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Nothing Succeeds Like Succession

Two years ago, Dennis Miller was climbing toward the icy summit of Pico Orizaba, Mexico's tallest mountain. At 18,000 feet, he lost his footing on the ice and tumbled half a vertical mile, shattering his leg in the fall. With rescue efforts thwarted by bad weather and by fading light, Miller (who was 59 at the time) was stranded overnight on the mountain. He was eventually picked up the next day,

Two years ago, Dennis Miller was climbing toward the icy summit of Pico Orizaba, Mexico's tallest mountain. At 18,000 feet, he lost his footing on the ice and tumbled half a vertical mile, shattering his leg in the fall. With rescue efforts thwarted by bad weather and by fading light, Miller (who was 59 at the time) was stranded overnight on the mountain. He was eventually picked up the next day, but the brush with death highlighted some very important overdue items on his life's “to do” list. Prominent among them: Creating a succession plan for his financial advisory firm that would let him work less, yet still make money from a business he had spent his life building. “That event made me realize I didn't want to work like I had been anymore,” says Miller.

So, after 13 years of running Miller-Russell, one of Phoenix's largest boutique investment management firms, with $700 million under management, Miller began the arduous process of formulating a plan to sell his firm. But to whom? And for what price?

The irony that Miller — who gets paid to prevent clients from painting themselves into a financial corner — was in this spot as his 60th birthday approached is not lost on him. But Miller's case is surprisingly common among independent financial advisory owners. According to a 2003 study by Schwab Institutional and Neuwirth Research, an independent research firm in New York, only 20 percent of RIAs using Schwab Institutional's platform reported having a formal succession plan in place. That's all the more surprising given the respondents' mean age of 51 years. If that weren't bad enough, the 80 percent who said they were without a plan also said they did not intend to create one for another seven years — a shockingly late start on retirement planning. While it's only a sample of the roughly 36,000 RIAs and 81,000 independent advisors in the U.S., the fact is that a large number of sophisticated planners have not prepared for the future of their own businesses as they approach retirement.

Tim Welsh, director of strategic programs for Schwab Institutional, which offers a suite of succession-plan services to advisors, says the basic problem is advisors underestimate what it takes to build a plan. “They think they're prepared, but more than likely they're not,” he says.

Welsh says it takes roughly five to 10 years to investigate an overall strategy, to bore into valuation and compensation details and, ultimately, create and put into action a customized plan. Advisors who want to make a move generally have three choices, he says: sell the practice to an outsider and exit the business; prepare a successor who buys them out in some fashion later on; or abandon the practice. The last choice, which is usually the result of sudden illness or death, is obviously the least desirable.

Deciding between choices one and two is the first step, says Philip Palaveev, a senior manager with Moss Adams' advisory services group. “There's a perception that one day you'll wake up and sell it off for a pretty sum,” says Palaveev. Not so, he says, and whether you decide to go outside or inside for a succession, a minimum three-year window is important after making that decision. “In both cases, you have a sale, and you have to convince someone it is worth buying,” he says.

Some things to consider: Is the buyer a good fit for clients and for the practice? Is the buyer financially capable? Can you be sure they'll meet yearly earn-outs? When the sell date arrives, will the market be a sellers market, or will it be a buyers market?

Other things to do: Clean up the practice's bookkeeping to provide the buyer with an accurate portrayal of the economics of it, Palaveev says. Also, clean up the client base: Eliminate marginal clients. This preparation, he says, will maximize price, reduce hassle and limit credit risk by weeding out unqualified buyers more effectively.

David Goad, president of Succession Planning Strategies, a consultancy in Newport Beach, Calif., says the trend among RIAs and independent advisors is to sell the firm to an insider. According to a survey of RIAs and independent advisors by Goad's firm, only 19 percent said they expected to sell their business to someone outside the firm. Most said the inside sale would be to an employee (66 percent). The rest said they expect to sell to a partner.

An internal successor must be carefully groomed and prepared for a minimum of five years, says Palaveev. “They need to be introduced to the clients, so the clients become comfortable with the new person, and vice versa,” he says. Also, advisors must introduce successors to all referral relationships for the same reason and to ensure continued growth of the business.

If he'd had the time, and if circumstances were different, Miller would have preferred an internal succession, but it wasn't to be. “I wanted to make sure everyone got a piece of the rock, but I didn't have that one person I wanted to pass it to; there were a few,” Miller says. The problem arose when Miller convened meetings with his potential successors to discuss the valuation of the firm and the method of compensation. “We just completely disagreed on everthing,” says Miller. Most important, the employees thought he was asking too much.

