A Walk Around RIA Compensation Trends
Family Wealth Report
February 24, 2020
A Walk Around RIA Compensation Trends
Allan R Starkie, Ph. D., February 24,
After having addressed compensation trends in these pages five years ago, Allan R Starkie comes back to take another look.
The following article looks at compensation paid to US registered investment advisors and what the trends in the space are. Compensation is a big issue for various reasons, not least in how advisors’ interests do, or don’t, align with those of the client.
Allan R Starkie, a partner at Knightsbridge Advisors, who has appeared in these pages before, considers the terrain and we hope readers find his insights valuable. (See his two-part previous article here and here.)
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About two decades ago, recognizing the swift growth of RIAs within wealth management, my firm undertook the task of trying to understand the varied ways in which this new peer group compensated client-facing, revenue-producing professionals. The most remarkable thing about this field of compensation, among the almost twenty thousand RIAs in the US, is its diversity. No two compensate in exactly the same way, and those that are similar are often the result of personal friendships among the owners of the similar firms. This naturally creates its own set of challenges when professionals move from one RIA into another, or from a more traditional wealth management firm into an RIA.
The other peer groups within wealth management do offer a fair degree of consistency. Let us outline the four major types of advisor compensation. We have “Night at the Oscars”, compensation, which is comprised of a base and an annual discretionary bonus, which, like the Oscars, is revealed after the mysterious envelope is opened at the end of the year. This method is favored by every international money center, and is the dream and joy of opportunistic headhunters.
There is the “Ultra Secret” variation to this. During the Second World War, British Intelligence sequestered the nation’s greatest mathematical geniuses in Bletchley Park, with the enormous task of breaking the German code. Firms like JP Morgan offer a theoretically structured bonus, tied to production, that is filtered through so many wickets before its funding reaches the employee, that any attempt to reconcile the bonus with production would require a decoding effort that might rival deciphering the Ultra Secret; again, creating fertile soil for carrion birds to smell discontent and sweep down.
Unlike international money centers, most trust companies bifurcate client ownership. A pure sales professional sources the relationship, while a relationship manager services it. Virtually every trust company pays a base and a formulaic bonus based on first year revenues, for its pure sales professionals; and a salary and structured discretionary bonus for client service. Most of the time the percentage of the production bonus increases, based on staggered production thresholds. This is a sound system and offers the advantage of clarity and “transparency”. For the most part, national regional banks also follow this system, although the manner in which they reward credit and deposits sometimes requires the narration of Rod Serling.
Wirehouses continue to do what they love to do – namely, overpay. They pay enormous sign-on bonuses and staggering back-end bonuses while overpaying for recurring revenues along the way. That’s how they roll. That is the main reason why it is very unusual for a fee-based, holistic RIA to ever recruit from a wirehouse.
So what are the compensation trends among RIA’s, and how do they compare with these four peer groups?
Types of plan
If we were to summarize the types of compensation plans most prevalent among the largest fifty RIA’s, they would fall into the following categories:
1. Base and discretionary bonus, with an extra system for compensating sales. The range of base pay varies based on geography and size, but one rarely finds base pay below $120,000 or above $250,000, for senior advisors. The discretionary bonuses are typically tied to firm profitability, while the sales incentive is based on some percentage of first year revenues, which is often as high as 100 per cent (based on the top production tier).
A methodology that is picking up steam, is one in which the compensation is targeted much more to revenue production (new and recurring). We have seen a great deal of M&A activity in the RIA space being funded by private equity money. These sources of capital seem to love any compensation plan that ties personnel costs to market fluctuations, turning fixed costs into variable ones. As a result, we see firms that offer broker-esque payouts on recurring revenues, and even broker-esque monetization of the books of business (but with RIAs this monetization is retroactive and the bonuses are back-ended). Others essentially turn the base pay into an unofficial, forgivable draw against revenue trailers, while paying extra for new first year revenues.
2. The single most significant ingredient to offering a compelling RIA compensation plan, is the availability of equity. In this case, the prospective RIA candidate is lured by perhaps the only opportunity within wealth management to actually create significant wealth for themselves. Many of the roll-up firms have taken advantage of these hopes, and offered equity whose structure is stratified into complex classes, or who lack interim strategies that allow employees to monetize their ownership. The staggering valuations placed on the recent sales of large RIAs has created something of a feeding frenzy, but many employees need a means of accessing the value of their ownership, in the absence of a sale or IPO. In all cases in which equity is offered, it is essential (and usually recognized) that the employer must offer some means of financing the purchase. In many cases a strategic partner acts as the source of debt, while in others the firm’s house bank will often offer credit at discounted rates. Those firms most adept at using equity as a recruiting weapon, will insure that the annual distribution covers the servicing of the debt, and that surviving the vesting period does not require cryogenic freezing. The RIA industry is going through a major period of consolidation. We do not have a single RIA client that has not attempted inorganic growth- often regarding such plans as a panacea for other factors.
Those most successful at growth through acquisition have been forced to modify their compensation models, to accommodate the culture of the firms they have acquired. It seems clear to us that the larger firms will be forced to evolve their compensation methodology into forms most conducive to making themselves appealing to the client- facing professionals they wish to attract by purchase and even by recruiting. These more homogenous methodologies will almost certainly include more streamlined uses of equity grants, formulaic production bonuses, and a clearer delineation in compensation methodology, between asset gathers and relationship tenders.