Brijesh Dalmia, Founder of Dalmia Advisory Services shared some interesting concepts on various fee based models which advisors could adopt at the recent Network FP Annual Conference 2012 held in Mumbai.
Even if you have made up your mind to start charging fees to your clients, you are bound to get confused on deciding the ideal method of charging your clients. Brijesh Dalmia, Founder of Dalmia Advisory Services who runs a fee based advisory practice in Kolkata enlightened the audience on the various types of fee structures and their pros and cons at the Network FP Conference 2012 held in Mumbai.
Challenges
Advisors wanting to make a transition to fee based model normally face a few challenges in getting started. Firstly, advisors fear that if they ask for a fee, clients would run away. Secondly, not all clients are willing to pay for buying financial instruments. Finally, an advisor would face difficulty if their competitors are not charging.
Types of fees:
Transaction fee: Advisors can levy a transaction fee each time the client makes a transaction. It could be a fixed amount e.g. Rs 500 per transaction or a percentage on transaction value.
Pros
- It is easy to explain it to clients
- Advisors could get regular and immediate income depending on the number of transactions
Cons
- Charging on each transaction could make customers think that you are initiating transactions to earn fees.
- Difficult to apply it for other products like PPF, fixed deposits, liquid funds or balanced funds
- It could be difficult to renegotiate fee
- Clients may be unwilling to pay a percentage fee on high value transactions
- Difficult to charge on SIPs
- Clients may not pay for STPs or switches
- Difficult to recover fee
- Limited scope to charge fee as income would depend on fresh transactions
Fixed Annual Retainer Fee
Under this method, you could charge a fixed annual retaining fee, for example Rs 10000 per year.
Pros
- Clients could easily understand this concept
- Stable and fixed income for advisors (Rs 10000 charged to 100 clients would fetch you Rs 10 lakh annually)
- Low conflict of interest
- Easier to implement
- Superior than transaction based fee
Cons
- Difficult to scale up (If your AUM grows but number of investors remain same you would still be earning Rs 10 lakh annually as you are charging a fixed fee to your clients)
- Efforts and resources required by advisors could become complex every year while the revenue would not be in sync with your efforts.
- Difficult to re-negotiate a higher fee
Profit sharing fee
Advisors could charge a percentage of fee based on profits.
Pros
- Clients prefer this model because they’ll only pay you if the portfolio generates profits.
- Uncertainty of earnings as you could only earn fee when markets are performing well
- While you could charge a higher percentage of profits in equities, fixed income funds may not fit under this model
Cons
- It would be difficult to ascertain the timeline or cut off date for calculating fees as it would not be justified to charge only when markets are doing well.
- If a scheme generates average returns which is similar to a bank fixed deposit it might be difficult to charge a fee as clients invest in equity schemes to get higher returns than bank FDs. It would be difficult to fix a performance criteria based on which you would claim profits.
- No earnings when markets are down.
AUM based fee
Advisors could charge a percentage fee on the assets under advisory. (For instance, 1% on Rs 100 crore AUM would fetch you Rs 1 crore annually)
Pros
· This method is easy to understand and calculate
· As the portfolio grows your income grows
· Scalable model if you grow your assets under advisory
Cons
· You can’t charge on fixed income assets
· It would be difficult for you to collect fees if markets are down
Ultimately, you need to decide the model which suits you best depending on the type of customers you are serving and your business model.
