Buying an Agency is Much More Than Writing a Check

Regardless of your justification for the purchase and the emotional high in “making one of your biggest sales,” acquiring an agency is similar to buying that house you always wanted, or the car of your dreams. When the “high” is spent, you are left with the reality of the debt service, the changed dynamics caused by the acquisition, and the necessity to make it work in order to justify the cost, the effort and the hope that you have created tangible net worth for the firm.

Having said that, the right acquisitions can create positive momentum on your organization, if it’s the right acquisition.

So, let’s look at the determining issues and establish a framework as an aid in pulling the trigger on a transaction.

What to look for
Will the acquisition provide sustainable profit and develop accretive efficiencies for the organization? In analyzing this issue, keep in mind that your agency is like a chameleon changing it’s color and continually reinventing itself.

As an example, the average agency experiences an attrition rate of 8 percent to 12 percent per year. If you buy 100 percent and lose 10 percent each year, the book of business will suffer 41 percent attrition over five years. Therefore, in analyzing an acquisition, you need to determine:

• Demographics of the book
• Historical attrition on the book and the causes
• Average commission value of each account
• Percentage of commission that the top 10 percent of business is to the entire book
• Mix of business; i.e., percentage of book on personal lines, commercial and benefits
• How cyclical the accounts are
• Average number of policies per account

Carefully analyze historical loss ratios, consistency of company relationships, and whether the business has shifted from one market to another. What are the contingent and bonus arrangements, and how do the companies feel about the agency and its professionalism?

Analyzing the producers
Are the producers viably energized and do they consistently produce new business? Analyze contractual provisions for equity, non-compete agreements, bonus arrangements, and critically important—the commission splits.

What is the status of automation in the agency; i.e., utilization and facility, and how does it match your operation? What is the quality of the staff, the training and review process, and turnover rate?

The compelling issue is to protect yourself from purchasing a declining asset, or you might become one yourself.

Assessing the financial transaction
Keep in mind the attrition issue discussed earlier. A successful acquisition is one that at the end of the transaction has created more value than expense, enhanced the value of your agency, and has burned little or no cash.

Every buyer wants to leverage an acquisition using cash flow, and every seller wants to sell with as little risk as possible. The successful transaction will create an equilibrium of leverage for the buyer and security for the seller. The goal is: to identify a book of business whose value you can enhance, offsetting attrition; to maintain control over expense; and to create a profit.

An often-overlooked issue is the real value of the capital that you commit to the transaction. What would the return be if you took the cash and invested it in your agency, adding a producer, developing a niche program, establishing a cross-selling process for all accounts, etc.? How much cash will the transaction consume? This includes the down payment, investment in equipment and negative cash flow created by the amortization of the debt.

What about the intellectual capacity required to achieve a successful transaction—not just yours, but your staff as well? What is the impact of consolidating the acquired agency with yours; i.e., issues of chemistry, workflow procedures and lost opportunities.

Having posed more questions than solutions, one might conclude that I am not an advocate of agency acquisitions. On the contrary, but only if it is the right one. What may be the perfect acquisition for one agency might be an Achilles heel for another. It’s just a matter of being cautious and asking the right questions.

Have you acquired or have you considered acquiring an agency? Please e-mail questions and comments regarding acquisition issues to pkbronow@aol.com. Paul Bronow is co-founder of In-Focus, an insurance consulting group located in Westlake Village, Calif. For more information, please visit www.infocuss.com.