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Transforming the wealth management industry

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  • 1. Financial Transforming the wealth management industry Mark Del Col Managing Principal, Capco Andrew Hogan Managing Principal, Capco Thomas Roughan Principal Consultant, Capco Abstract Mass affluent clients have become a very attractive part of the overall wealth management industry. While response to this growing market has been swift, the success stories are quite rare. In this paper, we review the history of the wealth man- agement industry to identify a number of important trends for servicing mass affluent customers and offer a point of view on where those trends will take the industry. 105
  • 2. Transforming the wealth management industry The emergence of the mass affluent customer as a new mar- Net revenues s Savings and investments ($U.S. billions) s Debt ket segment in the 1990s was greeted with enthusiasm by the financial services industry. Numerous institutions spent time IRAs and Keogh plans $10.6 and money trying to generate a successful formula for prof- Life insurance $8.9 itably servicing these customers. To date, most have met with Mutual funds $8.1 limited success. Mass affluent customers require a complex Savings $5.7 Chequing $4.9 mix of products and services, including objective advice and Money market demand accounts $4.9 planning, best of breed products and differentiated service- $4.4 Annuities levels which few institutions can meet by themselves. Any CDs $3.6 institution seeking success in this market will need to make Stocks $3.6 choices in the near future as to how and in what capacity they Trusts $1.1 Bonds $1.0 will seek to service these customers, whether as a primary Money market mutual funds $0.7 advisor, a product supplier, or an industry processor. Broker's call money $0.4 Principal-residence real estate debt $18.4 In this paper, we have identified some important trends for Other real estate debt $5.8 servicing mass affluent customers and offer a point of view on Credit card $1.7 where those trends will take the industry. In addition, we have Other debt $1.3 explored the ways industry providers will need to transform Figure 1: Net revenues generated by mass affluent households by product, USA, 2000 themselves for the future. We find that current strategic Source: VIP Forum with data from U.S. Federal Reserve 1998 Survey of Consumer choices continue to pose difficulties for firms doing business Finances; Council interviews with member institutions; Council estimates with mass affluent customers, as they require a departure from conventional thinking on how to service these cus- The seemingly most attractive customer segment for these tomers, and suggest that financial firms need to give serious institutions was the burgeoning mass affluent segment, indi- consideration as to whether or not they can be all things to all viduals with U.S.$100,000 to U.S.$1 million in net investable customers, or whether a more selective approach to offering assets. These customers had gained in prominence during the financial services is required for future success. bull market of the late 1990s, when their net worth increased dramatically with the booming stock and property markets, The mass affluent mirage and provide the biggest financial opportunity for today’s highly At the end of the last decade, two trends emerged at roughly integrated financial institutions. They are estimated to have the same time to significantly alter the landscape for retail approximately 90% of the non-mass market customers by financial service providers. First, the Glass-Steagall Act of 1933 number and 70% of non mass market assets1. Estimates for was repealed in 1999, permitting financial institutions to break revenues range from 40%-50% of total retail revenue2. For out of their product silos and sell the full range of financial the new, integrated firms, these were ideal customers as they products available to them to their customers. This deregula- consumed a wide variety of financial products and services tion was due in part to a desire by American institutions to which the integrated financial service firms could provide (see have a level playing field with their European counterparts, Figure 1). Even some of the private banks, traditionally purve- many of whom have offered bancassurance products for yors only to the very wealthy, believed that the mass affluent decades. After deregulation, integrated firms developed with a segment represented potential opportunities and rewards. full product suite to offer to customers. The hope was that by Consequently, many institutions launched services targeted selling an increased array of proprietary products, they could specifically at the mass affluent, and providers spent substan- increase their ‘share of wallet’ of their customers and reap tial time and money in trying to tailor their offerings to suit the additional profits. needs of this new market segment. 1 Datamonitor, 2001, U.S. High Net Worths 2001 106 2 Council on Financial Competition, 2001, Courting the Mass Affluent, Corporate Executive Board, Washington DC
