The Unprepared Face Many Surprises When Selling Their Agencies

What is being sold when an owner decides to sell their agency? Expirations (generically). What are expirations? Data. Why is data valuable? Because the data enables one to create a revenue stream. The revenue stream is what is actually being purchased.

Is the revenue stream more or less assured if the data is bad? Is the revenue stream more or less able to be certified if the data is bad?

What I find with considerable consistency is that many agency owners think all revenue streams are valued the same way and therefore the quality of the data does not matter. They decide to sell their agency using their lousy data and are surprised and frustrated when the agency’s revenue stream is discounted. Think of it simply: If one piece of data shows $1 million in revenue and another piece of data shows $850,000 in revenue, which revenue stream figure should be used? Which revenue stream is being purchased? Why in the world would anyone trust the seller when he says, “It’s $1 million!”?

Readers who have not gone through a due diligence/valuation process are probably wondering, “How could that happen? That would never happen to me! My data is good.” Everyone says their data is good. However, it is usually not true.

Agency owners say they have accountants who are staying on top of the quality of their data. However, most accountants know nothing about insurance agency accounting so their financial statements have holes that make their data deficient, or at least inadequate. Examples include incorrectly reflecting premiums payable and premiums receivable, putting contingencies into commissions, not tracking commercial versus personal lines commissions, not showing all compensation, not differentiating agency bill from direct bill, etc., etc., etc. If you think that because you are a direct bill only agency and that these accounting issues do not affect your agency, you are wrong because even direct bill business has unearned commissions.

Then there are the operational factors such as how many policies the agency writes. The majority of agencies cannot easily provide, and often cannot provide at all, an accurate policy or account count.

There is an enormous difference in value between an agency that has $1 million in revenue with 500 clients and an agency that has $1 million in revenue with 5,000 clients. A buyer must know that they can identify the customers they are going to service after the sale. If the seller cannot specifically identify how many customers exist, how can the buyer have any confidence in what they are purchasing?

Another data point that so many sellers take for granted is carrier data. All carriers are created equal, right? No. Differentiating between surplus lines and admitted business matters. I have received data where the agency says they represent 25 carriers. However, they actually represent 50 carriers and 25 brokers. The difference between the two scenarios matters because the former says the agency is professionally managed while the latter says the agency is poorly managed. Furthermore, the fact the agency did not take the time to correctly answer such a simple question suggests carelessness and a lack of caring. Sloppiness and lack of care is not worth as much as quality and caring.

Poor data is endemic, and buyers know how to take advantage of sellers with bad data. They set them up with high numbers knowing they will knock the price down at closing based on the inferior quality of the data. For example, a few years ago I did a summary review of an agency’s data and advised them that their data was not acceptable for taking the agency to market. They did not like my answer so they hired someone to advise them who was just after the dollars. They went to market, obtained a letter of intent with a high price, and went to the closing where the buyer cut the price by around 30% because, as they advised the seller, the agency’s data was so poor that they had no idea what they were really buying. The buyer knew this all along. It was 100% predictable.

It makes sense for buyers cut the price. They have inadequate certainty about what they are buying and/or if it is going to cost them a lot of extra money in due diligence exploration to gain the certainty they need to justify a high price. Either way, the agency is not worth as much to them.

Don’t Assume the Data Is Adequate

To avoid the embarrassment and value loss, take the following steps. Don’t just assume that your data is adequate because that is usually not the case. When buyers are paying large sums, they are going to verify every point. You are not that trustworthy to them.

I will not go through the entire due diligence list, it is too long. At the very least, reconcile your income statements, line by line, with your tax returns, your commission statements, and reports from your data management system. Verify your account and policy count for the past three years. Review the reports to verify that your account counts are growing at about the same pace as your commissions.

What if your account counts are increasing by 10% but your commissions are only increasing by 2%? What is going on and going wrong? If your premiums are growing but your commissions are not, what is going wrong? Are you placing too much business with low commission carriers? Buyers do not buy premiums. Are your producers actually paid what they are supposed to be paid? At least 50% of the time they are paid too much.

An obstacle to developing quality data is that many agency management systems are oversold and over promise their capabilities. I really feel for small agency owners who have difficulty affording better systems. If they were not promised that the systems could do more than they can, it would be a benefit. I am not suggesting that the people selling these systems are misrepresenting the systems’ capabilities, but the buyers are just trying to get through the day and do not always appreciate what they will eventually need in a system.

When an agency decides to sell or to get a loan from a knowledgeable lender the agency’s data needs to be solid. Keep in mind to beware of some of the small local banks because based on what I have seen, they do not always know what they are doing, and some are just clearly greedy to make the loan. Then, based on my experience, if something goes wrong, they will blame the borrower rather than assuming any responsibility.

If you want to build a bona fide business rather than a checkbook business, you need quality data to manage your agency well. At the very least, you need quality data to avoid wasting money or to avoid being taken advantage of by employees.

The market value of quality data is extremely high, on top of all else. Do not take short cuts and expect to achieve the same value as the agencies that are taking the time to do the job well are obtaining.