Practice Management December 1, 2021

Succession Planning Marketplace Evolves

While plan advisers often discuss the importance of succession planning with plan participants or wealth management clients, they might need to follow their own advice when evaluating plans for their business.
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Art by Karlotta Freier


A 2018 study by the Financial Planning Association (FPA) found that more than 90% of advisers recognize the risks associated with not having a succession plan, but just 27% had a plan in place to transition when they no longer want to work full time.

That number might have gone up in the three years since the study was released, as the coronavirus pandemic highlighted the importance of having a plan in place to deal with the unexpected—and as a hot mergers and acquisitions (M&A) market has opened potentially lucrative avenues for succession planning.

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“Plan advisers are experiencing generational change,” says Alicia Goodrow, a partner at Culhane Meadows in Houston, who focuses on succession planning. “They’re often closely held, and sometimes family-owned businesses that have not really looked at the road past the retirement of the founder or, perhaps, the founder’s son or daughter.”

Still, many advisers may be putting off succession planning because they don’t want to think about their own future outside of the firm—or simply because it’s a time-intensive, complicated task. Nearly half of registered investment advisers (RIAs) say the biggest challenges when implementing an internal succession plan are identifying a successor (49%) and agreeing on a time frame for implementation of the plan (28%), according to a May study by Dimensional Fund Advisors. Challenges exist when it comes to external succession plans as well, including finding a buyer, valuing the firm and preparing it for sale. 

In recognition of these challenges, several consultants offer services aimed specifically at helping plan advisers create a succession plan that best suits their business.

Investment Consultants

While succession planning a few decades ago might have required the services of investment bankers, there has been a rise of investment consultants in the past decade who specialize in helping advisers with succession planning, says Catherine Williams, vice president and head of practice management at Dimensional Fund Advisers in Charlotte, North Carolina.

Those consultants can help plan advisers not only with valuations and finding a successor, but also with making sure the successor is the right match for the firm and its clients in terms of business alignment and culture.

“When advisers, even at a small firm, begin talking about going down the succession-planning road, these consultants would be the ones we would encourage them to talk to,” Williams says. “They know how to engage the organization and figure out the soft stuff, right alongside the harder stuff, like the numbers.”

FP Transitions has been helping advisers through the process of succession planning for more than 20 years. Most advisers start working with the firm’s consulting team to determine the best transition scenario for them, says Portland, Oregon-based firm founder and president David Grau Sr.

Once advisers have settled on a plan—and identified a successor—they’ll move on to analytics and compensation to work out the details of the transition. Then, FP Transitions will help the firm with its valuation, and its legal team will provide guidance and the documentation necessary to execute the plan.

FP Transition also advises on M&As, but Grau says that’s typically the “safety net” for advisers who can’t find a successor or who haven’t left enough time to execute a succession plan, which can often take five to 10 years.

The Next Generation

Grau says his firm has seen increasing demand for its services in recent years—and increased interest from potential successors.

“We seem to have a lot of really good next-gen advisers out there who are willing or who would rather buy into and build on top of an existing business than hang their shingle out and start from scratch,” Grau says. “You can’t have a succession plan without next-generation talent.”

Mark Contey, chief business development officer at LaSalle Street in Elmhurst, Illinois, which helps adviser clients connect with potential successors, says such transactions can be a great deal for both parties.

“The plan adviser space is a great way for a young adviser to enter the business, because they’re going to come into an existing practice that’s generating revenue and has the ability to support someone for a few years economically,” he says.

LaSalle Street also helps finance succession deals by offering zero-rate loan transition packages to clients.

“That has created a fair amount of interest,” he says. “It helps us recruit and find some potential successors or junior advisers to come into a practice, and it helps the retiring adviser because they know that LaSalle is the bank, and you don’t have to go out and find a third-party lender and pay a double-digit interest rate.”

New Platforms

Some larger firms are also launching products and services to help independent advisers who are beginning to think about what will happen to clients and staff once they’re ready to move on from the practice they’ve built.

In October, for example, Raymond James unveiled its “Practice Exchange” platform, a succession planning platform for Raymond James advisers. The cloud-based tool, powered by FindBob, provides advisers with M&A tools, prospective buyer/seller matching and other succession-planning education materials.

Robert Goff, the firm’s vice president of succession and acquisition planning in St. Petersburg, Florida, says the launch of the platform reflects increased demand for succession solutions from advisers who are interested in having control as they expand or exit their business.

Finding the Right Successor

The challenge of finding the right successor may be more difficult for plan advisers than some other business owners, given the specialization and regulation involved with the practice, says Alex Reffett, co-founder of East Paces Group in Atlanta.

“There are fewer teams that focus strictly, or mostly, on plan advising, and because of that, some people think they won’t be able to find a successor, and they just let the business fizzle off,” Reffett says.

Seeing an opportunity, he says East Paces Group is increasingly working in the plan adviser marketplace.

“We help [plan advisers] build an infrastructure template and get their assets in order,” he says. “Then we have a transition period where they can offload the work and have our advisers take over, so they can sunset their leader.”

