Valuations of advice businesses were supposed to drop once the RDR had taken effect. The theory was that once firms had moved from a model where they got 0.5 per cent trail commission but did almost nothing for it to one where they charged 1 per cent but did provide an ongoing service, valuations would reflect the actual profitability of the business and there would be less scope for uplift.
Reality has been rather different: valuations have continued to climb. All that has changed are the metrics. Instead of talking about a valuation of X times annual ongoing revenue, people now talk about multiples of profit. But the multiples keep rising.
From most points of view this is a good thing. There are far too few advisers out there compared with how many the population needs, so higher valuations of advice firms will attract capital and people into the sector. The fact that hedge funds are among the buyers of adviser businesses proves this point.
Given the proliferation of excellent applications of technology, you can argue that the small to medium scale firm is more efficient now than it has ever been. Costs of entry are still low, so provided you can find the people you need, establishing a viable advice business is not that hard.
It is also clear that, rather than adding value to the service proposition, most consolidators simply remove costs or add fees, especially through (usually restricted) centralised investment propositions.
That means there is an easy exit route for small firm proprietors; consolidators will always be able to squeeze more profit out of their businesses.
The main reason such valuations will continue to climb in value is obvious. It is the baby boomers. There are enough of them with over £200,000 of investable assets, and they will mostly live for 25-30 years. Get enough of them as clients and give them a decent personalised service, and you ought to have a wonderful business.
In the long run, the value of financial assets rises (if it does not, capitalism is dead) so fees can rise at a rate faster than inflation without offending the clients. Looked at like this, advice is an even better business than funeral parlours.
It is much easier to build a large advice business if it is restricted, and it is clear this is going to become the dominant model. For the mass market, the vertically integrated firm may deliver acceptable sausage-machine service but the FCA does not yet appear to recognise the conflicts of interest inherent in this model.
I can envisage a back to the future scenario in which platform/DFM/advice combinations replace life companies as the villains – and, in due course, the dinosaurs.
The big value gap remains the moderately wealthy. For them, the UK’s Gormenghastian tax system offers opportunities for advisers to secure tax savings greater than their fees. But to deliver that as a quality service you need older, more experienced advisers and better processes and systems than you get off the peg.
Over the past 50 years, it has been medium-sized advice businesses that have done this best and some of the largest wealth managers that have done it worst. In this respect, it is a good bet that the future will resemble the past.
Chris Gilchrist is director of Fiveways Financial Planning