  • 3. Transforming the wealth management industry The initial challenge was to simultaneously offer expanded alternative, less resource intensive versions of their traditional services to these mass affluent customers while still maintain- services, hoping to snare mass affluent customers with their ing profitability. The Internet was viewed as the primary existing reputation. mechanism for accomplishing this and various institutions developed offerings that could take advantage of this new It seems that servicing and satisfying this growing group of medium. For example, Merrill Lynch formed a joint venture customers profitably has turned out to be more complicated with HSBC to build an on-line mass affluent offering in the U.K. than many had expected. Slowly, the wealth management Even private banks such UBS and Bank Vontobel initiated industry is coming to the realization that the mass affluent projects to provide private banking style services to this market segment represents an essentially different breed of cus- segment through online delivery channels. However, as we all tomer, one who falls somewhere between the two traditional know, the high-tech, low-touch approach failed. Merrill/HSBC, extremes of mass market retail and exclusive private banking. USB and Bank Vontobel have all shut down their original on- line only wealth management offerings. The first round of The mass affluent reality innovation, while based upon reasonable assumptions, was Expanding share of wallet with the mass affluent segment has unsuccessful. proven to be a significant challenge for providers targeting this market. This was partly due to the fact that it has taken a More recently, financial institutions have transformed their long time for these institutions to gain a good understanding approach and have sought to offer mass affluent customers of the complex financial needs of this segment. These access to financial advisors with specialized knowledge. For providers are coming to the realization that what the mass example, JP Morgan Chase announced the development of affluent customer wants and needs fall into three categories: their Personal Financial Services (PFS) line in 2002. Targeted advice, products, and differentiated service. at customers with U.S.$250,000 to U.S.$10 million to invest, PFS combines an asset management account with banking Objective, integrated advice, and planning products, mutual funds, separately managed accounts, and Using the Internet, mass affluent customers can educate insurance products. The advice component of the offer comes themselves on individual products quite easily, but market via advisors accessible through branches, dedicated phone gyrations have made building a plan and sticking to it more lines, and online web portals. important than ever. Putting together a complete and sensible financial plan requires advice on asset allocation, tax planning, Merrill Lynch has launched ‘Total Merrill’, offering trust, broke- and other services. rage, financial planning, banking, asset management, insur- ance, alternative investments, and discount brokerage. Their Overall, approximately 70% of mass affluent customers use strategy is to introduce relationship-pricing with no minimum some type of advisor, with full service brokers often being the account size required, but to provide larger accounts with primary choice. However, in the past few years there has been more favorable rates. slow erosion in the market share of the full service brokers – from 46% to 36%3. Bankers and accountants have also seen Thus far, both ends of the wealth management spectrum have reductions in their market share. generally miscalculated their approach for the mass affluent market. The traditional retail financial service providers have The real winners to date in servicing the mass affluent have simply assumed that their existing integrated product suites been independent financial planners and registered invest- would satisfy their mass affluent customers and the high-end ment advisors. There has been a rapid growth in the number private banks have, until recently, done little more than offer of independent financial advisors globally, with the U.S. 3 Council on Financial Competition, 2001, Courting the Mass Affluent, Corporate Executive Board, Washington DC 107
  • 4. Transforming the wealth management industry Box 1: Financial Planners activity in financial accounts and link to websites with tools for The financial planning market is composed of many different types of practitioners, financial planning and to assist with product selection, have and there is a confusing jumble of acronyms currently used. One source has identi- seen continued growth. fied seventy-three different designations for financial professionals.[1] However, of those seventy-three, only four are truly cross-product in their subject The benefits of these approaches to the mass affluent cus- matter, covering deposits, credit, investment, insurance, taxes, and estate planning. These are the Certified Financial Planner (CFP), Chartered Financial Consultant tomers are that they can receive objective advice on how to (ChFC), Registered Financial Consultant (RFC), and the CPA PFS, which is a Certified protect and increase their wealth. Additionally, they can Public Accountant with a specialty in Personal Financial Services. access their overall portfolio, assets and liabilities, quite easily The other designations are product specific and primarily focus on investments from one source. This would be something that a financial insti- (Series 7, CFA) and insurance (CLU, CPCU). Registered investment advisors fall into this category as well. tution would have trouble recreating, even if the client permit- ted them to have access to all of their personal financial data. In terms of numbers, the product specific designations have many more practition- ers, with over 650,000 holding the Series 7 alone.[2] The total number of cross product practitioners mentioned above is only approximately 84,000.