Unnecessary Expenses Are Costing Your Agency Profit Dollars

Jack Fries realizes the many reasons that your income might be leveling off or falling — decreased commission levels, softening markets, more competition, etc. But the old paradigm that many agencies have used for years, “If we get in cash-flow problems, we’ll just sell more,” won’t work anymore.

Independent insurance agency managers today must become “expense” as well as “income generating” experts. This is as difficult a task as it is painful. It’s fun to generate income and create new sales — it’s not fun doing without things that you have taken for granted in the past. However, to survive and profit, your agency will need to implement an effective expense control program.

The example below analyzes how much premium and income an agency must write to make a $1,000 profit at different profit margins, using an average commission of 12.5%. PREMIUM

Which agency would you rather be: The one writing $4 million in premium or the agency writing $320,000 in premium, to earn the same $1,000 in profit? Most agency owners would respond, “I’d rather be the agency writing $4 million in premium, at a 25% profit margin so that I could make a profit of $125,000!”

WHAT CAUSES THE DIFFERENCE?

An effective expense control program can make the difference between an agency with a 2% and a 25% profit margin. When budgeting for and incurring expenses, you need to identify each category of expense and determine what’s causing this expense. Is it the amount of income the agency generates? Is it the number of employees? Is it the number of customers? Let’s analyze some categories of expenses on the Profit and Loss Statement of most agencies to determine what causes those expenses:

• Rent. This clearly depends on the number of agency employees. The more employees, the more space needed, and the higher the rent.
• Telephone Equipment. Again, this expense relates directly to the number of employees.
• Telephone Toll Charges. This expense will depend on both the number of customers and the number of employees. In my experience, the more employees an agency has, the more toll calls it will have.
• Automation. Once the software and server are purchased, the number of employees clearly affect automation expenses. More employees require more PCs, CRTs, wiring, maintenance, licenses, and installation charges. In addition, you must consider the costs of training employees on the computer.
• Furniture, Fixtures, and Equipment. The more employees, the higher this expense.
• Maintenance and Repairs. Again, the more employees, the more things to maintain and repair.
• Health Insurance. This is clearly an employee-related expense.
• P/C Insurance (including E&O). The more employees, the higher the premium.
• Salaries. This is self explanatory.
• Payroll Taxes. The more employees, the more you’ll spend on payroll taxes.
• Education and Training. The more employees, the more education and training will cost.
• Printing. This expense depends on the number of customers and the amount of advertising (direct mail, lack of imaging usage, etc.).
• Postage. Again, the number of existing customers and advertising directly affect this expense.

Although I could go on and on, these examples indicate the trend. In my experience, more than 75% of agency expenses are employee generated. So, what’s the magic formula we need to control agency expenses? It’s simple — control the number of employees.

When you think about it, it’s far easier to control expenses than income. Although many outside factors can affect sales, you, as the agency owner or manager, make every decision that impacts expenses.

EXPENSE CONTROL: THE THREE BIG QUESTIONS

Once you know what causes an expense, there are three questions to ask before incurring it:

1. Is this expense absolutely necessary?

2. Is this expense not absolutely necessary, but useful?

3. Is this expense not absolutely necessary, and not useful?

Eliminate all of the expenses in the third category and scrutinize the expenses in the second. However, you might not even have to get to Number 2, because unnecessary employees fall into the third category.

EXPENSE CONTROL: A CASE IN POINT

How could your agency have unnecessary employees? They’re all so busy! If you believe that, consider the results of a workload accountability survey conducted in five agencies for a 13-week period that tracked three types of transactions:

• Incoming mail (Including downloads, e-mails, faxes, etc.)
• Incoming telephone calls
• Visitors to the agency

We used these criteria because these three categories of transactions generate more than 90% of the workload in an average agency, and are easy to track. Here are the results:

Please take a few minutes and think about the results of this survey. Here are some answers to questions you might ask:

In Personal Lines, why did Agency #1 process its transactions in less than half the time of Agency #5?

It’s simple. The employees in both agencies processed all the transactions they had to do. Employees can’t process more transactions than they have. It just so happened that Agency #5 had more than twice as many employees processing their transactions. Look at Agency #2. Because there’s only one employee in Small Commercial Lines, this person had to do them all.

Did the books of business, procedures, and automation systems differ in each agency?

The books of Personal Lines and Small Commercial Lines were basically the same in all five agencies (both direct billed and automated). We’re talking mail, telephone calls, and visitors. More than 50% of the mail consisted of direct-billed renewals, cancellations, or reinstatement notices; and a telephone call is still a telephone call, no matter where you are.

How different can procedures be from one agency to another in Personal Lines and Small Commercial Lines? Not enough to make the differences between agencies shown in the survey.

Regarding automation, Agency #2 was the least automated, with no policy information or accounting — only word processing and rating. Automation was not a factor in this example.

Did Agency #2 have a larger backlog than the other agencies?

Actually, Agency #2 had the smallest backlog of all: None. The others all had backlogs of varying degrees — some severe.

How did Agency #2 do it?

The owner of Agency #2 is highly competent in expense control. He informed all employees that one of the goals of the agency was to have all work completed by the end of the week. The employees achieved this goal year after year, even with the agency policy count growing rapidly. In the owner’s words: “It’s really hard work to write new business and make the agency grow. I don’t want to do all this work and not be rewarded personally by letting all the income go out the back door in expenses and people.”

The bottom line: Agency owners who try to control expenses by reducing so-called “peripheral” expenses (dues and subscriptions, education, advertising, etc.) are only dealing with pennies. If you want to deal in dollars, you must reduce your staff to meet the agency’s current workload. There’s no getting around it!

EXPENSE CONTROL: MAKING IT WORK

Begin by making a single person responsible for approving all expenses before they’re incurred. I’d recommend using the largest stockholder because this is the person who’s paying the most for unnecessary expenses.

Once this is done, then:

• Meet with the principal(s) to determine the profit percentage desired from the agency’s book of business. I’d recommend up to 25% profit of P/C commission income.
• Prepare an expense budget that will achieve this percentage, even if this means questioning, and possibly eliminating, sacred cows.
• Take the action necessary to achieve the expense budget, even if this requires reducing staff to meet your workload — because in nine out of ten cases, it will.

WORKLOAD ACCOUNTABILITY 101

To tell if you’re overstaffed, use the workload accountability method: Determine how much work each employee receives on a daily, weekly, monthly, and annual basis and, (most important) how much they have left at the end of each week.