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Finding A Compatible Business Combination
  FINDING A COMPATIBLE BUSINESS COMBINATION by Catherine Oak Over the past few years, many firms have entered into a merger, acquisition, or some type of cluster arrangement with another firm or a producer with a book of business. And often the venture has turned out to be unsuccessful. Many mistakes are made because the participants don't take enough time to effectively evaluate the business combination they're considering. This can cause real problems for all parties involved. Firms make the wrong decisions for many reasons. Among the more common reasons are: (1) not having enough information about the other party to make an astute decision; (2) searching for a quick fix for a loss of markets, or (3) finding a deal with a price that 'seems' good. A recent IIAA study reported that only 46,000 independent insurance agencies exist now, compared to 53,500 five years ago. The study also indicated that 26% of these remaining businesses have been acquired or merged with another firm in the past few years. COMPATIBILITY ISSUES The most difficult part of creating a successful business combination is determining whether the parties are compatible and if a combined entity will be an improvement. Many firms think the key to a good deal is the price. This is far from true. Determining the appropriate price is much easier than finding a suitable party to conduct an ongoing business relationship with. It's like trying to find a good mate-it isn't easy! To find a suitable, compatible business combination, several key areas need to be discussed in the 'schmoozing,' 'romancing,' or 'courting' stage. The parties can explore these key areas themselves, but it's advisable also to have a third party involved, who is respected by the parties (a consultant, board member, CPA, or attorney, etc.). This article addresses the key areas that all parties need to explore, and the steps that should be taken to accomplish a successful business combination. KEY COMPATIBILITY AREAS TO EXPLORE 1. Major Strengths and Weaknesses of Each Party Each party should list its major strengths and weaknesses and then exchange the lists with each other. The goal: to see if each party will complement the other by minimizing weaknesses and maximizing strengths. Such an analysis may make it apparent that the combination will not help improve the problems each firm faces-may even make each party's weaknesses worse. 2. Personal Goals and Wish Lists of Owners Each owner in each firm should make a list of personal goals and wish lists for the future. If the owners are nearing retirement, they should also be very specific about when they expect to retire, what future duties they want to have, what price they expect for their stock, and what 'perks' they expect to continue receiving until full retirement (for instance, office, car, travel and entertainment expenses, and so on). If the owners want to perpetuate internally, their expectations for their buyout need to be realistic in relation to the cash flow available from the firm's activities. Internal perpetuation might not be an alternative if the appropriate perpetuation candidates aren't available to manage the firm and sell and service new accounts. Moreover, the firm might not be able to support the financial burden of the buyout of the retiring shareholder. In either case, a sale of the firm to a third party or a merger or cluster arrangement may be necessary. 3. Operational Structure of Each Firm If two firms' operations are set up too differently, a business combination might not work. A firm's organizational structure often reflects the philosophies of management and the talents of the individuals employed. A successful business combination combined into one location can merge the best of each party's organizational structures and employees. Melding the best structures and employees is the most difficult aspect of any business combination. Each party is usually too close to its own operations and employees to be able to pick and choose which ones are better for the new entity. A third party can greatly assist. Examples of varying operational structures include the following: Having a small commercial accounts unit that services and sells all accounts under a certain size, instead of having all CSRs handle small accounts Functioning on an alphabetical basis instead of by producer unit Centralizing the marketing/placement function instead of having producers doing their own marketing Having separate individuals handle claims, versus producers handling most servicing of accounts-or hiring qualified technical CSRs to support producers, freeing them up for new sales The philosophies on these operational issues need to be explored, and an agreement reached on how the combined entity would handle each of six functions for Life, Group, Personal and Commercial lines: sales, marketing, placement, client service claims, accounting, and administration. AUTOMATION In conjunction with the operational issues, the extent to which automation will be integrated with the systems and procedures of the firm need to be determined. Which computer system will survive the business combination? 