Buy your way to growth.

What you need to know about acquiring another agency.

By Robert J. Pettinicchi

In today’s demanding business climate, agencies have two options: grow and prosper, or just stay the course. But how to grow? Most agencies can grow organically, through plain old hard work, methodically attracting more clients and perhaps expanding markets. A few, however, accomplish it quickly, by acquiring another agency. In fact, hundreds of sizeable independent agency mergers were recorded last year alone. Is a merger or acquisition in your agency’s future? Here are important considerations to help you craft a deal to your advantage.

Why consider a merger or acquisition?

It’s all about creating value. Any proposed acquisition should help you create value in the agency for its owners and provide greater value-added to your clients. Larger agencies typically have more access to markets, can specialize, and may have a broader geographic reach. Therefore, an acquisition might be an appropriate way for you to efficiently:

• Add qualified staff, functionality, or industry knowledge
• Access more clients, or a new market
• Increase market share
• Reduce competition

All of which should lead to enhancement of the value of your agency. Remember, however, that it is “better to be excellent than to be big.” You should not consider growing through acquisitions unless your existing agency is in good order. In particular, pay close attention to your agency’s financial health. Maintaining a proper working capital position and reasonable debt load are two places to start. Other challenges for agencies continue to be managing compensation, utilizing technology, and finding and retaining the right people. There are a number of very qualified industry-specific consultants that can help you to get your agency humming. You may also want to see how your agency “stacks up” against other similar agencies by reviewing “Best Practices” data.

Identify a target

The best target agency may be across the street, across town or across state, however, don’t expect the ideal target to drop into your lap. Most mergers and acquisitions evolve slowly and are the result of months or even years of talks. Your top competitor may be your best target because you have a strong suspicion who their top clients are and who their most reliable markets are. Chances are you’ll have to do some networking and kick the tires on the deal before it all falls into place. Industry associations, insurance carriers, and consultants are good places to start when seeking potential candidates. Characteristics that may point to a viable agency target are those with aging principals with no readily apparent perpetuation path or agencies in a stagnant growth position. Remember that the hard market has enhanced the value of most agencies. Don’t expect to find a bargain.

Next, ask yourself how a merged operation may look. Do you think there is a chance that the two firms can be successfully integrated into one from a financial, cultural and human resources perspective? If not, that target may not be a proper fit. Remember, time is money; the longer it takes to successfully meld the combined enterprise will dramatically impact the chances for success (and ultimately the opportunity for enhancing value).

Open talks

You’ll want to spend time with a target agency’s principals. Consider the desires of the selling party. Does the seller expect to stay in the business in some capacity? Does he or she want to ride off into the sunset with the most cash now? Is it possible to strike a deal based on retention? Is some degree of seller financing available?

Be open and honest about your plans for the agency. Keep in mind that you are dealing with someone’s life-long pursuit. Don’t underestimate the amount of feelings and ego that may be present during negotiations. Explain why you are interested, what your vision of the future is, and the potential opportunity for current owners.

Audit the financials

Ask for three years of fiscal year end financial statements from the target agency’s management system and a current interim statement with a comparison to the previous year. Get an overall production report by business line and carrier. Ask for production reports from all of the major carriers and get copies of the carrier agreements as well. Also, obtain an employee census with compensation details and copies of all producer anti-piracy and non-solicitation agreements. A big red flag is the failure of the seller to produce any and all of the preceding items. While you may be asked to sign a confidentiality agreement, the items will be needed to formulate an offer.

Seek professional help

At this point you should consult with your accountant and attorney. Don’t forget to discuss this with your banker too, unless you have been a very diligent saver or don’t need to borrow money for the acquisition.

You would also be well served to engage a consultant to prepare a business valuation. This could help you negotiate a better deal, identify business issues to be ironed-out and it may be required or at the least, appreciated by your banker.

Many articles have been written about the advantages of purchasing assets versus stock, all cash deals versus seller financed or partially financed deals and those deals based on retention or any combination of the above. This article is not intended to provide advanced advice but is meant to point you in the right direction. Again it is best to seek out the advice of qualified professionals. Don’t cut corners by choosing professionals that don’t adequately represent your needs and don’t choose professionals based solely on price. There is usually some form of tax consequence to your actions. The cost of bad advice is one that you will keep paying for over time. The attorney that handled your sister’s divorce may not be your best choice for your next strategic acquisition.

Set the terms

Every deal is different. And, the more astute your lender, especially about the agency business, the more financing options you’ll have. For starters, how much credit is your lender likely to extend to you? Specialized lenders are better able to assess the full value of your agency, represented by your book of business. If your current lender is unwilling to provide a loan based on the value of the agency you are acquiring, you may want to look elsewhere.

Most importantly, never force the numbers. From the outset, be sure you have defined the maximum amount you can invest and still achieve an acceptable return. Don’t take on an acquisition if the adjusted cash flow of the target cannot support the debt required to buy it. And remember, the sales price is not your total cost – you have to factor in any debt you will be acquiring.

Talk to your bank

Talk to your bank and do it early. You’ll get more support and valuable advice the better your lender understands your business and your track record. Does your banker understand that insurance agencies typically have little in the form of hard assets? Would your banker be willing to make a loan that is secured solely by the agency’s book of business and its associated cash flow?

If the answer to both questions is no, then you need to consider changing banks. The best time to do so is well before an acquisition opportunity arises.

A bank that specializes in your industry is better able to serve your needs. Ask your banker:

• Is the bank willing to count your book of business when determining loan collateral?
• Does the bank offer a range of terms tailored to the nuances of the agency business and help you select the ones best suited to your needs?
• Does the bank have a suite of lending and depository products designed specifically for my industry?
• Does the bank sell insurance and compete with my agency?

Pulling off a successful merger or acquisition can be one of the most rewarding exercises an agency owner can pursue. It can also be one of the most frustrating. Be sure to put a strong ally on your team by selecting a banker that knows your agency, your industry, and who can be fair and disciplined in their analysis, yet flexible and creative in their solutions.

Robert J. Pettinicchi is chief lending officer of InsurBanc, a federal thrift dedicated to providing banking products and services to Independent Insurance Agents. Additional information about the Farmington, Conn.-based bank is available at www.insurbanc.com or by calling 1.866.467.2262.

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