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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency July 2008

ÂŠ 2008 Aite Group, LLC

www.aitegroup.com

Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

JULY 2008

TABLE OF CONTENTS IMPACT POINTS..................................................................................... 3 INTRODUCTION ..................................................................................... 5 REGISTERED INVESTMENT ADVISOR MARKET GROWTH .............. 6 TECHNOLOGY STRATEGIES WITHIN REGISTERED INVESTMENT ADVISOR FIRMS .................................................................................... 8 THE IMPACT OF TECHNOLOGY INTEGRATION ON ADVISOR EFFICIENCY ......................................................................................... 10 FUTURE TECHNOLOGY INVESTMENTS ........................................... 14 TECHNOLOGY BEST PRACTICES FOR REGISTERED INVESTMENT ADVISORS.................................................................... 17 CONCLUSION....................................................................................... 19 RELATED AITE GROUP RESEARCH .................................................. 21

Alois Pirker apirker@aitegroup.com 617.338.6071

101 Arch Street Suite 501 Boston, MA 02110 Tel: 617.338.6050 Fax: 617.338.6078 info@aitegroup.com

Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

JULY 2008

IMPACT POINTS

Results of this research are based on a survey of 78 registered investment advisors (RIAs) located in the United States. •

Since 2001, RIA firms have experienced tremendous growth in assets under management, which is expected to continue at an annual rate of 21%. Scalable technology is necessary to support and prepare for this growth, as well as address current strains many firms are experiencing with their current technology, processes and infrastructure.

•

On average, advisors spend 34% of their time on clientfacing activities and 25% on portfolio management. The remaining 41% of an advisor's time is dedicated to tasks not directly related to serving the firm's clients, which include administration (17% of time), compliance (13%) and marketing (11%).

•

The survey reveals that a tight integration among advisorsupporting applications can dramatically increase front-office efficiency. - Advisors who are supported by a fully integrated technology environment spend the majority of their time (52%) with clients — about 50% more time than the average advisor. - At the same time, a fully integrated technology environment reduces advisors' administration burden by 33% and their compliance efforts by 30%.

•

Only 27% of surveyed RIA firms with assets of more than US$100 million have a fully integrated technology environment, and only 18% of advisors believe this aspect is very important or essential.

•

Of advisors with assets of US$100 million or more, 24% believe that technology costs will be the fastest-growing area of expenses, after compliance (29%), in their practice in the near future.

•

More than one-fifth of RIAs surveyed plan to make changes to the technology they currently use over the course of the

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

JULY 2008

next one to two years. The focus of these RIAs lies in four areas: account aggregation and data consolidation (26%), performance reporting (22%), portfolio accounting (20%) and asset allocation tools (20%). â&#x20AC;˘

RIAs will have to change the approach they currently employ when dealing with technology. While they clearly invest heavily into this area, the focus is still on plugging functional holes rather than on moving toward a fully integrated advisor platform. Those RIAs who get the technology questions right will be in the best position to grow their business substantially while keeping their costs under control.

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

JULY 2008

INTRODUCTION

The need for independent investment advice has significantly increased since the stock market crash of 2001. Many self-directed investors, once focused on picking the most promising stock rather than aligning their investment strategy to their financial needs, have come to rely on independent RIAs for advice and guidance in their financial matters. Since 2001, the overall RIA market has witnessed an annual growth of more than 10% through existing RIAs growing the amount of assets they manage, and a steady stream of advisors going independent. It is expected that the recent market volatility and recession outlook will have a similar effect on investors as they seek guidance from independent advisors to help navigate the difficult times ahead. The relative small size of most advisory firms, however, can make it difficult for many of them to absorb such rapid growth. An RIA firm's operational efficiency depends, to a large degree, on its ability to create excess capacity in order to take on additional assets and clients ahead of and during times of growth. The use of technology plays an important role to improving operational efficiency. This report is analyzing the state of technology at RIA firms today, their priorities for future technology spending, and the effect technology has on these firms and their advisorâ&#x20AC;&#x2122;s efficiency.