4. Financial Strength and Productivity Ratio for Each Party A number of ratios should be calculated separately for each party to assess how well run each firm is before joining together. Combined ratios can also be calculated-but if ratios are determined separately first, each party will know whose firm is adding to the efficiency of the new operation and what weaknesses need attention. The ratios should be compared to those of other agencies of similar size and agencies writing comparable accounts. The results should also influence the values placed on each entity, since they reflect the management of the current operations (profitability, staffing, expense controls, working capital, and so forth). The ratios should include the following as a minimum: Expenses by line item as a percentage of revenues Revenue, expense, and profit per employee P&C or Life/Group commissions per producer and per CSR For each line of business: Commissions per account Commissions and accounts per CSR Servicing cost per dollar of commission Return on investment Collections (aged accounts receivable history) Working capital Trust ratio Debt to inquiry And so forth 5. Market Analysis Each party should create a list of the top 10 insurance companies it represents, along with certain information on each carrier: premium or commission volumes, three years of loss ratios and contingency commissions paid, volume commitments made, preferred status or special profit-sharing agreements, solvency of carrier, and years appointed. This helps the parties understand the current situation and their weaknesses before getting together with the carriers to renegotiate contracts for the new entity. 6. Book of Business Analysis The book of business written by each firm should be analyzed. What split does each firm have by line of business? A complimentary combination may be the best, rather than more of the same. For example, one firm might not have any Life and Group business, and may need in-house experts to sell the leads. What target markets, areas of expertise, and specialties do the producers in each entity have? How well developed are the existing accounts written by each firm? What's the attrition rates of the accounts by line of business? What classes of business are the top 10 commercial accounts, and how much volume do they represent? Is there much non-owned or brokered business that may affect markets represented? 7. Compensation, Perks and Contracts for Owners, Producers, Managers, and Other Employees Each party needs to know the compensation and perks the other party provides to its producers and employees. How the owners compensate themselves is also extremely important. It's essential to determine a new compensation plan for owners before putting the new entity together. It's often difficult to change compensation plans, especially for key employees (owners, producers, managers), without adversely affecting their desire to stay in the new entity. On the other hand, it's also difficult to have one entity support two very different compensation plans for owners, producers, and key managers-or salary differences for employees having similar jobs. Each firm should also share the contracts signed by the firm's partners, producers, and other employees. Today it's also becoming more common for all employees to sign non-piracy agreements to protect the firm's book of business and trade secrets. Some contracts may allow producers to vest in their books of business, some may have covenants not to compete or non-piracies, and some may actually allow producers to obtain equity (stock options) in the firm at a later date. The new entity should come to an agreement about the standard contracts that need to be signed by producers and all employees. 8. Growth in New Production What kind of real growth (in number of accounts versus commissions) has each firm experienced for the last three years? Where is the growth coming from, and can it be expected to continue? Is there anything on the horizon that will lead to a real decline in revenues (such as loss of a market, change in a commission structure from a carrier, loss of a program)? 9. Perpetuation What kind of perpetuation plan is currently in place in each firm? Are there any employees who are good perpetuation candidates and who could continue the current owners' management and production capabilities? When will the existing owners be retiring, and what are their expectations for a buyout? Is there a buy/sell agreement currently in place for a buyout that the parties will have to live with? 10. Reputations and Synergies of the Parties Last but definitely not least are the reputations that the firms (and especially of the principals) enjoy in the community, with carriers, and with insured clients. It's important for all parties to have similar morals, philosophies, goals, and desires. These things are difficult-if not impossible-to change later on. Also, the parties need to feel a certain synergy when they're all together in the same room 'romancing' or 'courting' each other in the compatibility discussions' various stages. As with a romantic relationship, the chemistry has to be there. SUMMARY If the 10 key areas in this article are explored from the beginning, it should be clear whether compatibility exists and the business combination will work. These issues should be identified and discussed honestly and openly. A good business combination will result only if this process is followed and these 10 areas are determined to be workable. A third party may be needed to facilitate this process. Catherine Oak, along with Bill Schoeffler, runs Oak & Associates in Glen Ellen, CA. Their consulting firm specializes in agency management, automation, clustering, errors and omissions, evaluations, mergers, and producer compensation. You may E-mail Oak at [email protected] or call her at (707) 935-6565.