When talks failed, Miller hired a well known consulting firm to value the practice. But he disagreed with their evaluation. Then he enlisted the help of an investment bank. That didn't work either — it too undervalued his firm, he says. “Basically, I felt they didn't understand the business.”

Fortunately, his firm is in a great position now, but he says he got lucky with an unsolicited offer after it became clear that an internal move wasn't going to work out.

Today, Miller-Russell is intact and happily married into a bank holding company in Phoenix. In the end Miller got superb value for the firm (he was right, the consultants were wrong), a two-year deferred stock plan for himself and four-year deals for his staff. Not to mention, he also got continued control of his clients, the benefit of bank referrals and a secure future for his clients and the business within a successful bank.

Looking back on the compensation issue — the other impediment to the internal handoff other than valuation — Miller says he had actually been exploring a variety of option and stock-purchase plans for several years, but he found the whole thing to be “such a cumbersome and convoluted process.” Unfortunately, this is fairly commonplace in the RIA community, says Welsh. “Lack of resources is still a problem. There aren't enough knowledgeable professionals, from accountants to attorneys, that understand the business model and can offer help.”

Palaveev says more and more broker/dealers, such as Schwab and Raymond James, are offering in-house succession services that include education on preparation and finding the right fit, professional resources like CPAs and attorneys to help with valuation and compensation, and even a marketplace in which to buy and sell a practice. Others, like Business Transitions (, commonly referred to as FP Transtions, in Portland, Ore., offer a family of succession-planning Web sites for financial planners, RIAs and CPAs, and provide an online marketplace for buyers and sellers, as well as on-site consultancy services.

But resources aside, for many of these entrepreneurs the problem begins in their heads. According to Cerulli Associates, 72 percent of financial advisors say they don't know when they want to retire. Building the business and making it grow is priority No. 1, and it becomes their blood, sweat and tears. Handing it off in to someone else's care is difficult to accept. “A lot say, ‘I did all the work, got all the clients, it's got my signature on it,’ it's not easy to let go,” says Mike Sargent, a 65-year-old retired RIA in Boulder, Colo., who did just that. He handed over his practice in 1999 in a manner that everyone would prefer — smoothly.

He says getting maximum value for his practice wasn't his ultimate goal, though he says he did get fair market value. But he got something more — peace of mind — by selling it to a trusted successor he had personally prepared for the job. Today, he's “living the dream,” he says, in large part because he set up the succession plan soon after he began his business in 1988, prodded, like Miller, by asking himself, “What if I die?” — but without the immediate possibility of this actually happening.

With limited knowledge in what his future options were, Sargent says he started with good people. “I hired people smarter than myself,” he says, “with matching values and good chemistry.” A CPA by training, he says he began doing his own financial planning for the terms of the eventual handoff right at the start, and began grooming an heir soon after, with the process and expectations laid out for the team to see.

To ensure he wasn't wasting his time, Sargent tied up his heir's growing equity in a deferred-comp program that would vest 10 years out, ensuring loyalty. Since it was his money and his stake in the firm, he let the successor manage the money. He says he never considered selling to an outside buyer. “If I was after the biggest price, I would've looked outside. But that wasn't my priority,” he says. There were too many question marks. “Going outside posed too many risks I thought — to clients, to staff, to the future of the business,” says Sargent. “I didn't want to be calling my clients of 10 years announcing to them a new relationship manager that could ultimately bail on them in a couple of years,” he says. He wanted someone with an established stake and interest in the success of the business.

To help ensure the success of the business (and that his promissory note was paid off), Sargent mentored the team for two years after the sale, receiving an hourly fee for helping them learn to manage the business. He also continued to bring in new clients during those two years, so his successors gave him a revenue kicker for increased business. Today the firm's assets are roughly $500 million, nearly five times what they were at the time of the sale, a gratifying result of a successful succession. As for Sargent, he's contemplating his 15th vacation of the year.

“Whatever type of succession plan you create, you're really creating a growth plan — providing for continuity of the business and for clients. Advisors need to see it that way, instead of an end or an exit,” says Goad. Why wait for a life-threatening event, such as Miller's, to get started?

Table 1

Future Succession Strategies Most Selected by RIAs and Independent Advisors*
Employee Succession 66%
Selling to a Partner 34
Merging 27
Outside Sale 19
Family Succession 9
Acquisition/Consolidator 6
*Respondents could choose more than one option as their expected succession strategy.

Table 2

Most Important Reason for Selecting a Succession Strategy*
Stay in the Business 36%
Client Well Being 32
Receiving Maximum Value 18
Continuity Partner 11
Legacy 3
*Respondents were asked to select one choice.
Source: 2004 Succession Planning Consultants
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