Writing this stuff down as I’m thinking about it, so be kind and gentle…
In six months, Ritholtz Wealth Management will turn five years old. For the first four and a half years of our time as a firm, our strategy could be summed up in one word: GROW.
Simple, and maybe even a bit childish, but it’s all we knew. So that was the answer to every question since the fall of 2013.
The good news is, it worked. The firm launched with five people total and a touch under $90 million in assets under management. We’re approaching $900 million in assets and expect to be there by the end of the second quarter at the current rate – that’s 900% growth in assets in under five years or a compound annual growth rate (CAGR) of close to 60%. This is in the context of the overall RIA business growing assets under management at just 5.8% last year, and an average CAGR of 8.1% since 2001 (source).
Upon launching, with our one-word strategy serving as the overarching purpose, we immediately ran into some challenges that forced us to learn some things really quickly.
We lost our biggest account the week before launching, because a large bank was willing to make loans against some holdings that an RIA firm couldn’t (wouldn’t). We lost our fifth employee – and only administrative assistant – within a week of setting up shop. We were forced to fire one of only three outside separate managers we’d worked with because their investing process materially changed. Within 18 months, revenues were booming but so were costs. We’d grown, but unprofitable growth is a tax on an organization’s confidence. The shock of having to go into our own pockets to meet expenses at the end of a few quarters set us straight relatively quickly.
The decision making process got serious in a hurry.
Of the four founding partners of the firm, not one of us had ever run our own business – any kind of business – before. Over the next few years, our choices became smarter, as did our command of the expenses, cash flow issues and priorities of the company. We’ve done better deals since, having learned firsthand from those first two years about what to say yes to, what to say no to, when to negotiate and when to simply walk away from an opportunity.
One of the key things we didn’t screw up was culture. We have all the right people in all the right roles. There were some close calls where we would have ended up regretting an addition to the firm, but so far it hasn’t happened. Michael and Kris are so vigilant about this potential danger that Barry and I have learned to trust them implicitly when they bring a red flag to our attention.
We’ve gotten a bunch of other things right too, which I won’t list here, but culture was the big one. And I don’t mean culture like in the B-school buzz word sense. It’s not a box we check off or a thing we posture about in slide decks. For us, culture is the product. It’s, like, the whole thing. It’s all we have. Protecting it and projecting it is a business imperative. Given the way we hire (fans of our blogs and books) and the way we bring on new clients (fans of our message and our investing philosophy), if we lose it – or violate it in some way, we’re done.
And now the time has come for us to get more specific about our strategy. GROW will still be a priority, but there will be more nuance to it now that we know how to grow profitably. Culture will still be the engine of our growth and the way we’ll know whether a decision is right or wrong for us. As Michael likes to say, if it’s not an immediate yes, then it’s a no. We don’t turn no’s into yes’s – the opportunity set is too large for us to do mediocre things with our time and energy.
Some of that nuance that I plan to more formally institute into our strategic decision making can be categorized. One example is the way in which we think about geography.
Large brokerage firms and wealth management firms with their roots in the 20th century have mostly pursued a geographically-focused strategy of opening new offices – what I call the Hard Rock Cafe strategy: Decide on which neighborhoods and in which cities to open a location, and then staff it with local people in those markets. Beverly Hills! Palm Springs! Scottsdale! Fifth Avenue! The Gold Coast! South Beach!
It’s 2018. There are mobile phones and internet connections and social networks and Google Hangouts and Skype and all sorts of virtual tools that allow a firm to be located anywhere and serve anyone. We used to talk about “We need an advisor in San Francisco” and “Wouldn’t it be great to have an office in DC” given how large our audience is in these areas. We don’t talk like that anymore.
We’ve learned, instead, to focus on finding the right people and then decide whether or not they’d be a fit with our clients. The geography becomes secondary, or in many cases, irrelevant. I want rock star advisors who speak our language and whose clients love them. We opened in Portland rather than in Seattle for this reason, in Newport Beach rather than in Los Angeles – in these places, we found people we like and believe in.
And when we happen to find some rock stars who are located in a major hotbed of our readership (our new hires in Chicago, for example), then that’s wonderful. But I would’ve hired my Chicago people if they were located anywhere – they’re unquestionably a perfect cultural fit.
It’s the people, not the places. Throw away the map.
This extends to the training we’re doing. I’ve come to the conclusion that I would prefer to have young advisors without a lot of experience (and no assets whatsoever) who are absolutely committed to learning our way of doing things rather than to try recruiting a “big producer” from a wirehouse who thinks he has the whole world figured out. I would rather bring in a sole practitioner with her own small RIA firm who is a great cultural fit than a corner office VP from a prestigious firm who has a massive book of business but is stuck in his ways.
We’ve proven that we can train young, up and coming advisors. If we can do it twice or three times, we can do it endlessly. This way, our efforts go into teaching, nurturing and enrichment – a better use of our time than deprogramming or compromising. There aren’t enough hours in the day.