Business Combinations: Surviving/Thriving With A Merger
BUSINESS COMBINATIONS: SURVIVING/THRIVING WITH A MERGER by Carol Hammes These guidelines will help you meet the challenges of merging your agency. Most industry observers believe that the number of insurance companies will shrink by 50% within this decade, as the strategic need to reduce loss and expense ratios fuels mergers and acquisitions. Achieving economies of scale by reducing geographic spread or focusing on more profitable lines and products has become imperative for national and regional companies alike. In the long term, the trend of carrier consolidation and spinning off non-core business will probably be good for the Independent Agency System. But in the short term, it will create even more challenges for most independent agencies. Faced with consolidation among insurance carriers, the resulting change in operating/placement strategies, and the need to further streamline their internal operations, merger activity has also increased among independent agencies. Current business combination activity is so widespread that experts predict that the number of independent agencies will shrink from approximately 40,000 at the end of the year 2000 to only 20,000 by the end of 2005. Many small to medium-sized agencies are finding that they cant compete in a marketplace where insurance companies are requiring far larger premium commitments every year. Larger agencies, faced with perpetuation concerns and growth plateaus, are increasingly receptive to merger and acquisition overtures from larger agents/brokers, insurance companies, or financial institutions. Although the pressures of premium volume commitments, marketing opportunities, and perpetuation issues lead the list of reasons for entering into a merger, a number of other strategic opportunities might make such a move viable for an independent agency of any size. These reasons include: achieving economies of scale and reducing expenses (particularly service/support staff) adding management or technical expertise expanding the geographic marketplace rounding out part of its book of business (such as Personal Lines) that might not be large enough for existing personnel to handle efficiently developing or expanding a niche or specialization obtaining new producers with established books often just nullifying the competition If your sole motivation for merging with another agency or agencies is to grow, think again. Bigger isn't necessarily better sometimes it can be far worse. There's no doubt that management headaches increase with the size of an organization. Once all of the agency principals have determined that a business combination will complement their strategic plan and you've identified one or more potential merger partners, schedule a 'chemistry' meeting so that all the owners of the agencies can get to know each other better. This will give you an opportunity to discuss some of the softer issues that are generally more critical to the success of a merger than the financial aspects. Is there a compatibility of management styles, underwriting and risk management viewpoints, organizational structures, personnel management disciplines, and personalities? Are there significant differences in ethnic, religious, or political backgrounds that could impact account retention and future management/ownership decisions? Have the parties competed so fiercely in the past that some bad blood might linger? Does one of the agencies have a questionable reputation in the industry or community? For any new venture to succeed, all the partners in the new organization must respect each others honesty and integrity. There'll surely be some rough spots along the way. Without an initial assessment of a common purpose and ethics, those bumps will derail the success of the merger. Assuming that this first meeting between the principals goes well, its time to start sharing specific information on each of the agencies. Because most of this data is confidential financial statements, expirations/large accounts, employee compensation, and so forth have all of the parties sign a Confidentiality Agreement. This legal document will provide protection if the merger discussions terminate or if one of the agencies pulls out. Signing such an agreement doesn't mean that you don't trust the other agency principals; its simply prudent business practice. This chart presents a synopsis of the type of data to share in preparing for the next step in the merger: Five-year review of income and expenses Details on how much of the business has been purchased and how much has been generated internally over the past five years Description of affiliations with other agencies or special marketing programs Review of the most recent balance sheet: the current ratio, receivable ratio, trust ratio, debt, and tangible net worth. Its important to remember that by merging all of you will be jointly taking on the debt of the other agencies. List of stockholders/partners with types of ownership and percentages History of changes in ownership for which outstanding notes or agreements exist Existing Buy/Sell Agreement and other commitments such as deferred compensation/vesting for principals and/or producers Review of non-piracy or non-compete arrangements with non-owner producers Accounts receivable aging and general collection practices for agency-billed business E&O policy limits and claim history History, details, and disposition of EEOC or other litigation against the agency Current list of employees: names, titles, years of service, age, licenses, designations and current compensation Total commissions handled by each producer and each CSR (if available) Review of compensation and employee benefit plans for owners, producers, service, and support staff Three-year review of leading insurance carriers including premiums, loss ratios, and contingents received. Can the important contracts be assigned to the