[3] In addition, Best of breed products however, the American Institute of Certified Public Accountants (AICPA) estimates While the mass affluent clients might not feel comfortable that there are approximately 85,000 CPAs involved in personal financial planning with their clients (this number excludes CPA PFS holders). developing a financial plan independently, they are relatively comfortable making their own decisions about which products [1] International Association for Registered Financial Consultants. and product suppliers to use. They use the Internet to retrieve http://www.iarfc.org/coninfo/FA.SHTML ). August 4, 2003 [2] National Association of Securities Dealers. what information they need to educate themselves on average http://www.nasdr.com/2380.asp). August 4, 2003. performance and costs for various products, and to help select [3] CFP numbers (40,375) from (http://www.fpsb.org). Statistics page. August 4, 2003. the most appropriate one. This shopping mentality explains ChFC numbers (38,000) provided by the American College, August 4, 2003 the reluctance to sole source financial products – mass affluent RFC numbers (2,650) provided by the International Association of customers are more willing to go with the supplier that offers Registered Financial Consultants, August 4, 2003, also from (http:// www.iarfc.org CPA PFS numbers (3,185) from the American Institute of Certified Public the best perceived price/performance in a given product cate- Accountants gory. This dilutes any concept of brand loyalty with these cus- Personal Financial Planning Division, August 1, 2003 tomers as they are much more willing to develop multiple rela- tionships with product suppliers. For example, one mass afflu- ent survey found that on average, investors with more than Financial Planning Association sponsoring a global push to U.S.$500,000 of investable assets had around 12 investment make the Certified Financial Planner (CFP) designation a global accounts and 3 checking and savings accounts4. In contrast, a standard. Other organizations have developed similar pro- Tower Group survey found that mass market consumers use grams and they have also seen growth in numbers (see Box 1). an average of just over 4 separate institutions to provide them Providers like these offer the objectivity and independence with an average of 10 products5. that the mass affluent customers desire. In terms of preference for a single supplier, again there is a dif- For the 20%-30% of mass affluent clients that fall into the ‘do- ference with the mass market. Surveys in the U.S. and U.K. it-yourself’ category, other providers have experienced a cer- point to the same conclusions in terms of consolidating busi- tain degree of success. Personal financial information man- ness with one supplier - 60%-70% of mass market consumers agement packages such as Quicken and Money, which track would prefer to use one institution for their financial activities6. 4 Spectrum Group for Advent Software. From (http://www.hnw.com/newsrsch/hnw_market/financial2003.jsp). April 2002. 5 Khirallah, K., 2003, ‘Building Integrated Relationship Products: Where Are US Banks Today?’ Tower Group. March 6 Figures adapted from Khirallah, K., 2003, ‘Building Integrated Relationship 108 - The Journal of financial transformation Products: Where Are US Banks Today?’ Tower Group. March. And Spencer, R., 2003, ‘Key Issues in European Retail Banking 2003: Channel Integration,’ Datamonitor
  • 5. Transforming the wealth management industry In contrast, only 31% of mass affluent would prefer to pur- The mistakes made by most providers in the past usually 7 chase all their products from the same company . revolve around two types of errors. The mass-market retail institutions have typically under-delivered their service propo- Consequently, in order to succeed, products must prove them- sitions and as a result have left mass affluent customers want- selves on their own merits. For the mass affluent, there must ing more, feeling generally unsatisfied, and inviting them to be tangible economic benefits if they are going to deepen look elsewhere for their wealth management needs. On the their relationship with a supplier. A good example of this is other hand, traditional private banks have over-delivered, pro- ‘integrated banking’ products. Popular in the U.K., these have viding ‘first class’ service yet charging ‘economy class’ prices, become success stories and are good examples of products resulting in terrible customer economics. The challenge has that help deepen the relationship with the client and which always been to develop a service proposition that exceeds the offer economic value for the customer. These products take mass-market offer while profitably creating economic wealth advantage of having access to combined customer asset and for the supplier. And the wealth management industry has liability accounts to deliver more value. Typically this involves started to look outside itself for inspiration. Consider the travel using the interest paid on the asset accounts (current and and tourism industries, for example, which are quite sophisti- savings) to offset against the interest owed on the liability cated in segmenting their customer base and developing dif- accounts (mortgages, credit cards). In situations where ferentiated customer value propositions and offerings based interest is calculated daily, providers state that customers pay on their common core product set. Regardless of where you sit much less interest overall, and also avoid paying tax on interest on an airplane, you still arrive at a common destination at the earned as it is applied immediately to the liability accounts. same time as everyone else on your flight. For business class One provider (Intelligent Finance) acquired 9% of the U.K. mort- passengers, however, there are major differences in service gage market in its first year of operation due to this product8. level quality from those sitting in the economy class section of the plane, yet far less perceived differences with those in first This concept is now being explored by a number of U.S. class. Airlines have found ways to differentiate the business providers. However, the integrated asset/liability product class flight experience from economy by focusing on a few key might be more