If “the House” Always Wins…Why Play?

What it means to “Look Beyond the Payout”

Despite understanding the poor odds, some still choose to “roll the dice” and try to beat “the House” at its own game. We know the risks, yet the chance to win big and have fun is more important than acting rationally. While taking chances, no matter how unfavorable they are, may be fun for entertainment, casino odds have no place in your business life. Yet, this is exactly what many smart advisors are doing, oftentimes unknowingly.

When a Registered Investment Advisor (RIA) is capitalized by an injection of Private Equity (PE) or Venture Capital (VC) money, they typically create a Limited Partnership (or similar investment structure) for their investors. These dollars are a sleeve or allocation of an overall investment pool. The goal of each sleeve is to realize a return to feed the “fund” which then feeds return on investment to investors. Thus, when an RIA receives capital from PE or VC and then acquires Advisors, they must create a business model that ensures investment capital is paid back first.

This is usually done by finding spread in the various product lines including (but not limited to):

· Platform Fees · Minimum Accounts Fees · Investment Products · Markups on Non-Investment Items · Licensing · Annual Account Fees

The markups are so many and so deep, firms can offer advisors higher payouts while creating the illusion that they are a low-cost solution for clients. One way or another, “the House” will win, these expenses will hit clients’ accounts, and an advisor’s payout will be offset. Also, the advisor will need to justify his/her fees to charge a fair wrap fee.

This is not to say it’s always a bad business decision to accept PE/VC money. But if you’re hoping to make a sound transition decision, you must go beyond payout. Consider the impact of accepting this money on extra fees for your clients and over what time frame “the House” expects to recuperate their money. To find this out, read their ADV. Explore potential conflicts of interest and understand what and how they markup products. These disclosures and information are readily available so do your homework.

Don’t confuse a high payout with your ability to be a great negotiator. Ask yourself, “If I’m getting an upfront check to transition, where did that really come from and what is the cost to me and my clients (in basis points)?” You may quickly find that “free” money is actually a long-term loan that you and your clients must pay back.

When you make a decision that will impact your clients, career, or business legacy, make sure you understand the risks. Ask the right questions, get clear answers, and stay informed to beat “the House” and allow your career and clients to win.