new entity? Review of product mix by line of business (Personal/Commercial/Life/Group) and details within each category Review of special programs or services provided by the agency, including: underwriting/MGA services for carriers; third party administration; joint ventures with carriers or banks; special target/niche markets; and so forth Review of 20 largest accounts: who's handling them and how long they've been with the agency After the agencies have shared this information assign someone to organize it to create a picture of what the new organization will look like. This 'combination document' should include: a profit and loss statement; balance sheet; list of major companies with their respective volumes; distribution of premiums/commissions by line of business; average Personal Lines, Commercial, and Group commissions per account; and productivity measurements compared with each of the agencies and industry standards (see the previous Middle ton Letter for averages). Once the principals have put together a picture of the new agency, each party needs to assess whether the result looks better than each agency does individually. When you evaluate the new organization, characteristics that initially appeared to be complementary might indicate an underlying incompatibility between the various agency operations or management objectives. At this point, its time to re-assess your goals and the feasibility of the proposed merger. After all parties agree that the picture of the combined agencies looks good, start making some key management decisions jointly. Discuss every issue that you can think of and decide how you'd handle them before you make the final decision to merge. DO NOT assume concurrence on anything. Talk about it. Something as simple as picking a new phone system or accountant can be a breaking point. Do all of you agree on the vision for the new organization and on how you're going to reach it? Its imperative for everyone involved to discuss the issues openly. Use this decision-making process before the merger to determine whether you can all get on the same wavelength and work together to resolve problems. And if you're hoping that the merger will help reduce expenses you could well be disappointed at least initially. For the first year after the merger, the additional work and expense of joining the agencies, the enhancement/change to the automation systems, the inevitable personnel issues, and the consolidation of markets will keep productivity down and the profit margin slimmer than you'd like. Recognize that the true economic benefits of the merger will only come after this initial period of adjustment. To build a strong base that leverages the growth potential of the combined agencies, you'll need to invest in personnel, systems and equipment. If your primary reason for merging is to realize an immediate enhancement to the bottom line, rethink and reconsider. To make the merger successful you must agree on how to set up the new organization and which parts of each existing agency systems the new organization will adopt. Although each firm might currently be doing some things well, the new agency must perform better than the sum of its parts. Its essential that you agree on creating a new and better way of doing things. Otherwise, you'll end up with a larger agency that gives all the principals more hassles than they have now with a smaller bottom line. PRELIMINARY ISSUES TO DISCUSS Basic strategic plan. What growth rate do you expect from internal production and what role will acquisitions play? What will be the initial geographic expansion plan? Where do you want the agency to be in five years: location, size, orientation, and market niches? How much Life and Health business do you want? How will you maximize fee or contingent income? What type and size of Group, Commercial and Personal Lines accounts are you going to target? Are there potential new owners in the current organizations and what are the criteria and timetables for nurturing them? Name of the new organization. Although there are often reasons to try to capitalize on existing corporate or personal name recognition, it might be too cumbersome to do so. You might be wise to contact a good public relations firm to set up a new name. Remember that this process could take some time because you'll need to check (especially with state insurance regulators) that no one else has the name you select. Organizational Structure. Define the scope of each of the top management positions that the owners will handle. How much authority will each have in making decisions before they must go back to the Board (group of owners)? How often will the Board meet and for what reasons? How many people will you need in each department and what will the middle management structure be? If you have a separate Small Commercial unit, will it be responsible for sales as well as service? How will you define Small Commercial accounts? How will you keep open lines of communication with a larger number of people? How often will there be sales and/or all-agency meetings? Personnel and Compensation. What will be the compensation program for owners? What and how will you pay non-owner producers? Will producers be allowed to vest in their books of business? How are you going to treat travel, entertainment, auto, promotional expenses, and dues? (Although this policy will probably be different for owners and for non-owner producers you'll need to set specific guidelines.) What will be the vacation and other time-off schedule and will it differ for owners and non-owners? What salary ranges are you going to have for each job position? Do you want to make any adjustments as part of the merger? What are the work hours going to be? Will you allow flex time and/or part-time and how much? What employee benefits will you provide? What about a 401(k), profit sharing plan, or ESOP? What kind of sales or other employee incentive programs