Long ReadAug 31 2022

How will the consumer duty affect advisers' fees?

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How will the consumer duty affect advisers' fees?
(Chris Ratcliffe/Bloomberg)

One of the regulator’s expectations under the duty is that firms should provide services that offer fair value.

When it comes to adviser charging, the most common method is a percentage fee based on the size of an investment. But there has previously been debate over the fairness of such fees.

Percentage fees based on the amount clients invest are also a key factor in what makes the financial advice industry attractive to private equity investors, according to Daniel Baade, CEO and co-founder of corporate finance boutique Dyer Baade & Company.

“Over the last 10 years or so when the markets have basically gone up, apart from a few ups and downs, the fees went up by the same ratio, and that made it very attractive for investors.

“So as markets went up, revenue went up; and the assets of a financial adviser or wealth manager tend to be relatively stable because they are across different asset classes, and so they don’t fluctuate as strongly as the markets fluctuate.”

Will the consumer duty spell the end of percentage fees?

With percentage charging being the most prevalent method, SimplyBiz head of business consultancy Karl Dines says what firms should consider in light of the consumer duty is particularly relevant.

Dines highlights how the duty broadly states, among other things, that:

  • the price a customer pays for service should be reasonable and fair value compared with the benefits;
  • the price and value outcome does not require all customers to be charged the same;
  • in a percentage model, some may pay larger fees than others, even though the costs and benefits of providing the service may be similar.

One issue firms should consider is reassessing the groups of clients they advise, whether there should be multiple groups and if there should be a different percentage charged for different groups, he says.

“All firms are unique, and assessing charging in order to follow the duty will mean different things to different firms, and that’s okay,” Dines adds. “What is absolutely clear though is that all firms should consider how they charge and demonstrate a good price and value outcome.”

Paul Caine, associate director at ATEB Compliance, notes how many firms typically charge all clients the same percentage.

“Your typical IFA tends to have a few ‘lower value’ clients from an assets-under-management perspective – they'll have a few in the middle, and then they might have one or two in the top," he adds.

“The challenge with the consumer duty is, given those different client banks with different needs, how are you going to be able to demonstrate that you’re offering fair value? It is going to be a challenge; it is going to have an impact on the industry.”

Caine says there could be a shift away from the percentage-based model of charging on a longer-term basis, or towards a more hybrid model where advisers begin to charge for the different services they offer.

If you’re charging some kind of fixed fee, then the revenue of an advice firm is basically flat, and that makes it less attractive for private equity investors.Daniel Baade, Dyer Baade & Company

If percentage fees based on the amount clients invest were to become a less common way of charging, Baade says this would most likely reduce interest from private equity firms.

“If you charge some form of fixed fee or an hourly rate, your revenue will not go up unless you have more clients or more advisers,” he says. “The revenue of an advice firm is basically flat.”

Louise Jeffreys, managing director of business broker Gunner & Co, says that if the approach to financial planning fees were to evolve to a more transactional approach, then the attractiveness to private equity buyers, as well as the overall valuations of businesses, would be negatively affected.

“If valuations reduced significantly, this in turn would likely change sellers’ motivation, and rather than consolidation we may find owners hanging onto businesses longer, or going for lower risk, internal succession plans,” she adds.

But Baade also says the financial advice industry could become more attractive to other types of investors, such as family offices. “[They] often just look for very predictable revenue streams because in a downturn, that also means revenue stays very flat.”

Percentage fees a draw for private equity investors

Jeffreys agrees that the link between financial planning fees and the size of an overall investment, rather than a time-based approach to charging for example, adds to the attractiveness of the financial advice market for investors.

“Return on investment is the key metric for these investors, and recent history has shown planners’ advice fees have consistently grown; not simply due to positive market movement, but also the propensity for existing clients to add more money, often into existing investment plans.

“Whilst there is risk from market downturns, that risk can be mitigated by the nature of (often) regular additional funds being added by clients.

“Furthermore, the nature of the proportionate fee means that income is received automatically and in perpetuity, rather than transactionally based on events which may or may not happen.”

The exact fee mechanism is less important.Freddie Athill, Cabot Square Capital

But Freddie Athill, investment director at Cabot Square Capital, whose portfolio includes MKC Wealth and Moneyfarm, says he would stress that the fundamental dynamics of the industry are the reasons for investing, and not the charging structure.

“Of course, any other charging structure would also be designed to fairly compensate for the service provided.

“Returns are driven by creating good client propositions which they value and are happy to pay for, as well as efficient and high-quality operating platforms, and as such the exact fee mechanism is less important.

“Simplicity and transparency of fees are critical and you can achieve that with different mechanisms, which each have their own pros and cons.”

Chloe Cheung is a senior features writer at FTAdviser