Building a More Valuable Practice – Tip #2

Building a More Valuable Practice – Tip #2

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Not All Revenue is the Same

There are many ways to grow your practice – the most obvious being adding more revenue, more assets and/or more clients. However, not all revenue is created equal in the eyes of a buyer, and not all revenue has value. The key is to ensure your revenue is predictable, and this can take place in a variety of ways for both recurring revenue sources (fees, 12b-1s, renewals, and trails) and transactional sources. Regardless of source, buyers will pay a premium for predictable cash inflow.

The Most Valuable Recurring Revenue Sources

Recurring revenue is one of the most valuable and influential factors in valuing an advisor’s practice. Currently, gross recurring revenue is valued in the market between 2.0 and 3.5 times an advisor’s payout (or gross billings for an RIA), with an average of approximately 2.39. However, not all recurring revenue is valued the same by buyers. The recurring revenue currently receiving the largest premiums are 3rd party managed assets due to their recurring nature and ability to scale and trails from A shares given the recurring nature and future opportunity for conversion.

Making the Unpredictable, Predictable Recurring

Transactional or commission revenue is a one-time revenue event, which holds almost no value to a potential buyer, right? Some transactional products are more consistent than others – such as individual stock and bonds, REITS, UIT’s, while some are less consistent/predictable like life insurance and fixed annuities. Lets examine REITS as an example – you place your client’s asset in a REIT, then after a few years the REIT matures and the assets are invested in another REIT (or anything else in the clients best interest) generating another commission. If this cycle is maintained each year for a segment of your business, every year REITS are maturing providing a new revenue generating opportunity for you or a buyer. In this example, you have turned your transactional revenue into a very predictable revenue stream that a buyer would pay a premium for. This same strategy can and is used in practices that focus on annuity sales, or individual stocks and bonds that are actively traded. There are still likely be changes from one year to the next, but if a buyer can see your transaction revenue is with 10% +/- each year, you can now make a case for it being semi-recurring in nature and therefore having value.

An additional strategy for building a recurring transactional revenue stream is to create sustainable sources of new clients and assets. For example, tapping centers of influence, referrals from existing clients, marketing/seminars, radio show, and/or a strong web presence.

Transitioning to recurring revenue sources like fees, 12b-1s, or trails will always generate the most predictable revenue stream in a buyer/successors eyes and it will improve your value. However, even transactional revenue can hold value in a buyer’s eyes, but it isn’t likely to happen by default. The key to building a more valuable practice is to be thinking about and focusing on not just the day-to-day operations, but the value of the enterprise you are building and will eventually pass on to the next generation (of advisors and clients). As you think about the value of what you are building, remember the quote from renowned author/management consultant Peter Drucker – “What’s measured improves.”

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