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

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REGISTERED INVESTMENT ADVISOR MARKET GROWTH

The RIA market is characterized by a steady stream of new advisors setting up their own advisory firms, as well as by existing firms growing at a fast pace. Seventy-eight percent of RIAs saw their business improve in 2007 compared to the previous year, while only 3% of RIAs saw their business decline over the same time frame (see Figure 1 on page 6). FIGURE 1: RIA BUSINESS SENTIMENT Q: Compared to 2006, the state of my business in 2007 was: (n=78)

About the Same 19%

Worse 3%

Better 78%

Source: Aite Groupâ&#x20AC;&#x2122;s survey of 78 registered investment advisors, June 2007

On average, surveyed RIAs expect their assets under management to increase to US$155 million by the end of 2008, representing a year-over-year growth of more than 21.1% (see Figure 2 on page 7). Any firm growing at these levels will face significant challenges. RIA firms in particular, given their relative size, may not have a scalable operation in place that will facilitate the digestion of this growth.

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FIGURE 2: RIA GROWTH IN ASSETS UNDER MANAGEMENT Past/Future Growth in Assets Under Management 2006-2008 (US$ Millions, n=62)

CAGR=21.1% $155 $130 $106

End of 2006

End of 2007

End of 2008

Source: Aite Groupâ&#x20AC;&#x2122;s survey of 78 registered investment advisors, June 2007

While hiring additional advisors and administration staff will be part of the solution, the people-side is only one aspect of the challenge. A successful RIA firm requires an environment that allows the client base to grow without growing costs at the same rate. Improving the process and operations efficiency in the areas of investment advice and investment management as well as in the back office (e.g., billing process) will allow RIA firms to significantly increase the assets that each advisor at the firm is able to manage without dropping service quality. In order to improve existing processes, many RIAs will have to turn to state-of-the-art technology and service providers.

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

JULY 2008

TE C H N O L O G Y S T R A T E G I E S W I T H I N REGISTERED INVESTMENT ADVISOR FIRMS

Technology strategies vary greatly from one RIA firm to the next. Surveyed advisors were asked whether applications are used in some of the essential functional areas, and whether these applications are provided by an application service provider (ASP) or deployed in-house (see Figure 3 on page 8). In any of the functional areas, at least 20% of advisors do not use any applications at all. Client relationship management (CRM), client restrictions and compliance are areas in which a majority of RIAs do not have any specialist tool support. Financial planning occupies the opposite end of the spectrum, with 80% of advisors using financial planning tools. In terms of deployment methods, when applications are used for some or all of these business functions, the majority of firms opt for a range of applications deployed in-house, while just around 20% of firms favor ASP solutions. FIGURE 3: TECHNOLOGY SOLUTIONS USED BY RIAS Q: Do you have this technology solution deployed in-house or through an application service provider (ASP)? (n=46) Financial Planning Tools Asset Allocation Tools

15%

65%

20%

Performance Reporting

22%

Client Reporting

20%

52%

28%

43% 43%

35% 37%

Portfolio Management and Rebalancing

20%

Data Consolidation

17%

43%

39%

Client Billing Tools and Fee Tracking

17%

43%

39%

Portfolio Accounting Proposal Generation

9% 17%

Portfolio Monitoring and Alerts

20%

CRM Tools

17%

Client Restrictions and Compliance 11% ASP

43%

37%

52%

39%

43%

35%

46%

30%

52%

35%

Solution Deployed In-House

54% No Application Used

Source: Aite Groupâ&#x20AC;&#x2122;s survey of 78 registered investment advisors, June 2007

While business applications will help advisors get their jobs done more quickly, they will only bring an efficiency boost for advisors once they are integrated into a meaningful technology environment that reflects the firm's advice and investment processes. Figure 4 on page 9 shows the current level of technology integration by firm size.

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

JULY 2008

FIGURE 4: ACTUAL STATE OF TECHNOLOGY INTEGRATION

Q: What is the level of integration of the tools you have mentioned above? (Percentage of RIAs in Category, n=46)

More Than US$100 million

27%

Less Than US$100 million 10%

64%

43%

40%

All tools are integrated

Most tools are integrated

A few tools are integrated

None of the tools are integrated

Source: Aite Groupâ&#x20AC;&#x2122;s survey of 78 registered investment advisors, June 2007

The level of technology integration increases with the RIA firm size. Among RIA firms with more than US$100 million in client assets, 91% have most or all of their business applications integrated. Only 27% of them, however, can actually claim to work in an environment where all applications and services used by the advisor are fully integrated. For 73% of RIAs, this is not the case. The next section analyzes the gain in advisor efficiency that can result from an integrated technology environment.

