Russell Investments recently took a serious look at more than 250 books of business in an attempt to understand what makes an effective advisor. It found DSC books to be less efficient than fee-based or discretionary business models prompting some advisors to consider selling their books.
Good move or bad, advisors don’t have a problem discussing the issue.
“Valuations are typically based most commonly on recurring income. Higher rates of DSC [percentage of book] equals lower recurring income which results in an impairment to the price of the book,” Jason Pereira, a financial advisor with IPC Investment Corp., told WP in an email. “If I were looking at a book for sale I would rather pay a higher price for a DSC-free high recurring income book than one that was full of DSC.”
It’s an understandable position given the scuttlebutt that DSCs are on the way out. While this might be any move to ban them would likely take several years to unwind so between now and then the valuation metrics on these books becomes extremely tricky.
Steve Meehan, CEO of Evolution Wealth Advisors, suggests that the typical book sells anywhere between 2.5 times and 5 times revenue. As we move closer to CRM2 implementation in July 2016, valuations really haven’t changed up or down.
“I really haven’t seen anything with DSCs,” said Meehan. “Typically books sell as a function of trailers; a DSC book would usually get valued for less.”
How much less is up for debate because even if DSCs are outlawed the funds held in book would get moved over to some sort of fee-based account.
In Pereira’s estimation one of two things would happen.
“The fund company will be able collect a fully disclosed and transparent fee on behalf of the advisor and pay it to the advisor/dealership. Basically a fee-based account at the fund company,” wrote Pereira. “This already exists at most suppliers. The most common term for this is ‘O series funds (different letter depending on the fund company).’”
“All fund company payments will be banned so everything will be rolled over to the equivalent of an F class version and the advisor will have to move everything to a fee-based account over whatever period of time is provided to make the change,” said Pereira. “Frankly I see the latter as the less likely option. After all, does it matter if the fee is collected by the fund company or the dealer as long as it is transparent? And this structure already exists and works well, so why get rid of it?”
But before advisors pass on buying DSC books, Assante Financial Management advisor Glen Rankin provides a counterpoint that’s especially relevant if regulators only ban DSCs and not front-end and low-load funds. It’s based on the idea that bargain hunting may ultimately pay off.
“Some people will look more favourably on that [buying a DSC book] because you know you can move it over to FEL 0% and then increase the trails on it,” said Rankin, pointing to the potential to convert those files. “If you buy it on a multiple based on current trails, some people will pay a little more knowing that the trails are going to [increase].”