difficult to establish in the U.S. because mort- differentiating offering attributes: gages are typically sold off immediately to mortgage service companies. However this does not preclude U.S. providers s Time is recognized as a customer-valued resource, and so from developing these products in their non-U.S. markets, or almost all elements of the customer experience are developing other products based on the same premise. designed to maximize the customer’s return on time invested. Differentiated service – ‘Business class’ for mass s Customer service is proactive, with customer satisfaction affluent customers monitored frequently and new services offered to targeted The majority of mass affluent customers have generated their customers regularly. wealth either by running their own businesses or being s There is greater flexibility and variety in products and employed in well compensated professional occupations, such services offered for use. The provider will take care of the as management, law, and medicine. These customers are used planning and offer alternatives when needed. Business to superior service from other, non-financial, providers and class travelers have the option of changing their itiner- often place a premium on customer service, flexibility in terms aries at the last minute as their requirements change. of product choice, and timely, accurate information. Financial s Information on flights and other products used are service firms are coming to consider these expectations when available through a wide variety of channels and are as servicing the mass affluent market. up-to-date as is possible. 7 VIP Forum, 2001, The Next Generation, Cultivating and Profiting from the High Net Worth Client of Tomorrow, Corporate Executive Board, Washington DC 109 8 Spencer, R., 2003, ‘Key Issues in European Retail Banking 2003: Channel Integration,’ Datamonitor
  • 6. Transforming the wealth management industry s Customer loyalty programs are the norm now in airline, money managers. If there is a failure, it becomes much easier hotel, and some other industries. In the financial markets, to simply replace the external manager as opposed to having credit cards are the only product currently used which to eliminate an internal supplier. reward customer loyalty. This desire for objectivity and best of breed products continues Early evidence is emerging that some financial institutions are into other product groups (transaction, credit, insurance), so developing their own version of ‘business class’, a level of that there is a growing fragmentation of the value chain with- service for the mass affluent that offers a sophisticated blend in this market, creating a divergence between those whose of private banking panache and economically sound mass main business becomes owning the overall customer relation- market delivery. ship, and those who build and supply financial products. Similar to private banking, innovative customer service models Primary advisors work with the customer to build a financial are emerging whereby a relationship manager who is sup- plan, and then choose the appropriate product suppliers to ported by product specialists targets the mass affluent cus- use when implementing the plan. As the products used are tomer. In this way, they can offer customized, proactive advice mainly non-proprietary, this insulates the primary advisor to to clients. In order to save time, however, some providers send some degree should one of the products fail. Product suppliers relationship managers to meet clients at home or their places are focusing on building best-of-breed products which are of work. This face-to-face contact is usually reserved for finan- then distributed to the primary advisors via various channels. cial planning exercises. When defining solutions for clients, Supporting the primary advisors and product suppliers are these institutions rely on open source architecture and use growing numbers of industry processors, whose main role products from other providers. This approach offers customers will be transaction processing, accounting and reporting and the flexibility they desire to use best of breed products. other administrative functions. All of these roles currently exist in the financial industry today, with many companies To save on costs, mass affluent customers are encouraged operating in one or more of the three areas outlined. However, with pricing discounts to use lower-cost channels such as the the transformational nature of this industry is demonstrating Internet, ATMs, and the phone for routine transaction pro- that over time, it is likely that providers will choose one of the cessing and account maintenance activities. This is standard three primary differentiating roles within which to do business. practice in the mass market world and works well with the mass affluent clients as they realize it is a time-saving measure. Primary advisors The primary advisor needs to be able to offer a ‘total balance What will we be when we grow up? sheet’ service to its customers. They need to develop a finan- The mass affluent clients are demanding, and have thus far cial plan, find the appropriate products, and perform continuous spread their business across a number of different service monitoring of the client to make the appropriate changes to providers in order to meet their financial needs. Their needs the plan as the customer’s situation changes. Ideally, a pri- for objective advice, best of breed products, and differentiated mary advisor would offer objective advice on the full range of service levels constitute a complex proposition mix which few financial products - which ones are best, which ones comple- providers can comprehensively meet. As a result, the mass ment each other, which ones to avoid - and would also take affluent clients have started to shape the industry as a whole. proactive action to protect customer wealth. A good example is the growing use of managed accounts by the major broker/dealers, essentially where they have out- For traditional providers, this poses quite a dilemma. Banks, sourced the investment management function to external brokers, insurers, and mutual fund companies all evolved as 110 - The Journal of financial transformation
