Grooming your successor

With that long a time frame, it seems one option I should consider is hiring a young advisor to come into my practice, with the view that one day, he or she can take over.

I have a candidate in mind. She is working as an associate advisor with one of my competitors. I am sure you’d have a thousand questions for me before I follow up with her; but, at a high level, is this a good approach to succession?

Coach says: Yes. what you are talking about is choosing the person who is going to carry on your life’s work.

Bringing a younger advisor into your practice early in the game and grooming them as your successor is something I have been advocating everywhere I go. From a succession perspective, it is an excellent strategy because:

1. It lets clients know you have a succession plan in place.

2. Clients prefer an “internal” transition, involving someone they already know and trust.

3. Having a predestined successor on the job contributes to growth. Clients will continue to refer others to your practice.

4. This type of plan provides time and structure to ensure the value of your business is protected.

All of this assumes, of course, that your chosen successor has all the qualities and qualifications you want in that person. That’s a whole other topic for another day, so let me address some of the less obvious considerations.

– Speed up or slow down?

Paradoxically, succession implies a plan for the continuity and growth of a business, whereas most advisors equate it with slowing down or quitting altogether. Consequently, when a transition from one advisor to the other occurs, the business is seldom at its peak in terms of efficiency, productivity and value – completely opposite to the intention.

This is a huge problem for the investment industry. One of my corporate consulting clients, for example, estimates it will have more than 500 advisors retiring in the next five to 10 years. If those advisors think of their final years in the business as their “slowing down” period, that firm could see billions of dollars in assets under management disappear. That’s why we are developing an internal program that emphasizes maximizing value prior to transition and ensuring that successors are equipped for growth.

As an individual advisor, you have to do the same. Look upon the young woman you are considering not as someone to replace you, but as the partner to help you build value in your business until you transfer ownership from yourself to her.

– Hire or invite to buy?

You used the phrase “hiring a young advisor to come into my practice.” There is a considerable difference between “hiring” someone and giving them the opportunity to acquire a piece – or all – of your business.

If you hire this young advisor and she sees that the practice is tied to your career alone, there will be a tendency to build her own book under your roof. When the time comes for her to acquire your business, she is not going to want to pay for what she has created.

While you will have a buyer for your book, you will miss out on realizing the full value of your business. If you want the best possible outcome, I’d recommend you position her joining your team as the first leg of a journey toward acquiring equity ownership in a thriving business.

– Equity or cash flow?

Advisors frequently equate cash flow with equity or practice value. The truth is that increasing the amount of cash flow, even significantly, does not typically result in a 1:1 correlated improvement in the value of a financial advisory business. That’s because a practice’s valuation, as with any other investment, is a function of its future profitability. You could add 10 advisors, but if the value they create belongs to them individually and overall profitability doesn’t increase, you will build little additional value in the long term.

Imagine, however, if all 10 of those advisors (or one, in your case) were working to increase the total profitability of your business because you were providing them with the opportunity to invest in its long-term equity value rather than its cash flow. Not only would those team members be more committed to productivity and expense management, they also would take their responsibilities as partners more seriously. Cash flow is what advisors work for; equity is what owners invest in.

This notion of creating equity value in your practice rather than cash flow value is consistent with sound investing principles. Investors generally prefer to bet their long-term financial security on firms that are consistently profitable. Younger advisors would prefer to invest their careers and their money in practices that are structured and managed to create long-term equity value.

You represent an opportunity for this young woman (assuming she meets your selection criteria). Where else could she find an investment that requires little or no cash up front, comes with a mentor, generates immediate income and pays for itself over time?

Retirement for most advisors is a gradual, on-the-job wind-down from five or six days a week to four days, then three days, and so on. But that works only if there is next-generation talent to back up the senior advisor and a plan to tie the strategy all together.

Your opportunity is to create an equity arrangement, organizational structure and compensation model to allow that to happen. And to ensure that when the organization succeeds as a whole, so do the people who have created its success.

George Hartman is managing partner with Elite Advisors Canada Inc. in Toronto. Send questions and comments regarding this column to ghartman@eliteadvisors.ca. George’s practice-management videos can be viewed on www.investmentexecutive.com.

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