Startup robo-advisers burst on the scene in the past decade — luring big VC checks and gathering billions in customer assets.
Automated wealth management tools like Betterment and Wealthfront have become household names and are attracting younger generations looking for low-cost ways to invest their money.
But the next 10 years could prove more difficult unless the fintechs manage to step up their growth, battle competition from zero-commission brokerage platforms, and make their private valuations more palatable to the public market or strategic buyers, according to one fintech-focused investment banker.
Jason Gurandiano, global head of financial technology investment banking at RBC, told Business Insider that while robo-advisers have shown the ability to quickly build a client base from scratch, even the biggest independent robos are still far off from asset levels where they can break even.
"To make the business models work, it's predicated on AUM levels that are much higher than where they sit today," Gurandiano said. "And despite the pretty impressive growth that robo-advisers have had, it's still not at a level that creates real excitement."
Many robos are falling short on AUM
The business of financial advice generally brings in revenue based on charging a percentage of client assets under management — though some players have been rolling out flat-fee subscription options.
Thus it's a sheer scale play, and the more assets under management an adviser has the more opportunity it has to generate revenue. And that point is particularly crucial for robo-advisers, which charge a fraction of the fees traditional financial advisers do.
An HSBC report in March 2019 found that for a robo-adviser to just break even, it would need to manage between $11.3 billion and $21.5 billion in assets.
Betterment and Wealthfront, the two largest independent robos, manage $16.4 billion and $13.6 billion in invested assets, according to forms filed with the Securities and Exchange Commission in October 2019. Those figures don't include the assets in the firms' high-yield savings accounts.
The remaining independent robos fall well short of HSBC's mark in terms of assets. Other well-known robos such as Acorns, SigFig, and Stash all sit below $2 billion in terms of client assets. (SigFig also partners with several large wealth managers to white-label its technology.)
And overall, startup robos are dwarfed by wealth management giants. Firms like Wells Fargo and Morgan Stanley measure their wealth assets under management in trillions, not billions.
Consolidation among the startups in an effort to bump up their AUMs is one potential option. But with venture capital firms pouring hundreds of millions of dollars into them, the sense of urgency to combine forces simply isn't there, Gurandiano said.
"They're still fiercely independent, and there's no catalyst to force them to merge," he said. "They're well funded. They're well-capitalized. They're growing. They really haven't hit that wall yet where they go, 'We've got to do something here.'"
Betterment last raised money in June 2017 — a $70 million round that nabbed it an $800 million valuation. Wealthfront had a $75 million Series E in March 2018, but with it the company's valuation dropped to $500 million from a previously reported $700 million in 2014, according to a report from Bloomberg.
And even smaller wealth startups have been nearing unicorn status.Acorns, which has roughly $1.2 billion in invested assets, raised $105 million for its Series E in January 2019 at an $860 million valuation.
But those valuations will likely scare off potential buyers. The amount of money raised in recent years has created price tags that are too high for larger competitors to consider making an acquisition, Gurandiano said.
"There is displacement in valuation given that revenue multiples in private markets are equivalent to EBITDA multiples in public markets," he said.
Robo IPOs could struggle
Going public is another potential option for robos. In September 2019, Ashley Johnson, Wealthfront's chief financial officer, told Business Insider she had ambitions to take the company public, although she did not provide a specific timeline.
But Gurandiano, who was Deutsche Bank's lead financial technology banker in the US before joining RBC in 2015, said that route could be difficult because it's a tough pitch for one robo to truly distinguish itself from competitors.
"The public markets are going to be discerning around valuation for those businesses, because I think the points of differentiation from the tech perspective are nuanced and not as acute as they make them out to be," he said.
Further complicating matters is the rise of commission-free trading, Gurandiano added. In the fall of 2019, traditional discount brokers such as Charles Schwab, TD Ameritrade, E-Trade, and Fidelity all dropped their fees on trading US stocks and ETFs.
In doing so, robo-advisers pitch as being a place to invest your portfolio at a lower cost has somewhat diminished, he said. But with commission-free trading now the norm, more investors may simply take matters into their own hands.
"At one point you were the cheapest option to have, but now I can just trade my own stuff for free. The original low-cost proposition has been eroded," Gurandiano said. "They need to differentiate on value-added features and diversification."
