Predictions of doom shortly after the introduction of polarisation have proved unfounded. IFAs are getting fewer but bigger and are becoming an increasingly important sales channel for product providers. What lies in store over the next five years?
The big will get bigger
The IFA market has traditionally consisted of a large number of small businesses. How ever, over the last five years, many IFAs have consolidated either into bigger companies or networks such as DBS or Countrywide. Growth of the networks will continue over the next three to four years.
Several factors are driving this flight to the networks. One is the cost of compliance and another is the cost of continued investment in technology. However, the biggest single reason is the increase in commission rates that are achieved by membership of a more powerful bargaining group.
At the same time, other factors are at play, creating bigger entities. The partnering of Willis Corroon and Abbey National's independent financial advice business has created a model likely to be replicated. Big organisations recognise that their marginal IFA businesses need to grow to be sustainable.
More small IFAs will be driven out of business
The IFA market will be further reshaped by losses at the sma ller end. Smaller retail businesses are being eroded by the "remote transactors" which are becoming more popular for limited-advice products.
Although these have yet to make much impact on areas that require a higher level of advice, many IFAs will find it hard to compete against direct services, given that they do not have the scale or skills to deliver effective call centres or internet technology.
The final major factor at work will be the painful resolution of the pension misselling saga. Many IFAs have made only minimal progress and, while there seems little doubt that the IFA-focused life offices will ultimately foot the bill, a fair number of IFAs will inevitably be lost in the process.
IFAs will obtain more market power
In the financial services market of the near future, only the very best IFAs will prosper and the process of concentration of purchasing power will accelerate.
The balance of power will inevitably tilt towards the IFA as providers scramble to realign their focus to this consolidating world. As if this were not enough, another dynamic is also in play.
Panels will shrink
These bigger IFAs and networks will be dealing with fewer product providers. According to our research, 70 per cent of IFAs and 85 per cent of networks which use panels are planning to reduce the number of providers on them in the near future.
Combined with the consolidation under way in the IFA market, the likely result is that the number of panel positions will be cut by half during the next three years.
Why are IFAs cutting panel sizes? The main driver is cost. IFAs are keen to cut the volume of administration that their sales generate and one way to do that is to set up electronic data links between the adviser and product providers.
But the trend is for such electronic interfaces to be unique to each provider, since attempts to set up an industry-wide system have had only limited success. The cost of these IT investments gives IFAs a strong incentive not to deal in volume with more than a few providers.
Smaller panels could mean higher commission
The quality of advice given by an IFA's practitioners can be better controlled if there are fewer products to deal with and processes such as commission accounting become easier to manage.
Unsurprisingly, IFAs feel that they will have more success in pushing up commission if they are dealing with fewer providers.
However, IFAs are also looking to the life companies to close some of the skill gaps that exist in their own organisations. One life company is providing a pilot call centre to provide teleappointing services. Another has invested substantial money in professional development of IFAs.
IFAs will become more demanding on product providers
It is likely that core competitive qualities such as financial strength, investment performance and product attributes will increasingly be seen as a factor in making panel decisions.
But choices will also be made according to how much added value the product provider can and is prepared to deliver.
Quality of the IFA/product provider relationship will, therefore, be one of the keys to retaining IFA business. IFAs will demand fast, error-free processing of queries and transactions through effective IT links with the provider.
IFAs may also become involved in product design to provide tailored products for their clients. Some providers are already some way down this track.
However, major IFAs perceive the implementation as sporadic and, although some companies have set up national account teams, IFAs still believe that many providers are not yet convinced in their heart that deepening the relationship is the way to go.
IFA networks will squeeze product providers' profits
The problem is that none of these trends will necessarily lead to higher margins for the providers.
IFAs are already seeing their margins squeezed by the move to single-premium business and will inevitably try to pass on some of that pressure to the providers.
Indeed, doing business with the increasingly powerful networks presents significant problems in its own right. Although they are at differing stages of development, most networks cannot yet be seen as coherent corporate entities that manage or even strongly influence members' activity.
Therefore, in order to generate business, providers will still need to contact IFAs at a local level. Yet the networks demand – and get – substantially higher commission than the small independent, so providers are squeezed between the bulk purchasing power that the networks wield and the reality of their small-scale servicing economics.
The net effect is that few, if any, providers are making money doing business with big networks. The cost of additional investment to meet IFAs' rising expectations therefore needs a considered response from the providers.
How will product providers respond?
Overall, we see four primary strategies starting to emerge:
Develop a deep focus
For most providers, this means a radical shift to focus on a very small number – less than 100 – of major accounts. Rather than spreading the sales effort thinly across a wide field of IFAs, the deep- focus strategy means building up a close relationship with selected firms, understanding and targeting registered individuals and integrating IFAs into the product development process.
This strategy is the bravest one but provides the greatest opportunity for profit. After all, around 60 accounts today generate around 45 per cent of business and concentration is rapidly increasing.
Segmentation and differentiation
This strategy aims to main-tain a spread of business throughout the market, servicing both big IFAs, networks and smaller accounts. It is, therefore, suitable for providers aiming to be among the biggest players in the market.
The strategy requires the provider to be structured for a multiple approach to the market. The first arm of the strategy would aim to achieve deep focus, concentrating on big, high-valued accounts and providing a high level of service with customised products, service levels and rela tionship management.
Another approach would operate at lower cost through remote broker consulting and standard products and pricing. These operations, which effectively would require different sales and service cultures, may best be operated as separate sales organisations sharing certain services to maintain economies of scale.
Build process excellence
This strategy concentrates on enhancing the service relationship with IFAs. It need not entail market segmentation or differentiation.
Investment in IT links with IFAs and other services can be targeted at the market as a whole, with thousands rather than hundreds of accounts.
However, it does not solve the profitability problem, nor does it on its own realign the provider's sales resource within the changing marketplace.
Develop niche products
The niche product strategy, which has been used by a few companies for some time, is based on product specialisation. The aim is to develop product expertise and design skills to the point at which generalists are squeezed out of that particular sector.
However, the strategy carries the risk that the entry of a competent and determined competitor to any niche sector could be very damaging.
Achieving scale equilibrium
The perceived wisdom has been that 8-10 per cent of the IFA market would put any company at or near the top of the marketplace, making a provider powerful enough to deal with big IFAs from a position of strength.
But Standard Life is already at around 12 per cent and, if the mergers between Sun Life and Axa and Prudential and Scottish Amicable can be made to work, then this group of three will create a breakaway from the rest of the market.
There seems little doubt that consolidation is also changing the provider side of the market quite dramatically.
Soon, there may be only three or four big players in the top tier with around 12 per cent or more of the market. Below them there will be a second tier of perhaps five companies with around 7 per cent of the market apiece.
There will also be a number of niche players, each highly respected, with strong positions in their own pro duct areas. However, this will account for only a small proportion of the market as a whole.
If this prediction is broadly right, there will be a great number of companies with 2-5 per cent that will soon start declining.
Coping with IFA power will be difficult. At the best of times, relationships between IFAs and companies can be uneasy. Over the next few years, it will become downright dangerous.
Matching the companies and IFAs for scale and locking the businesses together will generate mutual dependence and stronger security and profitability for both.
But like so many other things, it will need clear vision, substantial investment, unwavering commitment and the nerve to jettison the unimportant to see it through.