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

JULY 2008

T H E I M PA C T O F TE C H N O L O G Y INTEGRATION ON ADVISOR EFFICIENCY

The amount of time an advisor spends in client meetings and managing clients' assets compared to the time spent on other tasks — such as administration, compliance and marketing — provides a good measure for an organization's efficiency. The time allocation across surveyed RIAs is shown in Figure 5 on page 10. FIGURE 5: TIME ALLOCATED ACROSS FUNCTIONAL AREAS Q: On a monthly basis, what percentage of your time do you spend on: (n=70)

Compliance 11% Administration 17%

Marketing 13%

Clients 34%

Portfolio Management 25%

Source: Aite Group’s survey of 78 registered investment advisors, June 2007

Advisors currently spend on average of 34% of their time in client-facing activities and 25% in portfolio management. The remaining 41% of an advisor's time is dedicated to tasks not directly related to serving the firm's clients, which include administration (17%), marketing (13%) and compliance (11%). The survey has shown that the time an advisor has available to spend on clients strongly correlates with the level of technology integration at the RIA firm (see Figure 6 on page 11). Compared to the average time spent with clients across all RIA firms in the survey (34%), advisors that work in a fully integrated technology environment dedicate about 50% more time to client-facing activities (52%).

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

JULY 2008

FIGURE 6: TECHNOLOGY INTEGRATION IMPACTS TIME AVAILABLE FOR CLIENTS Percentage of Advisor Time Spent With Clients as Compared to their Level of Technology Integration (n=46)

52%

34%

35%

13%

None of the tools A few tools are are integrated integrated

Most tools are integrated

All tools are integrated

Source: Aite Groupâ&#x20AC;&#x2122;s survey of 78 registered investment advisors, June 2007

The reverse effect can be observed when the time advisors spend on administration and miscellaneous functions is compared with the level of technology integration in their work environment. Compared to the 17% of time advisors spends on these tasks on average, RIAs with a fully integrated technology environment lower this measure by one-third to 11%, while advisors who do not have an integrated technology environment available spend 28% of their time on administration.

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

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FIGURE 7: TECHNOLOGY INTEGRATION IMPACTS TIME SPENT ON ADMINISTRATION Percentage of Advisor Time Spent on Administration and Miscellaneous Functions as Compared to their Level of Technology Integration (n=46) 28%

19% 14%

None of the tools A few tools are are integrated integrated

Most tools are integrated

11%

All tools are integrated

Source: Aite Group’s survey of 78 registered investment advisors, June 2007

The same effect can be observed when looking into the effort spent on compliance functions. A greater level of technology integration will reduce the time spent on compliance functions by as much as 30% (see Figure 8 on page 12). FIGURE 8: TECHNOLOGY INTEGRATION IMPACTS TIME SPENT ON COMPLIANCE FUNCTIONS Percentage of Advisor Time Spent on Compliance Functions as Compared to their Level of Technology Integration (n=46)

15%

14%

None of the tools A few tools are are integrated integrated

Most tools are integrated

All tools are integrated

Source: Aite Group’s survey of 78 registered investment advisors, June 2007

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

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Technology integration is clearly a major driver for advisor efficiency. A second, though significantly less dominant factor, is the amount of assets managed by the RIA firms. The survey responses reveal that advisors at firms with more than US$100 million in assets dedicate 70% of their time to tasks directly related to their clients (e.g., any client-facing activity, portfolio management) — one-sixth more than advisors across all RIA firms (see Figure 9 on page 13). This increase is due to the reduction of the administration burden. The compliance burden on advisors did not show any sensitivity to a firm's size. FIGURE 9: TIME ALLOCATION BY RIA SIZE Q: On a monthly basis, what percentage of your time do you spend on: (n=57)

Firms With More Than US$100 Million in Client Assets

Firms With Less Than US$100 Million in Client Assets

38%

32%

26%

10% 9% 11%

12% 20% 11%

Clients

Portfolio Management

Marketing

Administration

Compliance

Source: Aite Group’s survey of 78 registered investment advisors, June 2007

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F U T U R E TE C H N O L O G Y INVESTMENTS

Technology features prominently with many RIAs when it comes to future spending priorities, as shown in Figure 10 on page 14. Of firms with client assets of more than US$100 million, 24% see it as the fastest-growing area of expense after legal and compliance costs, and find it on par with expenses related to employee compensation. FIGURE 10: FASTEST-GROWING COST COMPONENTS Q: In which area do you anticipate the most growth from an expense perspective in the next 18 months? (n=64)