  • 7. Transforming the wealth management industry sellers of specific financial products in specific markets. Banks products that are all best of breed, especially if these sold transaction and deposit products, insurers sold insurance, products are still being manufactured by various and brokers and mutual fund companies focused on invest- subsidiaries with different management styles, processes, ment products. For these firms, the leap to providing compre- and technology. hensive wealth management advice is a big one. Post Glass- s Build third-party product network and rating system - Steagall, while there may be one parent company acting as a Primary advisors will need to develop comprehensive coordinating force, the underlying businesses, processes, and knowledge of financial product suppliers and have the technology are still primarily product focused. This has hinde- ability to rank them. Vendors like Morningstar and Lipper red the growth of services which focus on meeting the total which provide this type of data for mutual funds are financial needs of customers. Building an integrated view has excellent examples. Rating standards for other financial been quite difficult, even for those customers who have wanted it. products should be designed and implemented, either internally or using an external provider. With third party To transition into a primary advisor, there are several steps products, the issue of whether commissions will be paid to that need to be taken: advisors that recommend certain products needs to be squarely dealt with. From an infrastructure perspective, s Identify target customers - Successful providers have the primary advisor will need to support an open architec- mined their institution’s mass market customer base for ture structure that allows for a ‘plug and play’ analysis of potential mass affluent customers. Using product, external products within the overall client balance sheet. transactional, demographic, and other information these Again, this capability can be developed internally or an institutions have been able to identify current mass industry processor can be used. affluent customers as well as predict which of their s Build total balance sheet advisory capabilities - current mass market clients might move into that category Advisors are already beginning to use sophisticated in the future. While this can be a difficult hurdle for financial planning tools for their clients in order to analyze traditional firms, as most customer information resides in life goals and deliver a financial plan for their customers to product silos, successful firms have been able to bring implement and maintain. The accounting and reporting on together an integrated view of the customer’s financial the balance sheet are becoming increasingly available picture. Referrals from existing mass affluent customers through all the standard channels – Internet, wireless, provide another source of new customer acquisition. phone, and updated either real-time or on a daily basis. Finally, micro-segmentation, for example along This will make consistent monitoring by the customer and occupational lines, is evolving as yet another means of the advisor possible and changes can be quickly made to identifying and targeting distinct sub-groups of mass products as needed. To support this planning process, affluent customers. firms are reconsidering their existing relationship and s Identify value added core products - In order for these customer service staff. To support a total balance sheet firms to succeed as primary advisors, they will need to plan, cross-product professionals are needed which can perform analysis to understand which products are analyze the big picture and recommend the appropriate perceived as best of breed by their customers and solution. leverage their offerings around their strongest s Build ‘business class’ service levels - As stated sub-brands. This will be an especially difficult undertaking previously, the mass affluent client expects a higher level for firms which have recently grown on the premise of of service than mass market customers and will switch selling all types of products to their clients. However, few providers if their needs are not met. Firms targeting the companies can truly manufacture a wide-range of mass affluent market need to develop service models 111
  • 8. Transforming the wealth management industry which maximize time spent with the customer and offer s Create best of breed products - Product suppliers will tangible benefits for deepening the relationship without need to build and sell best in class products to gain sacrificing the economics of the customer relationship for business from the primary advisors and their customers. the provider. The customer’s total balance sheet needs to They will need to continue to invest in first-rate product be updated and proactive advice ready for client consider- specialists who have a clear understanding of who their ation. Benefits need to be offered to the mass affluent target markets are so that products are designed to the clients to encourage them to extend product use or to appropriate specifications to meet customer expectations. deepen the relationship. This is already the case with most Rankings against competitor’s products will need to be credit card propositions, but few other financial products monitored regularly so that any changes required