Speaking of vigilance, one of the things we’re most cautious about is importing someone else’s culture into ours and then having to either learn to like it or perform an exorcism. I was listening to a podcast a while back with the general partner of a multi-billion firm. I was in awe of what they had built and how they had managed to put four or five medium-sized firms together into something enormous. And then the interviewer asked him how many investment strategies the advisors at his firm employ. “Oh, I don’t know, hundreds,” he said.
He explained that during the course of their due diligence process for buying all these firms, the founders he was talking to mentioned wanting to keep investing for clients the way they always had been. And, in the interest of expedience, the firm said okay. You do that a few times and make a few exceptions here or there, and you end up with nothing. A pile of leaves. You’re just building a new LPL. And the world doesn’t need another LPL – hundreds of reps acting as their own PMs, buying and selling different products and managing to all sorts of different benchmarks, biases, emotional touchpoints, special situations, unfulfillable promises and god knows what else.
Aha! I said. They’re big, but there’s no culture. They’re just processing paperwork and pooling resources. It’s not a firm, it’s a platform. I remember showing it to my partners and saying “This guy’s good, but we’re better. I got him!”
I feel the same way about roll-ups, by the way. Raising a bunch of money from private equity firms and then smashing together a bunch of cultures in order to throw off bond-like income is not that hard to do. And the end result is far less impressive up close when you’re talking to people, no matter how big the asset totals are. There are good roll-ups and bad roll-ups – but that’s the furthest thing from what we’re looking to build.
Suffice it to say, I’m all grown up now and no longer impressed with AUM as I once was. Tell me how that AUM is managed, where it came from – and what have you said no to over the years. What did you turn down? That could definitely impress me.
Why all the continued focus on growth? I think within a few years, a billion dollars under management is going to be table stakes. We will reach a point where firms that haven’t gotten there are not going to be able to. Happens in every industry. There are over 11,000 RIAs according to the last source. And if the average firm is growing slower than 6%, there’s no reason to think there will be that many a few years from now.
Compliance costs, healthcare costs, technology costs are only going in one direction. And the good news for the end-investor is that the cost of advice is trending down (as it has been for decades, by the way). This is all good news for firms that have reached a certain scale, because they can bring these tools in for their people and bear these costs. It’s not great news for firms that don’t have a plan to get there, and fast. They’re going to have to sell out or merge or, in a worst case scenario, do a slow-motion retirement where the book just winds down.
I think a firm like ours is going to be perfectly positioned for the coming era – a strong voice and differentiated message, a highly cost-competitive service, the size needed to deliver for clients and maintain profitability, the agility (I like to say scrappiness) to adapt to technological change. Being bigger gets you better pricing with vendors – and more attention from them. But being too big makes it difficult to change course or move quickly in response to shifting industry dynamics. When I meet founders of advisories who began fifteen or twenty years ago, the conversation inevitably meanders into regrets about the aspects of their firms they can’t kill off.
I’m very proud of a long-term initiative we began last spring that is only now coming to fruition. The firms in our business that we most seek to emulate have built on the loyalty of their advisors through a compensation plan that makes them feel like owners – and then turns them into owners in actuality.
At the end of last year, following an epic and exhaustive project undertaken by our CFO Bill (not to mention a very expensive consulting engagement), we instituted a variable compensation plan that pays advisors and support employees based on the after-cost revenue the firm generates, separate and above what they already earn on their own work. They now have the ability to earn more as the firm grows, and have the incentive to bring on profitable growth and to cheer each other on. Every employee, on their one-year anniversary of employment with us, becomes eligible to share in the pool.
This ought to have people focused not just on their own slice of the pie, but on the overall size (and quality) of the pie itself. In order to have happy clients, we need to have happy staff working with them each day – beyond just the advisor a household is assigned to. To attract rock star advisors and staff, we need to have more to offer than a payout or a salary grid. As the firm prospers, it is important to Barry and I – and to our future – that all team members prosper along with it. Teamwork is the only way this thing works. I came from the “eat what you kill” world on the brokerage side, and frankly, it’s an anachronism that almost always leads to bad attitudes, perverse incentives and the kind of in-fighting that we simply don’t have time for.
The next step, being implemented now, is our employee equity purchase plan. I’ll have more to say on this at a future date, but the bottom line is you can’t get people to act like owners if it’s just an empty platitude. If you’re not an owner, you’re not an owner and if you are, you are. Platitudes are for panel discussions at conferences. This is real life.
I couldn’t have written a post like this even a few years ago, because I had concepts in mind but very little idea about how a lot of this stuff was supposed to work. We had to make mistakes and find solutions – no amount of books or articles could have ever replaced the experiences we’ve had and the lessons we’ve learned.
But now, as we age out of the startup phase and take our place among the larger firms in the industry, it’s time to get very specific and to iterate the strategy more precisely. We’re getting there. I can’t wait to see what I think about these issues after another five years. Will I still feel the same as I do now? Or will I have learned even more and evolved even further?
I can only hope that if I am in error about any of the above items, it will be made clear to me as quickly and as painlessly as possible. But that might prove to be overly optimistic. I’ll let you know then.
Thanks for listening.