20%

24%

22%

6% 12%

24%

29%

Technology Rent & Office Marketing Legal & Compliance Compensation

20% 13% Less Than US$100 million

24% More Than US$100 million

Source: Aite Groupâ&#x20AC;&#x2122;s survey of 78 registered investment advisors, June 2007

Figure 11 on page 15 shows the technology spending priorities for the next one to two years by application area. Data consolidation and performance reporting, as well as asset allocation tools and portfolio accounting, are the application-level priorities for this period.

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

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FIGURE 11: ANTICIPATED TECHNOLOGY CHANGE BY FUNCTIONAL AREA Percentage of RIAs Who Plan to Switch Technolgy Solutions in the Next One to Two Years (n=46) 26%

Data Consolidation

22%

Performance Reporting

20%

Asset Allocation Tools

20%

Portfolio Accounting

17%

Client Billing Tools

17%

Portfolio Management Client Reporting

15%

Financial Planning Tools

15%

Portfolio Monitoring and Alerts CRM Tools Proposal Generation Client Restrictions

15% 13% 13% 11%

Source: Aite Group’s survey of 78 registered investment advisors, June 2007

Advisors were also asked about the importance of technology integration to their business (see Figure 12 on page 16). While 82% of RIAs realize that the integration of business applications is “important,” “very important” or “essential,” only 18% of these RIAs are really passionate about this topic and have opted for “very important” or “essential.” Clearly, many RIAs have not yet realized the magnitude of the efficiency gains at stake. RIAs will have to change the approach they currently employ when dealing with technology. While they clearly invest heavily in this area, they still focus on plugging functional holes rather than moving toward a fully integrated advisor platform.

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

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FIGURE 12: IMPORTANCE OF TECHNOLOGY INTEGRATION BY RIA SIZE

Q: How important is the integration of these tools to you? (Percentage of RIAs in Category; n=46)

Firms With More Than US$100 Million in Client Assets

9% 9%

64%

Firms With Less Than US$100 Million in Client Assets

27%

Essential Somewhat Important

30%

Very Important Not at all Important

18%

33%

Important

Source: Aite Group’s survey of 78 registered investment advisors, June 2007

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TE C H N O L O G Y B E S T P R A C T I C E S FOR REGISTERED INVESTMENT ADVISORS

Technology is a critical component for turning an RIA firm into a growth engine. Many RIAs, however, have to make significant changes to the way they currently work with technology in order to position their firm for growth. Some of these best practices include: •

Embracing technology. As shown in Figure 3 on page 9, RIAs still don't have any application support in many functional areas. Areas like CRM and the management of client restrictions will represent a particularly large burden for advisors as their practice grows.

•

Integrating solutions. A common mistake made by many firms, including RIA firms, is to select technology based primarily on its features and functions. Applications, however, rarely exist, and tend to work in isolation. The best set of features will fail to reach their fullest potential when not integrated with the other applications at the firm. Further, they might even become an additional burden for the advisor, especially when information from various sources has to be re-entered manually.

•

Implementing the advice process. The ideal technology platform has to implement the firm's advice process, and the application work flow has to be flexible enough to accommodate firm-specific processes. The specific work flow requirements depend on the products and services offered, the level of experience of the advisor using the system, and the wealth segment addressed. Since the advice process is subject to change over time as the firm grows, systems have to offer enough flexibility to easily adjust work flow accordingly.

•

Defining the roadmap. Very few technology environments are truly representing the ideal infrastructure for the business they are supporting. With platform implementation projects typically spanning multiple years, many are remaining permanent works in progress. Essential for successful implementation are the development of a clear vision regarding the ideal state of the technology platform,

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Registered Investment Advisors: The State of Technology and Its Impact on Advisor Efficiency

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and the definition of a roadmap that describes how to get there. â&#x20AC;˘

Choosing the right partners. Given the complexity at hand when dealing with technology projects, RIAs frequently feel they are spending too much time on managing technology. Selecting the right partners is already a major undertaking, given the oversupply of technology and service providers that target the RIA market. Before embarking on an evaluation of potential partners, RIAs have to decide whether they have the skill, time and money available to integrate multiple applications into a well-tailored custom platform, or whether any of the pre-integrated platforms offered by service providers and custodians can fulfill the firm's requirements. The latter approach could offer a much shorter implementation time frame.

