For many independent investment advisory firms, the past few years have been a good news/bad news scenario. The good news is that a significant number of firms continue to see strong growth in terms of winning new clients. The bad news is that assets under management, in many cases, still have not fully recovered, taking a bite out of revenues and compressing profit margins at many firms.

Add to the mix that clients now demand more attention and their needs are growing more complex, and it's easy to see how many firms face a dilemma: How can they run a profitable business while also delivering the personalized, world-class client service that has become a hallmark of the independent investment advisory industry?

This article, which seeks to untangle this knot, is based on an upcoming Charles Schwab Advisor Services white paper about client service segmentation strategies for RIAs. The report will examine how RIA firms can maintain and nurture a high-quality client experience while also maximizing firm-level operational and financial performance.

INEFFICIENCIES, UNMASKED

The economic and market meltdowns highlighted inefficiencies in both the business and service models of many advisors that were masked when firms were growing rapidly and profit margins were far larger. According to Schwab's annual RIA Benchmarking Study, advisory firms' median annual growth rate from 2003 to 2006 was a very healthy 21%.

But that is not the reality for most firms today. In fact, in the subsequent three-year period, from 2006 to 2009, firms' median annual growth rate shrank to just 3%. What's more, while the concept of marketing to a niche is gaining some traction, most advisors still work with an array of client types-such as legacy clients, small investors with the potential to be ideal clients down the road and friends-and-family clients-many of whom don't meet the firm's "ideal" client profile.

These developments have left advisors asking themselves how they can continue to raise the bar in serving clients while simultaneously maintaining, or even better, boosting profits. For many advisors, the best approach to establishing a clear-cut strategy for providing high-level client service that is also profitable is to take a look at client segmentation.

THE S WORD

It's important to recognize first what a client segmentation strategy is-as well as what it isn't-and understand why the term should not elicit a knee-jerk negative response from advisors. Contrary to popular belief, the goal of segmentation is not to limit or ration what is offered in the name of profits-in other words, putting the firm's needs above those of the clients.

Instead, segmentation means defining the broad client experience you want to deliver as a firm and then determining how to deliver it in the optimal way to different types of clients. You must ensure that you are also doing what is right for your business with each client service decision you make.

Although the segmentation process might seem like death by a thousand cuts, it is indeed possible to institutionalize a highly strategic approach to client service. The aim of segmentation is to help financial advisors better define their value proposition and offering, enabling them to set extremely clear expectations about what services clients will receive and what staff and partners need to do to live up to that promise.

The upshot: Segmentation can actually support and enhance advisors' commitment to client service as opposed to taking things off the table. Most firms acknowledge that some clients have simpler needs than others, and they manage their practices accordingly. Segmentation formally defines a set of needs and develops a tailored offering to match.

Advisory firms that use segmentation report that they assess the needs of specific client groups and then bundle what they see as essential services into targeted offerings. The end result is that key services are never rationed but rather, offered rationally.

Creating formal definitions and a tight match between firm competencies and client needs in important areas of the advisor-client relationship-like advice, service and engagement-leads to clear expectations in the client's mind about what he or she will receive from a firm. A more focused and well-targeted offering also gives clients the perception that services are being precisely tailored to them-and therefore deemed more valuable as a result. Perhaps most important, establishing a baseline of services allow clients to easily recognize and appreciate any services or actions that go above and beyond the core offering.

The bottom line? When clients have clearly defined expectations about what their advisors will provide, and those expectations are met or exceeded, they become more satisfied and ultimately more loyal clients.