The key difference between outdated and current business models.

Amar Pandit , CFA , CFP

Amar Pandit

A respected entrepreneur with 25+ years of Experience, Amar Pandit is the Founder of several companies that are making a Happy difference in the lives of people. He is currently the Founder of Happyness Factory, a world-class online investment & goal-based financial planning platform through which he aims to help every Indian family save and invest wisely. He is very passionate about spreading financial literacy and is the author of 4 bestselling books (+ 2 more to release in 2020), 8 Sketch Books, Board Game and 700 + columns.

Last week, I wrote a post about how a gap in understanding can lead to serious business model problems for distributors as well as advisors. A couple of folks requested for some more insights on this subject so thought of doing a few posts on business models in our industry and profession. I thought the best way to do this was to start with the key components of business models and then highlight differences between business models of the past and present. I will however be covering one difference at a time to help you understand the nuances. Since I am also dealing with the past, I am restricting the post to distributors only. However, there is some solid takeaway for advisors too so I would still encourage you to read on.

First things first: Joan Magretta in her HBR Column (Why Business Models matter) writes “A good business model answers Peter Drucker’s age –old questions: Who is the customer? And what does the customer value? It also answers the fundamental questions every manager must ask: How do we make money in this business? What is the underlying economic logic that explains how we can deliver value to customers at an appropriate cost?”  I have written some of the key questions to ask yourself and the process of designing a business model in the soon to be launched “Premium Content Section of the Blog”. I also cover this in a workshop on “Future Business Models in the Wealth Space in India”.

I have written a lot of content on the ideal customer, the value proposition, client experience and how to effectively design an experience that delivers outstanding value for your customers. In this post, I focus on the Revenue Side of the Profit Formula Equation of our Business Model.

Most distributors started in an ERA (1995-2005) when the revenue comprised of a few things:

  1. Upfront pay-outs from the entry load
  2. Trail income
  3. Marketing and Advertising Support

Many of them not only had a first mover advantage, but some of them were also Chartered Accountants, Life Insurance Agents or RMs of Banks who already had customers.

Now let us look at some basic mathematics here (I am doing this without being very specific about the T-15 and B-30 dynamics). You need to focus on the concept and get it to make changes to your business model.

Let us say an IFA had clients who invested Rs. 1 Crore AUM in the year 2000. Even an upfront of 1.5% meant a Rs. 1.5 Lakh one-time payment and then some trail so even if an IFA did Rs.5 Crore in a year, he/she had a decent income of around Rs. 65000 + per month.  The key part to note here was because of the upfront pay-out, the income realized was much faster. This means if you did Rs. 2 Crore in the first 3 months of the year, you would have earned Rs. 3 Lakh. This was the timing part of the cashflow. The point is that very few people do Rs. 5 Crore per year even TODAY.

The key source of revenue today for distributors is Trail Income. Today the same AUM of Rs.1 Crore will get you around 5000 or more monthly.  So, from a cash flow perspective you have just 3.4% of what you would have got. Let us assume double of this to factor in the B-30 equation and you still have 7-8% from a cash flow perspective. However, your expenses are monthly (timing of payments) and the expenses have gone up 5-7 times in the last 15-20 years. Not to forget, GST eats away a significant portion of your revenue (for those above Rs.20 Lakh). Many indulge into the practice of multiple ARNs to save on GST, but this is not really the solution to your business model problem. At the same time, even your trail income is going down and subject to future cuts (the trail has itself gone through a 30-40% cut in the last couple of years).

So, what is this signalling?

  1. You need 10X higher output to build a sustainable business – This means that you need Rs.10 Crore minimum AUM per year and you need it in the first couple of months so that the trail can deliver a certain revenue. If you have a team the costs go up further and these numbers add up accordingly.
  2. You need to be 10 X better.
  3. You need to be 10 X faster in terms of client acquisition and revenue recognition.

Are you 10x better than the competition or 10x better than what you were earlier?

Are you 10x faster in client acquisition?

Are you getting 100% of your client assets?

The answers to these questions have real implications on your business model. As I have often repeated the key thing to get right in this space is your Ideal Customer. I know you would be or be not shocked with this but according to a report, 60-80% of clients of US RIAs are loss making ones. I suspect a similar number here; in fact, a higher number I believe. Seldom are such calculations done and very little weightage is even given to this element of your business model.

You must understand the timing of cash flows, minimum AUM per client required to cover costs, your income and leave behind a profit margin that will help invest in future growth and add more value to clients (and enhance the client experience). This is where the concept of leverage comes in. If you cannot be 10X better, or 10X faster in terms of client acquisition, then you should find ways to leverage getting faster and better. A Hint: Platforms.

The ancient Greek mathematician Archimedes is known for his explanation of the physics of lever (where the word leverage comes from) – applying a lesser force to produce an outsized change. Archimedes had said “Give me a lever long enough, and a fulcrum strong enough on which to place it, and I will move the world.

I strongly believe you have “all it takes” to move the world. It is just that you need the right tools and mastery of the tools to move weights vastly greater than you can unaided.

What is your Lever and your Fulcrum to move the world in our profession?