Planning for an Unexpected Ownership Transition

It’s an important question for advisory firm owners to ask, says Independent Financial Partners CEO William Hamm, Jr.: What happens to my clients if I have to quit working unexpectedly?

Hamm says he hears the question often from advisory firms looking to join the Independent Financial Partners (IFP) network, which is supported by broker/dealer LPL Financial. Hamm says IFP currently serves about 500 advisers across the U.S. through nearly 40 support staff members. The network includes some 180 retirement specialists who oversee a majority of the network’s assets under advisement. As Hamm explains, firms joining the IFP network maintain independent ownership and operations while gaining access to a variety of support staff and new compliance and service delivery tools that can improve practice efficiency.

“The succession issue is absolutely on our radar as an advisory network,” Hamm tells PLANADVISER. “In fact it’s one of our top business priorities for this year—developing succession plans for all of our advisers. We have quite a few that have their own arrangements with their service providers, but we believe it’s important for every adviser to have an actionable plan in place.”

This is likely to be a challenge, Hamm admits. Recent research from CLS Investments suggests a scant 28.7% of advisory firm owners have defined a formal succession plan for the case of an unexpected death or disability.

Hamm says the budding interest in succession planning is in large part derived from the aging nature of the financial advisory industry—he cites the average age of financial advisers as about 56, a figure just a few years higher than that established by recent industry-wide research. For example, a Cerulli Associates report published earlier this year pinned the average age of financial advisers at about 51. The report shows some 43% of percent of advisers are over age 55, however, with nearly one-third between 55 and 64.

Advisers also appear to be more aware of the potential fiduciary and litigation risk associated with operating an advisory practice without an actionable succession plan in place, Hamm adds. Besides the compliance and risk management aspects, having an intelligent succession plan in place can help an adviser maximize the value of their practice and reduce uncertainty during an unexpected ownership transition.

“Another reason I know that this is the better approach is because I’ve done it the other way,” Hamm adds. “We had an adviser who came over a few years ago that serves as a particularly good example. Right after the transition he was diagnosed with brain cancer and three weeks later he was gone. So we didn’t have a contract in place for such an unexpected transition.”

Hamm says that IFP had to make a decision to pay the late adviser’s estate for the business, and then the network hired his long-time assistant to support the transition process. Hamm says that IFP’s staff was able to successfully transition about 95% of the affected clients' assets without a significant disruption of service, but the effort wasn’t easy.

“It was a big challenge, but we were able to get as close to a win-win as we could have in that situation,” Hamm says. “For the clients, the estate and us, it was a good outcome. What we’re trying to do now is replicate that and get a formal process in place for the rest of our advisers who may not have an arrangement.”

Hamm says the succession question shines a favorable light on the type of advisory network arrangement underlying IFP, in which firm owners maintain independence rather than transition their books of business entirely to the network.

“For the individual that wants to transition fully out of their business, and who wants to sell, we’ve got about 150 advisers at a given time looking for practices to buy,” Hamm explains. “We even have quite a few younger advisers that are looking to buy more mature practices, so we are providing that ready-made market.”

Hamm says that, when buyer and seller are operating on the same advisory network, this can actually provide a premium to the seller. “You’re on the same platform, so the transition can be made very easily,” he explains. “So that’s another ancillary benefit of being with a group like ours, we can arrange the transfers easily.”

Hamm says the IFP network, and others like it, also can provide a sort of built-in disability insurance for advisory firm owners. The next iteration of IFP’s adviser agreement—which Hamm says is due out in another month or two—includes language establishing a predefined process that will be enacted if the adviser becomes disabled.

“In the case of a disability, we will step in and take over supporting your clients until you’re ready to come back,” Hamm says. “If you’re not ready, or if it’s clear you won’t be returning to work, then we can work out a buyout provision in that event as well.”

Hamm says that IFP’s buyout provisions, which he hopes to establish with all advisers on the network, will help advisers put a realistic valuation on their business long before the decision is made to sell. The same research from CLS Investments shows that advisers are prone to significantly overestimate the value of their practices, so being forced to think about firm valuations earlier will force more realistic expectations among advisory firm owners.

This will be a key for advisers’ own retirement, Hamm notes, as many depend significantly on practice equity to fund their own senior years.

“Most advisers think their practice is worth much more than what it really is—but I think once you get to the numbers and go through the cash flows and the nature of the business, it’s a pretty easy discussion to have to bring that more accurate picture in there,” Hamm notes. “But you do have to manage expectations early if you want the adviser to have a successful retirement.”