Shortly after Jud Bergman started tech service provider Envestnet in 1999 after leaving Nuveen Investments, he saw an arresting image on the cover of a national magazine: a beautiful woman with wings, “an Icarus dark angel,” he recalls, leaping off a cliff to mist and rocks below. “She wasn’t going to jump, she was going to fly, but from a big height,” Bergman says. It was emblematic of the risks that underlay the explosive growth of the tech sector at the time, and Bergman, who had just written his first big check to cover salaries and office space, could relate. “It made me feel a combination of conviction, thrill, and fear, all of that stuff,” he says.
Thirteen years later, the view from the cliff appears less intimidating. Now publicly traded, Chicago-based Envestnet completed three acquisitions in the past six months that Bergman says will deepen the firm’s service offerings: Seattle-based software company Tamarac, a maker of portfolio management, rebalancing and performance reporting systems for RIAs; Prima Capital Holding, which sells due dilligence services on investment managers; and FundQuest, a turnkey asset management program services provider. Tamarac, which closed last month, is Envestnet’s largest deal in the group at $54 million.
Bergman, Envestnet’s CEO, says the firm now has about $80 billion in assets under management or administration; licensed-based arrangements with advisors for Envestnet software supports more than $300 billion in additional assets. In an interview with WealthManagement.com, Bergman looks back on the firm’s evolution, and what’s changed since. Here’s a condensed version of the conversation.
WM: Tell us about the advisor problems you wanted Envestnet to solve when you started in 1999.
JB: The idea was to give them a proposal generation tool, give them access to product, billing and performance reporting, to in a turnkey way let the independent advisor compete with the Merrill Lynch and Morgan Stanley advisor for separate account business or higher end solutions. I thought that we would do that platform at Nuveen. It was early, but it wasn’t radically early. And so for legitimate reasons Nuveen wasn’t interested in that, so I left the firm to do it.
It was a frothy time then--lots of fundings, lots of companies. In a normal business cycle--I don’t know what that is any more!--maybe one or two companies in that space would get funding. But there were at least five or six companies that got funding. Similar ideas, Web-based wealth management platforms.
We were aiming at the registered investment advisor or the dually registered advisor, which was becoming an emerging thing at the time. They didn’t have a platform. The wirehouses had in-house platforms, the larger independent broker-dealers had in-house platforms, and the smaller independent B/Ds in ‘99 hadn’t yet for the most part made the strategic commitment to go fee-based. So we built the platform and got some good RIAs early on. But then we got some fair amount of interest from independent broker/dealers.
We acquired a company in August 2001, PMC, a Denver-based portfolio consulting and investment research firm. And that provided us with a base of business to sort of weather the storm. We closed on that transaction on Aug. 31, 2001; you know what happened two weeks later.
There were some challenges in those early days that really were about timing. Jeremy Siegel is a Wharton professor who does time series returns in stock markets going back to the early 1800s. He says that he could make the claim that starting a financial services company in the fourth quarter of 1999 may have been the worst quarter to start a financial services firm of the 800 that were possible.
WM: You’ve said your business started to take off in late 2003. Where was it coming from?
JB: A variety of advisors who tried the custodian platforms and found them wanting for back office services.
Schwab and Fidelity were great product and great custodians for these advisors, but if they wanted an investment proposal to meet with a client and present their ideas, there was really nothing there. If they wanted research on separate account managers, they couldn’t get it anywhere. They could get mutual fund research from Morningstar.
So there was a niche of things that we could provide: research, some front-end technology, some back-end technology. A lot of those advisors were early adopters, they were looking for ways to automate their business a little bit more. We did the manager research with PMC. If the advisor liked those managers, they would put the clients’ money with those managers on our platform. And we would do the billing and the performance reporting and the rebalancing.
That’s how the early advisors came over. Very quickly though, we found that the independent broker/dealers, the firms that would clear at Fidelity or Pershing and who had a business model that was heavily commission-based or brokerage-based, they were looking to diversify their business and generate more fees. And we became a very easy way to do that because we were a no-up-front cost solution. Larger independent broker/dealers wanted maybe some customization.