While it can be helpful to work with a consultant who specializes in succession planning for plan advisers, those with broader experience with succession planning for other professional services firms can also provide assistance, Goodrow says.

“There are not as many people who specialize in this exactly,” she says. “But a solid, private-company corporate lawyer can help quarterback the plan toward an exit. Your first call shouldn’t be to the business broker.”

The Markets November 18, 2021

Op-Ed: Modernizing Fixed Income in Plan Lineups: Addressing Four Key Challenges

Janus Henderson’s Adam Hetts takes a deep dive into the risk and reward of fixed-income investments in plan lineups, identifying some pressing challenges that deserve plan advisers’ attention and action.
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While intended and unintended risk is a constant concern across asset classes, perhaps the hardest hit area is fixed income.

Fixed income is often “assumed” to be a safer asset class, but upon closer inspection, it becomes clear that the growing variety of investment options in the space do not always act like more “traditional” fixed-income asset classes. While the proliferation of new categories in recent years has created opportunities for participants to meet their goals in a low-yield world, this situation also requires deeper analysis to understand how new investment styles can prudently be made available within defined contribution (DC) plans.

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In a research partnership with the Plan Sponsor Council of America (PSCA), Janus Henderson found that equity options outnumber fixed-income options in plans by approximately three to one. Furthermore, the average number of fixed-income options recommended to plan sponsors is three, total.

These findings prompted a deeper analysis of the risk and reward of fixed-income investments in plan lineups, a project that ultimately identified four areas that are the most crucial to consider to avoid the complications of intended and unintended risk.

Overlap

In fixed income, overlap presents itself in two critical categories: core and core-plus. These categories form the basis for the traditional fixed-income exposures of a plan lineup; they are portfolio anchors that are intended to diversify and mitigate equity risk.

It makes sense, then, that many lineups have both a core and a core-plus option, but upon further investigation, there is a risk of redundancy by having both a core and a core-plus manager present. Despite the greater flexibility of the core-plus category relative to the core category, the risk and return statistics are extremely similar. Research shows that the Morningstar U.S. Fund Intermediate Core Bond and Intermediate Core-Plus Bond categories have a trailing 10-year monthly correlation of 0.96.

To address the overlap challenge, evaluating potentially duplicative exposures created by the inclusion of both a core bond and a core-plus bond fund in a plan lineup is a good starting point. Understanding a fund’s correlation to equities is also critical; it is important to consider funds with a reasonably low correlation to equities as acceptable and those with very high correlations to equities as unacceptable.

Diversification

The heavy focus on government-related securities in core and core-plus means the trade-off between yield and duration is currently at its weakest. This potentially exposes plan participants to too much rate risk (duration) without proper compensation (yield), compared to historical norms.

While the categories face the challenge of decreasing value in the trade-off between duration and yield, the analysis shows it is still necessary to include one—but not necessarily both—in DC plan investment lineups. Furthermore, the evidence shows core-plus provides greater flexibility within a single line item. And, while their necessity cannot be denied, it must also be observed that core or core-plus may no longer be adequate as the sole fixed-income options in a plan. These should be complemented with strategies that may have greater yield or return potential.

Understanding Specific Risks

Categories such as multi-sector bond and world bond offer opportunities for diversification, but they come with their own challenges, including the potential for more volatility because of risk exposures not commonly found in core or core-plus categories. This can potentially expose participants to unnecessary risk despite the diversification benefits. Therefore, it’s important that DC-focused financial professionals have the necessary tools and resources to obtain a firm grasp on the specific risks these new categories may introduce. 

Failure of Benchmark-Driven Risk Assessment Methods

The categories that contribute the most potential diversification for plan lineups were created to be intentionally different from the traditional categories, making them a challenge to judge using traditional benchmarks and their standard statistics of risk and return. This creates a conundrum for investment committees as they attempt to provide these diversifying options to plan participants.

While Modern Portfolio Theory statistics are generally helpful, it is important to note the shortcomings of benchmark-driven statistics in the evaluation of categories that were explicitly constructed to look very different from their benchmarks. To overcome this hurdle, one may isolate discrete time periods of particular risk/reward stress and compare and contrast manager success during those periods.

In sum, these insights can ignite new conversations that help plan sponsors and advisers construct the best lineup possible for participants. Lineups that harness all four elements presented here are likely to be well-positioned to meet participants’ ever-changing needs.

 

About the author:

Adam Hetts is the global head of portfolio construction and strategy at Janus Henderson Investors. In this role, he leads the portfolio construction and strategy team that is focused on delivering actionable investment strategy and thought leadership to help clients in all aspects of the investment management process.

The opinions and views expressed are those of the author(s) and are subject to change without notice. They do not necessarily reflect the views of Janus Henderson and no forecasts can be guaranteed. Opinions and examples are for illustrative and educational purposes only and should not be used or construed to be legal or fiduciary advice or a full representation of all responsibilities of any financial professional.

Editor’s note:

This feature is to provide general information only, does not constitute legal or tax advice and cannot be used or substituted for legal or tax advice. Any opinions of the author do not necessarily reflect the stance of Institutional Shareholder Services Inc. (ISS) or its affiliates.

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