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CONCLUSION

The RIA market is one of the biggest success stories in the U.S. wealth management industry. Since the stock market downturn of 2001, this market has grown more than 10% annually. The Aite Group survey discussed in this report found that RIAs expect growth to accelerate to 21% over the next two years. Dealing with growth is a nice problem to have. However, the fast pace at which many RIAs have grown over the course of the last five to seven years has put a great deal of pressure on these often-small firms. RIAs find themselves torn between adding new clients and assets, and maintaining the high quality of service for which they are known. Increasing headcount on the advisor and/or administration side is often the first measure these firms take to increase capacity. However, this remedy also means additional effort required in terms of staff training, as well as a substantial increase in cost. For RIAs, there is no way around improving operational efficiency across their firms, including areas like advice and investment management as well as the backoffice. This measure will allow advisors to increase the number of clients and amount of assets managed significantly while keeping service quality high. The usage of technology and the level of business application integration at the RIA firm are prerequisites for increasing operational efficiency. The survey shows that advisors that have a fully integrated technology environment available spend about 50% more time with their clients and on clientrelated tasks than the average advisor. At the same time, these advisors are cutting the time dedicated to administration and compliance tasks by more than one-third. Only 27% of advisors in the survey, however, work with a fully integrated technology environment, leaving room for improvement for almost three-fourths of RIAs. Only 18% of advisors see technology integration as essential or very important. There are also many functional gaps in current technology environments at RIA firms when it comes to essential productivity tools. The survey has shown that more than half of advisors in the survey do not have any application support in the areas of CRM or client restrictions and compliance. Essential functional areas — like portfolio monitoring and alerts and proposal generation — show only a slightly better result, with 55% and 56% of RIAs using applications in those areas respectively. Almost one-fourth of advisors believe that technology costs will be the fastestgrowing expense area. While at least one in five RIAs plan to make changes to the technology solution used in the areas of data consolidation, performance

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reporting, asset allocation and portfolio accounting, all of the productivity tools mentioned above rank at the bottom of their priority list. In order to increase efficiency substantially at their firm, RIAs will have to change the way they currently deal with technology. Instead of making reactive technology decisions, RIAs have to become more strategic in their approach and develop a vision and roadmap that will get them to their ideal state of technology. Clearly, developing this vision and managing technology is a time-consuming and complex matter. RIAs have to decide whether they have the skill, time and money available to integrate multiple applications to a well-tailored custom platform, or whether any of the pre-integrated platforms offered by service providers and custodians can fulfill the firm's requirements. The business model of RIA firms is in line with the needs and demands of today's wealth management customers, and has resulted in substantial growth opportunities for those firms. Those RIAs that get their technology right will be in the best position to grow their business substantially while keeping their costs under control.

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RELATED AITE GROUP RESEARCH

Collective Investment Trust Market Overview, June 2008. The Hallmarks of High-Performing Integrated Marketers in Retail Financial Services, June 2008. The Practice of Financial Planning: A Consumer Survey on Wealth Managementâ&#x20AC;&#x2122;s Key Proposition, May 2008. Reconciliation Systems Vendor Comparison: High Volumes and Higher Efficiency, April 2008. Account Opening: Managing Risks and Building Relationships, April 2008. Green in More Ways than One: The Economic and Client Impact of Going Paperless, April 2008. The Evolution of Correspondent Clearing: Major Players are Finding their Niche, April 2008 The State of a Retiring Nation: A Consumer Survey on Wealth Management's No. 1 Challenge, March 2008 Closing the Gaps: Correspondent Clearing Customer Segments and Functional Comparisons, March 2008 Holistic Wealth Management: Outsourcing Custodial Data Consolidation, December 2007. Multichannel Usage in a Demographic Sweet Spot: Looking at Investor Behavior Before and After Retirement, November 2007. Holistic Wealth Management: The Data Consolidation Challenge, September 2007. Retail FX: Taking Center in Overall Market Growth, July 2007. Mass-Affluent Online Customer Needs in a Retirement Age, July 2007. Capital Markets Spending in 2007: Back Office Finally Gets Respect, June 2007. Evaluating Wealth Management Advisor Platforms: Integrating the Front Office, February, 2007.

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