We’ve been adding features. We added the first version of our unified managed account in 2009; we had a major upgrade of our UMA technology last year which enabled advisors to trade around positions that they didn’t have direct access to--for example, a 401(k) asset that they would want to factor into the overall asset allocation of a household.
WM: What’s changed the most in your business in the last few years?
JB: We’re seeing more assets in motion. We’re seeing advisors losing accounts, and we’re seeing accounts moving around with greater velocity. I think you see a lot of investors rethinking their advisory relationship. Was I well-served in ‘08, ‘09, have I been well-served since?
Now the independent advisors are gaining share at the expense of the wirehouses. But it’s happening at every level. Independent broker/dealers are losing accounts, they’re gaining accounts, RIAs are losing accounts and gaining accounts.
Another thing is the advisors’ portfolios are changing. There was a high degree of confidence in what you call the Markowitz model, modern portfolio theory. As correlations moved to 1 across all assets classes, you’re seeing many different responses to that. Some people are putting larger allocations into alternative asset classes. You’re seeing people who are using tactical asset alllocation products. Some advisors are saying, “I want to go half tactical, half strategic.” I think the advisor does not want to repeat a 2008 event, so they’re look at ways of mitigating risk and generating some additional alpha.
WM: Does Envestnet see places where it can play in this kind of market?
JB: Our business is a combination of wealth management software technology, investment solutions, and back-office services. On the investment side, our core competence is not picking securities or bonds; our core competence is constructing portfolios and identifying good managers, and rebalancing those portfolios consistently in a disciplined manner. That’s how we create value in the investment world. It’s not, “We’ve got a great new strategy.” It’s, “We’ve identified an investments manager that we think is valuable.”
We’ve got over 300 separate account managers with over a thousand strategies for portfolios. We’ve got 60 or so strategists, firms like Russell Investments, Fidelity, Symmetry, Standard & Poor’s,Brinker, that when the advisor comes to the Envestnet portal, they have really an unprecedented amount of access to strategies. In about one out of every 10 dollars that advisors place with us, the advisor actually asks us to make those selections, and that’s what we do with PMC. We will be the co-fiduciary with the advisor, and we’ll pick the funds, we’ll pick the managers, and we’ll rebalance them. That’s a part of our business that we’ve always done, and we’ve done a very good job of it.
The largest chunk of assets are advisors who pick their own funds, their own separate account managers, and rely on us for technology and back office operations. And then there is the next biggest chunk, advisors who use Envestnet PMC to help them with that research and selection process. And the third largest chunk are advisors that are using a fiduciary other than themselves and other than PMC. That’s the fastest growing part of our business.
WM: Is Envestnet in a space you didn’t expect a few years ago?
JB: If you go back seven years, yes. We started out as a turnkey asset management platform. It’s bundled, and you get everything, soup to nuts. You get a proposal, you get access to separate account managers, you’ve got funds, you’ve got billing, you’ve got performance reporting.
But there’s a certain kind of advisor who didn’t want everything. They maybe wanted rebalancing or they maybe wanted performance reporting, or maybe they just wanted research. And so seven years ago we just were starting to see that. Now I would say a majority of advisors are coming to us for one or two or three things. Not four or five, not everything. Some people just want the front end, meaning research, portfolio construction, asset allocation support. They don’t want access to products. Some people just want access to products. They don’t want to do a contract with separate account managers.
The biggest issue was, are we going to hurt our value proposition by doing this? Is everybody going to sign up for the hardest part of the business, which is the lowest margin, which is the performance reporting? And to a large degree, that drove us to a high degree of efficiency. So how do you do that in a cost-effective way? Well, we’ve been able to make that work with offshore resources and employees in India. It works very well; a big part of it is the cost-differential, but that’s not all of it.
WM: What’s Envestnet’s strategic advantage now?
JB: Advisors who end up doing business with a firm like Envestnet end up having a technology and operational partner. I think we do that very well. It means that we innovate and adapt our software to a variety of practice patterns.
WM: Any early signs that the acquisitions are working?
JB: We’ve had very strong positive responses from a number of shared clients. One client that we shared with Tamarac said, “This is terrific news. It’s like Reese’s peanut butter cup -- two of my favorite things in one package!”