Brilliant business model guide for every IFA


Vijay Hede, Shivranjani Securities, Panjim, Goa

Vijay Hede, who runs Goa’s largest IFA practice with an AuM upwards of Rs.1500 crores, put together this simple yet brilliant piece for the benefit of his team members, to explain to them everything that they need to know about the IFA business model and the levers that contribute to its success. He has very kindly forwarded this internal document to Wealth Forum, for the benefit of every IFA – new or experienced. For those who are new to this profession, this is one of the best documents that they can lay their hands on to understand the business model and what it takes to succeed in this profession. And for experienced IFAs, this document can serve as a great mirror you hold up to yourself – to check for yourself whether you are indeed firmly on the path that Vijay Hede advocates for success in this profession. A must read document for every IFA.

  1. The Mutual Fund Advisory has a unique revenue model very different from the revenue models of intermediaries in other sectors and even those in other businesses of the financial sector. In addition to the upfront B-30 commission the advisor receives a trail commission during the period the investor holds on to the investment.
  2. The above feature of the commission structure makes the business strategy for the advisor very different from the brokerage in most other businesses where the commission is transactional. A broker of the stock exchange receives a brokerage when a client buys or sells a scrip but does not participate in the value creation while the client holds on to the scrip. His strategy naturally converges on making more transactions, similarly a broker in a real estate business is paid upfront commission when the client purchases or sells the asset but does not participate in the market value of the property and does not receive any commission during the ownership of the property by the client. The real estate broker or the stock exchange broker creates wealth by increasing the number of clients, no of transactions while the Mutual fund advisor receives commission while the client holds on to the asset and also participates in his value creation. He creates wealth by making the investor hold on to the investment for long periods of time.
  3. The Mutual Fund Advisor receives a trail commission ranging from 1%-1.5% per anum payable on monthly vests. This feature of the commission allows the advisor to receive a continuous stream of cash flow so long as the investor holds on to the investment. Therefore, the Numero Uno business strategy to generate wealth in the advisory business vests squarely on the ability of the advisor to make the investor hold on to his investment in mutual fund.
  4. An EXISTING CUSTOMER is the most important visitor on our premises. He is not dependent on us. We are dependent on him to create wealth for us. He is not an interruption of our work. He is the purpose of it. He is not an outsider to our business. He is part of it. Our wealth creation is a function of his wealth creation. We have his blessings in form of the value share while he continues to hold on to his investment. We are not doing him a favour by serving him. We are doing a favour to ourselves by giving him a sound advice and making him stick to his investment.
    This modified quote attributed to Mahatma Gandhi is most apt to define the business of the advisor in Mutual Funds.
  5. The advisor receives upfront commission of 1.5% on the investment made in an equity mutual fund as a B-30 commission if the sale is made to a customer in B-30 location. Currently all the locations in Goa save for Panaji qualify for B30 incentive. While the entire advisor community goes gaga over the upfront commission on a 15 year period this commission will form an insignificant 10% share of the trail commission received by the advisor.
  6. The action plan to implement the business strategy cited at 3. involves
    1. Every team member should be well informed and educated on the attributes of the schemes presented to the investor.
    2. The investment should be diversified across the schemes and categories of assets. This will mitigate the risks of calls of a Fund Manager going awry or the performance or a particular category of assets underperforming for the reasons not known to us today.
    3. A statement of advice (S.O.A) ought to be prepared detailing the investment horizon and investment goals and the investments recommended based on the time of the investment horizon and the investor risk appetite should be listed. It has been my experience that this single step isolates the investor from the short-term noise in the market.
    4. The investor ought to be communicated by e-mail the status of the investment at regular intervals say a month.
    5. An annual review of the investments need to be done and rebalancing of the portfolio to be done based on the situation evolving.
    6. Time and not the timing is the crux of the sound investment for mitigating the risks in equity investments. The advisor should stress this aspect and develop conviction in long term investments by the investor to create wealth for the investor and consequently the advisor himself
  7. The holding of investments over long periods of time allows the investor and hence the advisor to enjoy the power of compounding. Einstein is believed to have said that the power of compounding is the most powerful force in the universe and that the humans are generally not wired to comprehend this power. The following table illustrates this awesome compounding power that is available to both the investor and the advisor to create awesome wealth.
  8. The above illustration also highlights a huge multiplier effect of compounding over long period of holding and at higher rates.
  9. The fifteen years return of some of the funds is tabulated below. From the above it may be seen that that the investment made in ABSL Equity Fund 15 years back would have grown 28 times at compounded annual growth of 25.3%. but had the investment made in NIFTY the investment would have grown only 10.45 times at compounded annual growth of 10.45%. Thus, the annual commission of the advisor would have grown 28 times in 15 years for the investment made in ABSL Equity Fund but only 10.45 times for the investment made in NIFTY.
  10. To be conservative it may be wise to work on an annual return of 15% over the next 15 years.
  11. The second driver of the wealth creation is the power of sequential accumulation or what in the colloquial parlance known as Systematic Investment Plans. (S.I.P.s). S.I.P.s in mathematical parlance generate what is called arithmetic progression. The sum of such progression is defined by the formula N/2*(a+l) where N is the number of terms, a is the first term and l the last term, for a period of 10 years N=120, a=1, and l=120 as the SIP involves monthly payments.
  12. The power of Compounding combined with the power of sequential accumulation creates an explosive vehicle for wealth creation as illustrated below.
  13. The above table demonstrates the combined power of compounded with sequential accumulation lucidly. S.I.Ps of just Rs. 1 lakh per month done month on month generate a trail commission of Rs. 29.65 lakhs in the fifth year, Rs. 146 lakhs in 10th year and Rs. 415 Lakhs in 15th year assuming appreciation of 12% per anum. An entity selling Rs. 10 lakhs per month S.I.P. month on month will generate an annual income of Rs. 41.5 crores per anum in 15th year assuming an annual appreciation of 12 % per anum. The only rider is you should be able to hold on to the client and investment for that period and S.I.P.s should not get cancelled.
  14. Over a long period of time of say 15-20 years the B15 commission pales in relation to the trail received. It’s barely 8% of the trail amount in 15th year hence inconsequential.
  15. In a nutshell the business strategy should centre around.
    1. Retention of the existing clients for long periods to bring the compounding of the values of investment into play.
    2. Selection of well performing funds, creation of a portfolio structure across schemes and asset classes to mitigate the concentration risks.
    3. Communicating the status of the investment with the client every month.
    4. Preparation of a statement of advice defining the goal of the investment to insulate the client from short term fluctuations of the investment, portfolio structure meeting the risk appetite of the client, annual reviews to rebalance the portfolio.
    5. Focus on S.I.Ps to realize the combined power of compounding and that of systematic accumulation through power of arithmetic progression.

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