happen in Canada? There are a few key differences between the RIA market and the Canadian ecosystem. The big one is cost. The RIA model provides advisors with a low overhead cost of running a business that’s not yet available in Canada. Unfortunately, high grid and overheard models combined with sales pressure at the big bank-owned brokerages make it virtually impossible to operate within these limits.
Again, everything comes down to math. For advisors to be profitable and earn a decent living while charging a fee as a percentage of assets under management on 60 to 80 client households, those investors will all have to be high net worth or ultra-high net worth. That’s especially the case when many firms take 50 per cent of the revenue and leave advisors to swallow most of the remaining operating costs.
So, the average advisor in Canada is handling more client households than he or she can mathematically or psychologically provide value to – and the dominant firms in the industry support a structure that makes living within these constraints impossible. Luckily, the economics of the independent market make living within these constraints more feasible – even though there’s still much room for improvement in Canada.
Jason Pereira is a partner and senior financial consultant at Woodgate Financial Inc., a financial planning firm under the IPC Securities Corp. umbrella in Toronto.