do you want? Company Relations. How will you approach companies with the news of the merger? Who will be responsible for negotiating more favorable contracts? What's your timetable for deciding which companies you want to work more closely with and for beginning consolidation efforts? What kind of promotional budget and activities will you plan to maintain company relations and communications? Automation. If the agencies have different computer systems, which system will you use? How many new workstations and printers will you need? What about memory and other system upgrades? What will these changes cost and how long will it take to implement them? How will you load the data from the merging agencies all at once or at first activity? How will you handle training? Vendors/Suppliers. From whom will the new organization get supplies, advertising, phones, cars, legal/accounting assistance, and so forth? OTHER ISSUES TO DISCUSS Valuation. There are a number of ways for the surviving principals to allocate ownership (generally based on the size of the agencies as determined by commissions or revenues and the condition of the balance sheet). Employee Involvement. Let the employees know what's happening as soon as you can. Enlist their input and support in the process. Many mergers don't work simply because the employees don't understand what's happening and feel left out or anxious about whether they'll have a job in the new organization. Don't treat employees as obstacles but as partners in creating a new and better agency. If you've identified cultural differences during the evaluation process, recognize, understand, and deal with them. Be aware that many people have difficulty dealing with change some more so than others. Empathize with the stress that employees are facing and try to provide support and relief. Enhanced Management Direction. Agencies often have a seasoned group of employees that know how to do their jobs with little or no supervision. During the merger process its important to provide more structure and direction. Expect uncertainty and unanswered questions about procedures, reporting relationships, job responsibilities, and so forth. Let everyone know how much they're needed and valued, and be ready to step in to resolve problems that wouldn't be occurring in the absence of the merger. Impact on Productivity. Although combining the agencies should eventually increase productivity, this wont happen overnight. Loss of productivity generally results from new direction, uncertainty over procedures, new insurance company relationships, new employee relationships, and so forth. There will also be some morale problems and turnover from people who are having trouble adjusting to the new environment. Be patient. If you've done your homework in putting the merger together and move quickly to integrate the firms, morale and productivity will bounce back quickly. In the meantime, grin and bear it! Attitude of Principals. People who've owned their own business and called the shots by themselves for a number of years often find it difficult to become part of a larger team of owners. Almost every merger requires former owners to share the decision-making process. Some have a hard time doing this and become disillusioned quickly. Their attitude then rubs off on the employees. If the agency principals initially decided that the merger was the right thing to do, they need to accept the changes involved in order to help their employees adjust to them. The late Carol Hammes, principal of the Middleton Group, was one of the Independent Agency System’s most widely respected management consultants. She will be sorely missed. Reproduced, with permission, from The Middleton Letter.

Combining Insurance And Financial Services: Reality Check
COMBINING INSURANCE AND FINANCIAL SERVICES: REALITY CHECK by Carol Hammes After the Barnett decision in Florida and the subsequent passage of the Gramm-Leach-Bliley Financial Services Modernization Act, a flurry of activity began to create broader financial service organizations that provided insurance together with other products. Carol Hammes evaluates the bank/agency relationship.   Financial institutions have been in the insurance business for many years, with some states granting savings and loans and banks in small towns the right to have insurance departments and with seven large 'grand-fathered' national bank holding companies allowed to remain in the insurance business after most were shut off. There were more than 4,000 financial institutions in the insurance business before the courts and legislation opened the doors to the rest of them to take the plunge into combining the various types of financial services. Although most of these initial banks and S&Ls were only selling credit life and annuities, a number of them attempted to make a go of it in the Property/Casualty arena. In fact, back in the 1980s almost half of the members of the IIA of North Dakota were bank agencies. So, the convergence of banks and insurance isn’t new. It’s now become much more widespread and actually almost trendy. It was something that the banks had been fighting long and hard to do and something that most agents’ associations had been dead set against — which made it all the more attractive for banks. Once they got the opportunity to do what they’d wanted, many financial institutions altered their strategic plans (or scrapped them altogether) and set out to find the pot of gold at the end of the insurance rainbow. For the past decade banks have faced shrinking profit margins from their traditional products and services. Financial institutions have been looking for ways to expand their activities, improve account retention through selling more products, and finding additional income to help cover overhead. Selling insurance as part of a full financial services package seemed to be a logical choice for this expansion. Even 20 years ago banks and