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June 8th, 2021
In this interview, Drax’s Euan Corbett speaks to Alex Marshall, Partner at CIL Management Consultants, on some of the key themes in the wealth management market. This includes the current interest in the IFA consolidation investment strategy, the challenges in the market, and the future of 'mega-consolidation' opportunities.
I'm speaking with Alex Marshall, a partner from CIL Management Consultants, where he leads the financial and business services practice. Thank you for joining me today, Alex. Would you like to give a quick overview on CIL and your role, and then we can get into some of my questions.
CIL is a management consulting business. We do strategy consulting for an array of businesses in the UK and the US where we have offices. We get involved in a growth strategy for largely mid-market companies. I lead the financial business services practices and our role sees us working on a lot of private equity transactions and also working with private equity backed businesses.
What we want to pick up today is around a couple of the themes in the wealth management market. Alex, as a starter, especially with a commercial due diligence hat on you, why is there such an interest, from your perspective, in the IFA consolidation investment strategy?
I think there are some really good underlying drivers for why this is an attractive place to put capital to work. The first thing to say is that there's a lot of assets under management in the UK, a lot of wealthy people and a lot of fees to be earned. It's a large market and it's also highly fragmented; it's not dominated by a small number of large institutions.
Plus the revenue model, the ad valorem revenue model, which means that advisors earn fees that are commensurate to their client's assets, as their client’s assets grow, and as the market increases in value. They get some organic growth out of that and so they benefit from rising markets.
On the point of asset accumulation, there has been quite a lot of press talk in the last year or so about how we've got quite a polarised society on a wealth perspective, and Covid has increased the gap between the rich and the poor, and the rich are getting richer. So those demographics all speak to an opportunity for financial advisors.
There's also an opportunity for vertical integration, by which I mean adding together the financial advisory side of the business and the underlying discretionary fund management portion, which gives rapid profits uplift and potentially revenue synergies too. So all of that kind of adds up to a positive set of tailwinds, and some good reasons to put capital to work.
I feel that makes a lot of sense and I think that's been sort of shown within the market, whether there have been 10 PE backed consolidations made in the last 14, 15 months. So there's certainly an appetite from the private equity community to hold an asset in this space.
With the amounts of activity, do you think there is enough runway of opportunities for them to all achieve that their growth ambitions?
A hard answer, frankly, no, I don't think they can all achieve their ambitions. One of the challenges is that when you look at it on paper, there's plenty of opportunity because there are hundreds and hundreds of firms out there to fuel a buy and build strategy.
But the reality is you wouldn't want to buy all of them. Some of them are really not that great as a business, and everyone wants to add the same thing. They all want to add material lumps of assets on the management at a time, rather than doing an acquisition every week of a very small business.
I still say that they all have exactly the same strategy, but there's quite a few of them queuing up for the same kind of asset. And the stock of really good mid-sized firms with hundreds of millions of assets under management is not infinite. And it is dwindling. So at some point the music will stop and those that haven't developed a strategy that enables them to grow organically and to accumulate assets, rather than being driven by market forces or through acquisition, those will probably look a bit weak.
That's a really interesting point and it sort of leads me on to my next question. Why is organic growth such a challenge within the IFA market and do IFAs need to consider differentiating?
I'll ask the second question first and say, absolutely, I think they do, and then I'll come back to how it's possible in a minute. But the reason it's a challenge is because in this market you plant seeds that take a long time to bear fruit.
If your strategy is all about pinching clients established and mature clients with large pots of assets from other providers, then you're only going after the switchy customers and the reason that they might switch to you could be the same reason that they might switch to someone else. And frankly, people don't tend to change advisor very often in this industry. Well the clients don't tend to hop around.
When you acquire a client now, what you're making a bet on is that then their assets will grow over time, over the decades, to fuel your business. And so it's a long play. So tomorrow’s one million pension pot, which is a great target client for most IFAs, is today's middle management, middle manager with 100K invested in their pension pot, and that's not too shabby as a customer, few people in the UK actually have a pension pot that big, it's not a large number of people who've got good pension pots, but as an income stream to most IFAs, a hundred grand pension pot is worth about a thousand pounds a year in fees.
So you've got this challenge whereby the clients that you should acquire for future growth are just not that remunerative today. So the incentives are out of kilter. Everybody's KPIs look a bit weak if your average assets per client drops too much, whereas that's actually a long-term investment for the future. So that's why it's a difficult thing to achieve, and those that can see it and are patient, will do well.
I think differentiation, to come back to that original point, is important because there's differentiation in your business model and there's differentiation in your proposition to clients. I think having a differentiated business model is very important. You need to have an incentive process and an incentive package that corrects this problem in the disparity of a long-term valuable customer versus what they're worth today. Otherwise your advisors won't be incentivised to go hunting for small clients.
Your proposition needs to be differentiated because there aren't a huge number of very wealthy people in the UK and everybody wants to serve them. So the sorts of differentiation that we've seen really payoff is having a proposition that works for really neat pockets of society like plugging into a local area geographically, or plugging into a particular group or profession like doctors or vets, or a particular community that those kinds of differentiation can be extremely valuable. Word of mouth is a very potent source of new business in this market.
Of course, people buy people when it comes to it. I think that chimes with a lot of points that we've seen in the market. As a final question, quite keen to get your views. As we've seen in the market, the wealth management play by private equity seems to be a couple of years behind the insurance broking play, around very similar buy and build consolidation.
Do you see wealth following insurance with the ‘mega-consolidators’ coming through? What's your take on that Alex?
I think, there's a bit of yes and no in this. There are some definite overhead synergies in scale. Having a really good compliance department isn't cheap, and building good compliance and processes is something that you need to invest in.
And you can, if there are good processes and a good department, they can be amortized over a large advisor base. So that's an example of how you can, and the sorts of synergies you can go.
Also there are advantages in having scale, and being able to invest in technology. Smaller firms can’t necessarily provide quite such a tech enabled service to their customers, as some of the larger competitors should be able to do. I'm not saying that the big ones always do this brilliantly and the small ones always do this badly, but if you're thinking about investing, having that kind of a larger cost base and larger appetite to invest will help you to pivot into a more virtual world.
But I think there are also some revenue synergies. The example that I mentioned at the start of our conversation was this concept of vertical integration, where you can be the advisor, which is about planning someone's financial future and putting in place the right tax efficient structures and strategies.
And then there’s the underlying actual asset management or discretionary fund management. That strategy, putting those two things together, generates good revenue synergies, and it can be a real profit driver.
But obviously if you've got two businesses that have already done that, when you put them together, you hit a bit of a problem because you can't necessarily recommend to all those clients for whom you're providing a vertical integrated service under company one that it makes more sense for them to switch out of that into company two, when you put the two things together. It's not necessarily the case, and the FCA only likes you to do that if you can demonstrate that the one you're putting into is cheaper. So you could only really obtain windfall synergies from that strategy kind of once and it does run out after that point.
That wraps up my questions, thank you Alex.
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