Bank Lessons From Joint Ventures And Agency Acquisitions

by Robert Smith

The trade press has been filled over the course of the past two years with announcements of banks entering the agency business. Passage of the Gramm-Leach-Bliley Act and the move by the banking industry to become 'full-service financial services supermarkets' has led many banks to be aggressive in considering the opportunities available to them in the insurance field.

A recent study conducted by Reagan Consulting for the Association of Banks in Insurance (ABI) found that almost two-thirds of all banks entering the Property/Casualty and Group/Life insurance business have done so through acquisition or joint venture with a local or regional agency. For the banks that have already gone down this road, a number of important lessons have been learned.

• It's better to slightly overpay for a really good agency than to buy a poor agency at a great price. Pricing, terms, and conditions for an agency purchase vary significantly, but generally have fallen in the relatively predictable range of 1.25 to 1.75 times historical revenues. After the transaction, the buyers of poor agencies realize that they've acquired a 'wasting asset' that requires a great deal of bank management time. Good agencies have the necessary sales culture, support staff, systems and procedures, and automation to continue to prosper.
• Cross-selling has generally been slower to materialize than most have projected. The ability to cross-sell insurance to existing bank customers has a major impact on the overall economic return. Although banks shouldn't pay insurance agencies for this cross-sell potential, it has given them a reason to 'stretch' on other pricing assumptions. When the cross-sell is slow to materialize and other pricing assumptions don't meet projections, the bank finds that it's not receiving a reasonable return on its investment. A high percentage of joint ventures and acquisitions have failed to hit on the first- and second-year revenue and profit projections. Be conservative in your expectations to ensure appropriate pricing.
• Variable pricing ('earn-outs') keeps the sellers' heads in the game. The ABI study shows that only 18% of all acquisitions had some variable pricing element. The most successful acquirers of agencies found that placing some of the percentage of the acquisition on an earn-out basis (as little as 10% and as much as 40%) helps ensure that the financial and operational results are achieved. The first two years after the acquisition are the most essential in integrating the bank-insurance cultures. The sellers should have a great deal of the responsibility for a successful integration, and variable pricing helps ensure their commitment to this process.
• The most successful bank/agency relationships take full advantage of the agency's sales culture, and insurance activities are supported by the bank's senior management. The sales culture of a good insurance agency can be a welcome addition to banks as they attempt to orient themselves to more new business. The development of incentive compensation for bank employees for insurance referrals and a strong emphasis on insurance products from the bank's senior management are crucial elements of success.
• Significant improvements in operating margins have been difficult to achieve. Commercial and Personal P/C business has generally had relatively low operating margins, especially in light of sustained soft pricing. When the assumptions used in developing the pricing for an agency purchase project improvements in the operating margins, most banks have been unable to achieve these results. Be realistic-even under bank ownership, certain lines of insurance will remain low-margin business until pricing improves or agencies find more efficient ways to service clients.
• Banks have sometimes partnered with the wrong agency. Agencies have varying levels of ability in different product lines and demographic segments of the marketplace. A bank in a retirement community with a large concentration of elderly customers may find that a large Casualty-oriented agency is a poor partner. If the bank has a large number of relatively small Commercial customers, evaluate the abilities of the agency to service these accounts. Make sure that the carriers represented by the agency and the abilities of its staff maximize the bank's potential return.
• Finally, and perhaps most important, a dime's worth of planning pays a dollar's worth of return. Many banks fail to do an adequate job up front in considering the alternatives available to them in the insurance marketplace and the potential economic returns. Expectations regarding cross-sell potential, penetration of new product lines to existing customers, or the referral of bank services to insurance clients have consistently created lofty expectations only to achieve marginal results. Senior bank management should have reasonable expectations regarding the economic returns in the insurance business, and the individuals responsible for the insurance initiatives should be held accountable for the results.

Integration of the insurance and banking communities into a single financial services industry will continue in the foreseeable future. However, not all banks will elect to pursue insurance distribution as a core part of their business. Developing the appropriate expectations and a comprehensive game plan is essential for success.