insurance agencies were developing ways to try to get around the existing regulations by creating joint marketing entities. The overworked term 'synergy' kept popping up as the excited participants made their plans to work together to sell insurance to the bank’s existing client base. For a number of reasons, most of these joint ventures died within two years. Perhaps the so-called synergy was (and is) more myth than reality. BANKS IN UNDERWRITING The merger of Travelers with Citigroup was seen as the premier indication that full financial services would be the wave of the future. Less than four years later Citigroup divested itself of the Travelers Property Casualty Corp, after admitting that they might’ve failed to recognize essential differences between banking and Property/Casualty underwriting. It’s important to note that Citigroup retained the Life and annuity company. The spin-off of the P/C company allows Citigroup to focus on distributing products through other insurers and will allow Travelers to grow by making acquisitions. At least that’s the party line. In short, Citigroup discovered very quickly after the 1998 merger that underwriting P/C insurance doesn’t yield the same returns as do other financial services. The high volatility of the P/C business simply didn’t fit the mold that Citigroup wanted as part of its overall strategic plan. They needed a minimum of 10%-12% organic growth and, with the dramatic cycles in the insurance business, that type of growth can’t be guaranteed or even expected. Whether other financial institutions will decide to get into insurance underwriting is unknown. Most of the trade press coverage indicates that they’ll be very cautious, understanding that the risk involved in underwriting is relatively alien to the banking business. Yes, they’ll take a risk to make a loan, but do they want to commit millions in capital to pay claims after a hailstorm, hurricane, fire, or terrorist attack? Although actuarial science is quite sophisticated, reality can be a very different story. The current shaky status of many reinsurance companies should also give bank executives pause for thought in thinking about the P/C business. Our guess is that we won’t be seeing too many financial institutions entering the underwriting side of the business within the next several years. BANKS IN INSURANCE SALES — JOINT VENTURES Many financial institutions have decided to get their feet wet before they jump wholeheartedly into insurance sales. They don’t want to make the capital outlay to buy an existing agency, and they lack the expertise to start one from scratch. Many agencies also want to pursue a lower-key relationship with a bank, maintaining their independence while taking advantage of the perceived sales possibilities in a joint venture. Sometimes the motivation is simply to make sure that the bank doesn’t make a deal with a competitor. So, the bank and the agency enter into joint marketing ventures, hoping to sell insurance to bank customers through a variety of sales approaches and hopefully having both sides profit from the alliance. Most of these arrangements have proven to be less than satisfactory and have been disbanded within two or three years. The average independent agency has a pro forma profit of around 19%-20% before bonuses to owners. When you split the profit with a bank, each side gets less than a 10% return — and that’s after several years of setup costs and initial marketing initiatives that are almost sure to outstrip the return. The best that you can hope for is a break-even status at the end of the third year. If both parties are accruing ownership in the new insurance accounts at 50%, the increase in equity value might be enough to offset the low level of annual return. But most of the time, to make the dollars work out, the marketing program must be set up to increase the commissions written far more rapidly than the average 6%-7% growth rate of the average insurance agency. And the sales and servicing operation for smaller Commercial and Personal Lines business must be structured to produce a much higher profit margin than in a traditional insurance agency operation. To have a successful joint venture with a bank, you must identify what customers you want to reach and develop a program that provides the most cost-effective way to do it. For medium to large Commercial accounts that bank loan or trust officers might prefer, the traditional approach of using a producer, account manager, CSR and support staff should work — provided, of course, that you get the bank personnel to make those referrals. But for smaller accounts a telemarketing/direct mail approach using only several companies and perhaps company service centers will be the only cost effective way to sell and service the business. The insurance companies should have an 800 number for claims reporting even if they don’t have a service center. There should be complete upload and download capabilities, as well as online quoting and policy issuance. Premium payments (if not direct billed through the insurance company) should be made through automatic account debit. Handle marketing activities as efficiently as possible on the smaller accounts. Alert bank customers to the availability of insurance products through leaflets in monthly statements, a computer terminal and phone in the bank lobby, requests for quotes on ATMs and on the bank’s Web site. Make follow up calls after each inquiry or expression of interest and at least every six months thereafter. Once a policy is written give the sales reps specific goals to write additional coverages for the accounts within the first 12 months. Both parties need to understand that, for the joint venture to make money (or at least break even) you won’t be in a position to write insurance for every single bank client. It’s extremely important that all bank personnel understand this fact. The best loan client might not be a good