Succession planning and the 'risk no firm can afford'

A new study highlights a significant flaw in wealth management firms' recruitment and development strategies for the next generation of financial advisors: a lack of succession planning.

The study, conducted by Kestra Financial and Bluespring Wealth Partners, surveyed 269 practice owners and senior advisors about their approach to succession planning. Researchers found that 94% of owners were missing at least one essential element for a successful transition, such as developing a timeline or outlining equity offerings for potential successors.

"While owners and successors each have a vision of opportunity, they often operate with different assumptions and unclear expectations," the report's authors wrote. "Owners tend to feel confident, while many intended successors feel stuck, undervalued and uncertain — some even on the verge of walking away. In an industry facing a scarcity of next-generation talent, that's a risk no firm can afford."

READ MORE: How this RIA jumped two succession hurdles at once

Retention among advisors seen as prospective successors was significantly impacted by their perceptions of the practice owner's succession preparedness.

Among advisors intending to remain at their current practice, 66% believe the practice owner is prepared or very prepared for retirement and a leadership transition. In contrast, only 22% of those uncertain about staying feel the practice owner is similarly prepared.

"He tells me I'm his succession plan. But there's a lot of holes with what we have. I feel like I'm a free agent still," a prospective successor told researchers. "Sometimes you need to leave to be taken seriously."

A major misalignment

A majority of owners (53%) said that finding advisors who are aligned with their own values is the biggest challenge when it comes to succession planning.

While many prospective successors are motivated by equity and earning potential, owners say that client care is their chief concern when thinking about succession planning.

"The difficulty of finding a successor that matches your style of managing your client base — I think that's the hardest part," an advisory owner told researchers.

Some 43% of owners rank client care as their top priority in planning for retirement, ahead of maximizing their practice valuation (23%) or ensuring their employees are taken care of (15%).

READ MORE: The 'fundamental' talent shortage looming over wealth management

But in practice, all of those factors affect each other, according to Pradeep Jayaraman, CEO of Bluespring Wealth Partners.

"Imagine if you're a very successful owner running a great business, but with no succession plan. Your business is only as good as it can be while you are involved, right? Once you retire, who's going to carry on with the legacy of the business? To me, that's the biggest implication," Jayaraman said. "Ultimately, businesses that have succession planning figured out are going to make sure that the clients are going to be taken care of, the staff is going to be taken care of and, ultimately, there is going to be a significant correlation with how they're going to get valued as an enterprise if they decide to sell."

Paul Feinstein, the CEO of Audent Global Asset Management in Los Angeles, said that many owners who lack a complete succession plan are simply confused about what to do.

"That is a different, very large task and is fundamentally apart from the day-to-day work advisors have been doing for decades as they grow their business," Feinstein said. "Most advisor owners won't know what the checklist looks like to satisfy 'fully documented,' and they need to start learning immediately."

Overcoming roadblocks to succession planning

Beyond value alignment, creating a complete succession plan can involve a variety of material and psychological roadblocks.

Many owners in the study expressed difficulty with letting go of a business that they built, even if they understood the necessity of succession planning.

"The business is something you started yourself and built. It's really hard to say goodbye," one owner told researchers. "It's hard to give up control. It's hard to leave something that's part of you. It's who you are."

Simultaneously, many potential successors said they feel like they're not given the opportunities to take on firm-level leadership, particularly in strategic planning and business financials — the exact skills necessary for them to eventually assume ownership.

For owners and advisors looking to start or improve their succession planning, Jayaraman pointed to four key areas, including opening up communication, offering leadership opportunities, laying out a clear succession plan and creating a path for distributing equity in the practice.

READ MORE: How financial advisor compensation is crucial to succession and M&A

In the study, 1 in 3 successor prospects said they would consider leaving their current practice without a clear succession timeline. And 1 in 4 said they would consider leaving without being given equity or a timeline for receiving equity.

"Nothing empowers somebody like [equity]," Jayaraman said. "I have skin in the game and I own a piece of the business."

Poor succession planning also has implications for attracting up-and-coming talent, Feinstein said.

"A top-tier young talent is going to look for stability and proper planning before joining an advisory firm headed by an advisor nearing the last few years before retirement," Feinstein said. "Can that advisor convince young talent that the transition through a sale of the business will be advantageous for them on their journey to a strong book of business? If the answer is no, then the lack of succession planning has hurt the advisor's business by restricting access to the best talent."