When It Comes Time to Sell, Don’t Make Your Agency a ‘Project’
You may know the familiar adage from the real estate world that says new kitchens and bathrooms sell houses. Yet that’s only partially true. The deciding factor that determines which houses receive multiple offers and sell quickly vs. those that languish on the market isn’t so much about whether a kitchen has granite countertops. It’s not even location or price.
The real secret sauce is this: The houses that get the most attention from buyers are those that come with the fewest number of potential projects possible.
What’s this have to do with insurance? Plenty, especially for independent agents. Most agents want to have control over their own destiny. That’s why they put out their own shingle in the first place. Having that control also means preparing to sell your agency from Day 1. That’s because, for most independent agents, the price they command for their agency will represent the largest component of their net worth and provide them with the largest retirement nest egg possible.
But independent agencies are much like houses. Those with the fewest number of potential projects attract the most M&A attention from buyers and can sell for up to five times revenue (or more). Those with the most potential projects may only garner a two-times multiple or even less.
How do you make your agency as project-free as possible to drive up its potential sale price? In my experience, I’ve seen the highest-value agencies embody these seven best practices that make their business irresistible to prospective purchasers:
1. Excellent Financial Statements
An impressive set of financial statements — and the significant profits that go with them — show buyers that your agency is professionally managed. It demonstrates that your agency dedicates itself to identifying problems early and turning them into opportunities that help maximize net income, giving buyers a clear value proposition.
To achieve fantastic financials, every agency should start with comprehensive statements that include Profit and Loss, Balance Sheet, Statement of Cash Flows and Accounts Receivable. In an ideal state, agencies will leverage their agency management system to generate these statements.
Provide as much detail as possible so a buyer can readily understand agency revenues by source along with expenses. Your balance sheet should always demonstrate that your agency is in trust and has a ratio of current assets to current liabilities of 1.25 or greater. Complementary reports can help you understand the budgetary impact of new business production and growth, and show you areas where you might have client or income leakage.
2. World Class EBITDA
No matter your agency’s size, buyers will derive EBITDA (earnings before interest, taxes, depreciation and amortization) for it to equalize the value of profits compared to other agencies with different financing or depreciation practices. Even when a transaction is expressed as a multiple of revenue, sophisticated buyers will perform an EBITDA analysis and then use benchmarking studies to compare your agencies’ results with those of other agencies.
Is there a magic EBITDA number? In my experience, agencies that sell for the highest multiples deliver 25% EBITDA, and often significantly higher to the bottom line.
3. A Well-Rounded Book of Business
A home with three or four bedrooms will typically command a higher price point than a home with one or two bedrooms. The same is true for agencies and their books of business. Those whose books include a diversified mix of products will attract a higher value than those with less diversity. Creating a well-rounded book of business takes time — it’s not something you can do two-to-three years before you sell.
The most robust books of business balance commercial lines and personal lines. They also balance business across a variety of quality carriers with higher commissions and profit sharing. Owners must manage their books of business well to create consistent quality loss ratios and maximize profit sharing over time. Before a buyer writes a check, he or she will review the five years prior to the sale and evaluate the consistency of profit-sharing. For this reason, it’s far easier for agency owners to maintain quality earnings through high-quality books of business than it is to recreate it from scratch.
One other consideration: While location, location, location is the real estate maxim, an agency’s location doesn’t carry the same heft. Many agents believe their loss ratios are dictated by the weather in their particular region. Yet I consistently see agencies achieve excellent loss ratios in the same communities that contain agencies which have poor or inconsistent loss ratios. The better you manage your book of business — especially in the five years prior to selling — the higher a sales price you’ll earn.
4. Right-Sized Producer Commissions
In most cases, agencies that attract a higher value pay their producers fair-market compensation at a rate they determine through benchmarking studies. This key step often leads to higher profits. Lower-valued agencies tend to pay their producers higher-than-market commissions. This causes profit leak and creates additional risk (or another project) for buyers, who will need to adjust producer compensation to achieve higher profitability.
5. Non-Piracy Clauses
When buyers purchase an agency, they’re buying an income stream. Having every employee in your agency sign a non-piracy agreement helps protect that income stream and make your agency more valuable to a perspective buyer.
6. Few (or No) Extraordinary Owner Perks
Many owners run their agencies like a “lifestyle business,” where the agency pays for perks like cars, country club memberships and other legitimate — but not necessary — expenses.
This is a tax-efficient strategy. However, it results in lower EBITDA and therefore a lower sales price.
While you can strip out agency perks prior to selling, it complicates the process and may raise potential buyers’ concerns about a lack of professionalism within your agency.
A better strategy: Create holding companies and put your perks in them. This will tidy your financial statements and boost your agency’s benchmarked performance.
7. Maximum Efficiency
Profits are the ultimate driver of value for any business. So, it makes sense that higher efficiency will mean a larger sales price. Document all agency processes, train employees on those processes, and require that your employees adhere to them. This will help bring multiple benefits, including higher profits, lower expenses and greater value.
The second you purchase a new home, you should start investing in it as if you’re going to sell it immediately. That way, you’ll slowly build its value over time and leave fewer projects for the next owner. The same is true with your agency. The more you invest in it and follow sound business practices, the more valuable you’ll make it to any buyer, so when M&A activity spikes and the time is right, you can get the most out of it and start your retirement confidently.