insurance risk. The underwriting process might exclude the bank’s president, who might not understand why the agency can’t write his Auto coverage even though his 16-year-old son has three tickets and has just been given a Corvette. One of the bank’s major clients might have a small Commercial account with high activity that only produces $250 in commission. It would be detrimental to the success of the joint venture to write much (if any) of this business. The insurance agency principals need to be able to demonstrate and explain this reality to the decision-makers at the bank. BANKS IN INSURANCE SALES: BUYING AGENCIES Although the landscape is littered with the bleached bones of bank insurance agency acquisitions that have gone awry, banks are still continuing to buy agencies. However, most have learned some harsh lessons from their predecessors that paid three times commissions (or eight times pro forma profit) for insurance agencies, only to realize a year or two later that they weren’t going to make any kind of a return at all — and sold them back at 50 cents on the dollar. Most sophisticated larger buyers of agencies are paying six times pro forma profits for their acquisitions. Some buyers will pay a higher multiple (up to seven times pro forma earnings) if the agency has strategic importance to them. For example, if the agency is the bank’s first insurance acquisition, they might want to use key management personnel to help them develop their 'core' agency. Some banks might add something additional for the commissions they think they’ll get from selling insurance to their own accounts. However banks that have had any experience with insurance will put this future income on a contingent or bonus/earn out basis. They know that selling insurance to bank customers isn’t as easy as it might seem. The bank’s customer list can provide thousands of leads. But that’s all they are — leads. Most agencies already have a large group of warmer leads because they haven’t rounded out their existing accounts. The average Personal Lines customer buys four insurance policies and the average independent agent only has 1.5 of them. Why would anyone think that agents who haven’t done a good job of rounding out their own business would do a better job of selling insurance to the bank’s customers? One of the largest bank insurance agencies, owned by BB&T based in North Carolina, has been in the insurance business for nearly 80 years and barely has 5% penetration selling insurance to the bank’s customers. If a bank is buying an insurance agency it shouldn’t count on the commissions that might come from merging the financial services businesses and expanding accounts in the structuring process. If the account expansion happens, great. But structure the deal to pay the agency principals and producers for their participation in this growth. It’s simply not good business practice to count on this growth and include these projections in the initial pricing. CULTURE CLASH Selling an agency to a bank can be an alluring option for smaller agencies that are having trouble meeting volume requirements from insurance companies but lack the capital to buy or merge with other firms. It can also be attractive to larger agencies that are having problems finding people or capital to maintain a viable management and ownership perpetuation plan. Unfortunately, selling the agency to a bank isn’t always a marriage made in heaven. Any time that an independent agency is sold the principals have adjustment problems. In many cases, they’ve owned their own firm for 40 years or more — and once you’ve called all the shots it’s hard to work for someone else, much less a bank. The significant differences between the insurance agency environment and the bank culture, with its almost constant meetings and long list of rules, can create an enormous shock. Sometimes serious disagreements can erupt over both small and large decisions and the brilliant marketing plans fall by the wayside while the parties figure out a way to move off dead center. At the heart of the issue is the fact that many bankers still have a problem with the concept of selling. As a result of the major changes in the banking industry during the past decade, they know they have to learn how to sell their own products, as well as understand the insurance sales process. But they seem to have a hard time embracing the concept. If the CEO of the bank pays only lip service to the 'new sales environment,' this lack of commitment will pervade the entire bank and eventually the acquired insurance agency operation as well. And when it turns out that a good insurance producer starts to make more money than the CEO due to the agreed on commission schedule, the bank executives can get more than a little nervous. The unique relationship between an independent agency and its suppliers is also hard for bankers to understand. The focus on meeting premium volume commitments while maintaining low loss ratios, sometimes at the expense of writing business for a bank board member, can become a real stumbling block. The potential for jeopardizing the bank’s relationship with some of its primary customers is a real concern, particularly if bank personnel blame the agency for the problem because they don’t clearly understand the underwriting requirements imposed by insurance companies with whom it’s necessary to maintain relationships. The hard market in Commercial Lines might put additional strains on bank personnel/agency personnel relations because the bank personnel might not fully understand why the account can’t be placed in the standard markets or why the premium is double what it was last year. Trying to combine financial services makes sense on paper. But it’s been a tough road so far for most that have tried it. Whether it’ll eventually turn out to be the best thing for the banks, the agency principals, their customers, and their employees remains to be proven.