If you’re feeling pricing pressure, you’re not alone.
At CFA Society Toronto’s Annual Wealth Conference this week, about two-thirds of audience members said they feel price pressure. (The question was asked and answered via smartphone, with responses tabulated.) In the current environment of low-cost online competition, that pressure comes as no surprise and will likely increase.
What’s a wealth manager to do?
In a conference session on pricing, Matthew Jackson, director in financial services at Simon-Kucher & Partners in New York, suggested a pricing model overhaul. In particular, a fee model based on assets under management likely isn’t sustainable unless modified, he said.
Current pricing may work well now, said Jackson, “but it’s predicated on everything staying the same,” which is a dangerous assumption.
Asset-based pricing as industry affliction
Sounding the alarm bell on asset-based pricing isn’t new. Having clients pay more because they give more doesn’t make sense, as many have noted. In most other businesses, the relationship between value and price is linear, with clients getting more as they pay more, said Jackson.
Change in industry pricing is new, however, and is accelerating alongside industry change. For example, clients—big and small alike—are comparing traditional wealth managers with cheaper alternatives. In a March 2018 edition of Michael Kitces’ Financial Advisor Success podcast, U.S. investment advisor Peter Mallouk, an independent, shared a story about a prospective multi-millionaire client deciding among three investment managers: Mallouk himself, Goldman Sachs—and Vanguard. Firms require an effective response to that juxtaposition.
Related is the trend toward greater fee transparency. “The AUM model is many things,” said Jackson, but it isn’t transparent.
Further, wider digital transparency puts pressure on asset-based fees. For example, Jackson told the audience to expect an increase in apps that inform consumers how much they pay for a service compared to cheaper options.
Another negative: wealth managers using an asset-based model don’t have as much control over price as they think, given fees are ultimately determined by what clients give and what the market returns, said Jackson.
The clincher: asset-based pricing hurts the industry’s long-term growth, he suggested—despite asset-based fees being a growing revenue source over the last few years relative to transaction-based fees—because it impedes recruitment of clients with less to invest.
It’s not just a question of capturing milliennials, said Jackson. A new pricing model is needed to “open up the whole of wealth management to the whole of the prospecting public.”
The way forward
The answer to the price problem is to innovate.
“Innovation on price is generally an attempt to bring price in line with value,” said Jackson. This is different from increasing the value you offer clients—an industry focus since the rise of cheaper competition.
When you increase value, “you’re giving more for the same price,” said Jackson. “That’s going to increase our costs; it’s not necessarily going to increase our revenues or profitability.”
He concedes that price innovation is a risky proposition; however, the industry is starting to think about it, he said, sharing several examples of pricing innovation, mostly by independents. Pricing models ranged from hourly fees and subscriptions to menus and super-retainers.
A model proposal
Using current asset-based pricing, Jackson suggested the link between value and price could be restored through a model that uses client service levels. For instance, premium levels would reward high-revenue clients with more hours of service, while lower-revenue clients would access these levels by upgrading for a fee. He showed an example of four service levels ranging from five to 60 hours of annual service (actual hours would be unique to each wealth manager’s model). The range in client hours would provide a lever to have the pricing discussion with clients flirting with robos, said Jackson.
The model works because the cost to serve a client is aligned with price and value, such that hours saved on lower-revenue clients would be spent on higher-revenue clients. In current models, client cost tends to be considered flat across all client types.
The proposed model is easy enough to understand but hard to implement, conceded Jackson. However, when he plugs real numbers into the model, “it works out,” he said. And the model would be robust to further pricing pressure because it’s value-based, not competition-based. Further, every client would be profitable.
Making your move to a new model
Advisors ready to move to a new pricing model should begin by considering what services to offer and who to target. “There’s a right fee structure for every offering and every client,” said Jackson. “There’s no single right fee structure.”
During the process to offer a new model, end clients should be consulted through surveys, for example, said Jackson. And the model should be stress-tested with a firm’s front-line advisors. “They’ll be the first people to see an obvious flaw,” he said.
He left audience members to consider where they stand as the industry changes. Right now, he said, some wealth managers are targeting new client segments with new fee structures, some are future-proofing current fee models through value alignment (as with his proposed model), and some are still considering their pricing options.
To the last group, Jackson’s message was clear: “don’t stay in that position.” Industry change, whether fast or slow, demands action.