Should product providers and asset managers enter the advice market by acquiring advice firms, or by investing in their own advice capability?
The question looms large among providers, concerned by the increasing rate of market consolidation which in our view will continue, with more firms likely to be acquired in the next five years than there has been in the last ten.
This shift has significant implications for access to distribution, particularly where providers have been unable to secure a large enough base of platform users. Over the next 18 months we also expect to see predicted M&A activity in the platform market gain momentum. All this may result in some providers and asset managers being cut out of the advice process.
In response, a key question facing executives is whether to acquire advice firms to secure their position and deliver future growth.
To buy or not to buy?
On paper provider ownership of advice firms makes sense. But it has not historically been successful. Should it now?
Adoption of platforms, the outsourcing of investment management and greater focus on financial planning has created more commonality in firms' operating models -all should in theory simplify the integration process.
But realities can quickly skew a business case in the wrong direction. The process of acquiring and attempting to change advice firms is fraught with risk.
The FCA is watching closely through a conduct risk and suitability lens, for one.
When a provider acquires an advice firm, the conduct category of the firm could change to that of the provider because the classification applies to the business as a whole. Moving between catergories, from C4 to C2, requires a more rigorous and costly approach to risk and compliance management. This also has implications for systems and processes, and how advisers operate - the additional governance requirements may not work for all advisers.
They may decide the change in culture and loss of entrepreneurial spirit that typifies many small and medium sized advice firms, is not for them. FCA concerns about conduct risk may mean the acquirer finds it can migrate fewer assets to its investment proposition than had been forecast.
Following the FCA's thematic review into internal sales incentives in March 2014, changes to how advisers are remunerated also mean that it is not possible to build asset migration targets into adviser performance metrics.
The emphasis has to be on quality of advice delivered, so the challenge for the acquirer is to offer clients of the acquired firm something that improves on what they currently receive.
Selling might work for advice business owners or shareholders, but for advisers to share in the value being created without breaching regulatory guidelines the provider will have to find ways to keep an adviser motivated, adding further cost.
Providers will want to know that what they are buying has no legacy risk, or that it can be offset through warranties and indemnities. Dealing with this can lead to protracted purchase negotiations and, when coupled with extensive due diligence, increased acquisition costs.
Once acquired, there is the process of change that should touch all areas of the business to minimise the risk of any potential future liabilities - client proposition, risk and compliance management, people and talent management, IT and marketing.
All this takes time and costs can be significant, especially when multiple acquisitions and integrations are progressing in parallel. Other risks relate to how the provider-adviser cultural divide is managed, and the implications if tensions arise.
One source could be changing a firm from independent to restricted. It is likely independent firms will become niche players providing a premium service, but for now the benefits of being restricted are yet to be fully understood and for this reason there is still resistance to the brand.
Providers' return to advice
One thing seems sure - the outcome of the Financial Advice Market Review is likely to encourage providers and banks back to advice. To deliver advice services to the mass market cost efficiently will require scale, low cost infrastructure and access to capital to invest in digital advice and telephone based services.
Expect to see providers, banks and potentially some new entrants taking greater interest in this area of the market not served by advisers, where lower risk organic growth strategies can be deployed.
To overcome the challenges facing providers today they need to look beyond traditional models to create business support services that meet both their own and advisers' objectives.
The starting point however, is defining the market segments to be served, and the needs of individuals within it. For those willing to take a step back and understand what advisers really want, and then deliver against these requirements, the rewards will be significant.