to offer any type of benefit for use, but this too is changing. match or stay ahead of competitors can be quickly made. Firms that maintain the total balance sheets for their s Build efficient infrastructure - The manufacturing customers will increasingly offer financial or other process for the product needs to be efficient and benefits to keep good customers loyal. consistent so that the products can deliver solid price/ s Monitor customer profitability - Today’s providers are performance rankings over time. Firms should consider getting better at monitoring customer profitability and are utilizing Six Sigma or similar techniques in their taking strides to use the information effectively. Short production processes to enforce standardization of lived are the days where customer economics are manufacturing results as well as identification of calculated at great effort and expense only to sit unused in improvement opportunities. a bank database. In the mass affluent market, profitability, s Develop extensive distribution capabilities - Product both current and future, will continue to be an important suppliers will be mainly in the business-to-business space determinant in migrating customers either up or down in as end customers will primarily reside with the primary the wealth management segmentation scheme. advisors. To this end, they will need to invest in first-rate distribution capabilities to ensure that their products By building these competencies, the major banks and broker- reach the primary advisor community. Product suppliers age firms can stave off the competition from the independent will need to utilize the full array of distribution channels financial advisors and add value to the do-it-yourself mass and have a good understanding of which channels are affluent consumer who sees little value in paying money to an appropriate for the different types of primary advisors. advisor who tells them what they already know. Industry processors Product suppliers As primary advisors and product suppliers focus their invest- Most retail financial institutions typically grew up around one ments on capabilities that improve their competitive position, product set, be it credit cards, mortgages, or mutual funds. they will outsource the rest. Industry processors, many of Many have since been combined into larger institutions, but as which already exist, will fill the operational gaps with software the influence of the mass affluent clients continues to exert and service solutions designed for both. These processors will itself, strong product capabilities will become increasingly need to continue focusing on the following capabilities: important. As information on financial products becomes ever easier to obtain, customers will continue to become more dis- Develop turnkey wealth management solutions criminating with the products they want to use. This will influ- s Wealth management advisory capabilities require ence some companies to go back to their roots and focus on sophisticated planning and advisory tools, especially building superior financial products, rather than trying to build regarding investment, tax, or estate planning decisions. primary advisory capabilities. For those companies, there are Processors should consider whether to buy or build these several critical competencies they will need to develop. tools. There are a number of independent software 112 - The Journal of financial transformation
  • 9. Transforming the wealth management industry vendors for investment planning in existence which could value chain, be it at the customer front end as primary advi- be considered as candidates for acquisition. sors, or as product suppliers, or industry processors. The days s Integrated product accounting and reporting. of being all things to all segments are quickly coming to an end. s Building a total balance sheet will require accounting software to reflect asset and liability balances, cash flows, tax accruals, and other financial information. The software will need to track the costs and performance of each product used and reflect the contributions of each product to overall financial performance. s Scalable transaction engines s As the bulk processors for the industry, these firms will need to develop transaction engines which are highly scalable and efficient, but retain some degree of flexibility to meet the different needs of customers. Focus on service quality Primary advisors and product suppliers will be heavily reliant on the service offerings of the processors, and these will need to be tailored to different market segments and specific firms in order to supply them with the services they require to sup- port their respective customers. As the backbone of the wealth management industry, industry processors will need to maintain high levels of service quality in terms of information accuracy, timeliness, and completeness. Proactive monitoring, measurement, and improvement of service level quality across the client base will be critical to the success of these firms. Conclusion While it is true that the entire wealth management industry has had to undergo tremendous transformational change in recent years, the emerging mass affluent segment is driving a particular need for change. Providers have gradually come to the realization that they can no longer prosper by trying to force the mass affluent customer into existing offer proposi- tions originally designed for either the mass market or the wealthy private banking customer. The needs of the mass affluent segment are simply too specialized for that. Providers are taking two primary tacks when approaching this problem. They are designing tailored offerings geared specifi- cally for the unique requirements of the mass affluent seg- ment; and they are choosing where to specialize in the industry 113