What’s the value of advice (businesses)?

Advice businesses currently make good sense for investors, according to Morningstar president of Morningstar Wealth Daniel Needham. 

Demographics, regulation and technology all combine to keep the supply of advisers low, he said. 

“As an adviser, it’s a great industry to be in where there’s increasing demand and falling supply – It’s a positive dynamic,” says Needham. 

As a former analyst, Needham asks the question: “If I was researching the Australian advice industry would I want to buy it, as in what I want to invest in it, or would I want to not invest in it?”  

And looking at the supply side of the equation, the number of advisers is shrinking and the demand for advice is growing and the wealth of those seeking advice is also growing. 

Current profit margins are over 20%, according to Needham, and to have a business that can not only survive but have margins at this level is really remarkable.  

“Obviously, there’s different ways of measuring your profit margins. And it’s sometimes hard to work it out, but generally these advice practices in Australia relatively high margin,” he says. 

Needham compares it to the fact that most small businesses in Australia fail within a decade with around 60% of small businesses failing within the first three years and those that do survive generally have pretty low earnings. 

“And so, the economics for businesses that reach scale in the advice industry are really compelling.” 

“This is a time to be optimistic, very attractive and a great time to be an adviser,” Needham says. 

Retirements in the industry are expected to continue, and the industry is really struggling to convert trainees into new advisers because of the onerous education standards and experience requirements, Needham says. 

There is also good news on the AI front. “Digitisation and technology are going to allow you to run a more efficient practice serve more clients without adding more people,” Needham says.  

“The name of the long-term game for scale is building revenue – outgrow your operating expenses – and technology is going to be a way to do that. 

“Scale is critical to driving business value. You want to be able to break the connect between revenue and expenses.” 

Regulations good for valuation 

The number of regulations continues to grow. It doesn’t help the incumbents and prevents new entrants. The Australian industry is one of the most heavily regulated – SOAs, educational standards, there’s very little doubt that the cost of regulation is preventing new people entering the industry.  

There is a net positive if you are the incumbent, it might cost more but it reduces competition to generate profit. 

“There’s ample opportunity to grow profits once people reach scale 

1) Firms that define a value proposition, focused on the customers best services by their unique advantage of the firm 

2) Acquiring talent is integral to the wealth transfer challenges not unique can be solved with an efficient operating model 

3) Scale is critical to driving business value – outsourcing, management for scale, and leveraging for scale. 

Building your value 

Firstly, focus on your ideal customer profile that suits your unique advantages. 

“A smaller number of aligned clients will normally make a better business and given the fact that you often have your choice of your clients, it can pay to focus on areas that that you do well. 

Secondly, you’re a small business owner, entrepreneur, and a leader and that’s how you should think about yourself acquiring talent and retaining clients through intergenerational wealth transfer.  

These are business problems, not advice problems. Spend more time on the business than in the business. “With the attractive economics of this industry, that will be time that’s going to be well rewarded,” Needham says. 

Luxury metrics 

“If you think about yourself as a financial adviser, this is a great industry to be in, because not only are there fewer competitors but the amount of money that your clients, the purchasers of your advice, have continues to grow.” 

And rising demand with limited supply is an example of what luxury goods manufacturers like Hermes or Cartier do well, says Needham. 

“Their whole strategy is around, demand outstripping supply and, so, whilst financial advice isn’t quite the same as a luxury good, it certainly has some similar supply side aspects to it.