The move to fees

Investment Executive’s latest Report Card research indicates that the move to fees is accelerating as the CRM2 implementation date nears. Indeed, advisors with both Mutual Fund Dealers Association of Canada and Investment Industry Regulatory Organization of Canada dealer firms reported that two-thirds of their revenue comes from fees – most of that coming from asset-based fees. That’s up from about half of these advisors’ revenue in 2008.

Meanwhile, transaction-based revenue took a corresponding drop over the same period to less than one-third of revenue from one-half.

“We’re going to see a heightened pace [of movement toward fee models],” says George Hartman, president and CEO of Market Logics Inc. in Toronto. While CRM2 is partially responsible for this shift in compensation models, he says, the main reason advisors are moving toward a fee model is because the Canadian public is ready to pay for unbiased advice.

So, should you make the move away from a transaction-based model and to one based on fees? Advocates of fee-based structures make compelling arguments in their favour, but the transition must be well managed.

There are no strict rules in Canada about who can call themselves a “fee-based financial advisor.” And there is no single definition of a fee-based practice. In fact, there are several fee models, including asset-based (a.k.a. fee-based) models, in which clients pay fees based on a percentage of assets; and blended compensation models, in which fees are added to a transactions-based platform.

Meanwhile, fee-for-service (a.k.a. fee-only) practices, wherein advisors charge an hourly rate or a retention fee, similar to the way lawyers and accountants bill for their services, still are relatively rare.

Hartman says there has been a lot of hand-wringing in the investment industry over the disclosure requirements as we edge closer to the CRM2 deadline – not because advisors are reluctant to be transparent about the value they bring to the table, but because they’re not sure their clients are ready to see what they actually pay for financial advice.

However, Hartman adds, with a solid plan and the knowledge that clients need to perceive value in their advisor’s services – regardless of the fee structure – you can go forth successfully in this brave, new world.

That’s been the experience of Stephen Bishop, advisor with Stephen Bishop & Associates Wealth Management Services, which operates under the Raymond James Ltd. banner in New Minas, N.S. In 2010, 31% of Bishop’s revenue was fee-based. Today, 90% of his business is fee-based, most of it coming through separately managed accounts (SMAs). All new clients who join Bishop’s book come on as fee-based clients, he says.

What drove home Bishop’s need to change was the market correction of 2008-09, he says: “Everybody in the business, including all the clients, stepped back pretty humbly and reflected on how they were blindsided by how much they didn’t know.”

That financial crisis made Bishop recognize that his clients would be best served by paying for his service – the overall structural work and analysis of client risk profiles and objectives – and subcontracting out the portfolio-management decisions to a third party (in Bishop’s case, to Russell Investments Canada, which manages the SMAs).

Bishop cautions that conversion of this book to this style of fee-based platform wasn’t flawless. The easy part was showing clients the benefits of relying upon portfolio managers with credibility.

The difficult part of the transition was the pay cut. Leaving the commission-based platform can hurt your bottom line – at first. For example, depending on your fee structure, you may find yourself sharing your fees with a third-party portfolio manager. And developing a steady flow of fees can take time.

Lenore Davis, registered financial planner with Dixon Davis & Co. in Victoria, has been a fee-only planner since 1998. Davis says the drop in income is a strong deterrent to making the transition to fees for advisors working on commission models. She was able to survive the “lean years” only because her former work in the insurance industry had set her up with some annual payouts.

“We didn’t start making any real money for six years,” Davis says. “You can’t survive in the early days of building something without selling something.”

But the financial challenges are temporary and can be mitigated by making a gradual transition.

Here are some tips to help you make the shift to a fee model:

– Clarify your reasons

Begin by asking yourself what value you bring to the table in your client relationships. If you can’t clearly outline to your clients why a new fee structure makes sense for their accounts, Hartman says, maybe you’re not convinced of your own value.

Emphasize the values that elicit emotional connections, such as a child’s graduation from university or a secure retirement. “[Your value] has to be relevant to the client,” Hartman says.

The promise of unbiased advice and access to a wide range of investment products should be underscored with a reminder of what makes the client/advisor relationship valuable. “Be reassuring,” he adds. “[Remind clients]: ‘We’re always going to be working as a team’.”

Davis points out that fee disclosure also can mean breaking your fees down into service hours. You can demonstrate how many hours you can devote to an individual client’s account this year.

– Do your research

When Erika Penner, an independent certified financial planner and retirement and estate planning specialist in Richmond, B.C., was thinking about making the switch to a fee model, she discussed her plans with other advisors who had made the transition or were considering doing so. Penner attended a conference and took a course, both of which helped her decide how she wanted to structure her business.

Conversations with other advisors also helped Penner decide that when moving her clients over to the new model, she would ensure that they would in no way pay more than they were paying at the time of the move. “I can be flexible,” she says, “because it’s my fee.”

– Know where to start

When Hartman works with advisors who are making the transition to a fee-based model, advisors often ask: “Should I first introduce the new business model to top clients [because they have the most assets] or those with smaller accounts [because the model probably will need some tweaking]?”

Hartman’s suggestion: “Start with the clients you trust the most; the ones who will let you make mistakes.” These clients will be more likely to stick with you while you make the transition, and they’re more likely to provide honest feedback, which can help to refine your business plan before you move to the next stage.

– Build a great team

John Amonson, president of Unbiased Financial Services Inc. in Calgary, who charges fees based on a client’s total net worth, says having a solid team to work with clients is especially critical when working under the fee model.

He cautions against the temptation to clone yourself. Instead, Amonson says, try to expand the knowledge and expertise of your business by looking beyond the typical skill sets of advisors and assistants when hiring staff. One member of Amonson’s team, for example, has expertise in the life insurance industry. This person is no longer licensed to offer insurance, but has superb technical skills.

– Avoid the over/under syndrome

Advisors who are moving to fees often begin with plans that overpromise, then undercharge for services, Hartman says.

Offering to meet four times a year with a client in order to justify a certain fee level might not make sense for any client and can lead to problems down the line as your calendar becomes overbooked. Meanwhile, setting fees too low carries the risk that you might need to take on more clients than you can handle or risk losing your business.

“[You would] have to go back and discuss raising your fees,” Hartman says, “which is even less desirable.”

Matching your value to your fee can be a challenge, as you must feel that you are being rewarded fairly, while your clients must be satisfied with your service level.

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