Many agents use ‘creative’ equity deals to compensate producers beyond commission rates. Few agents think forward sufficiently to ascertain the immediate and long term risks associated with these equity arrangements.
The most common equity practice is the granting of immediate or vested equity in a producer’s book of business. The feeling of the agency owner is of course, that the agency will both incent the producer to grow and enjoy the remaining equity in a book of business that they would not have had at all were it not for the producer’s efforts. Some agents use that equity to create a Non-Compete or Non-Piracy Agreement in which either the agency or the producer would have certain rights to purchase or sell the balance of the book of business owned by each of them.
This “seems” to be an equitable arrangement for a new producer to join an agency but it is shortsighted on the part of the agency since more things can go wrong than right with such an equity agreement.
Imagine what happens if you vest 50% of a producer’s book of business in the producer and he fails. You will have to pay that producer additional funds for any revenue generated (for which you have already paid him when he generated the production) when that producer leaves and/or risk him buying out the other 50% or trying to take the accounts. Now imagine what happens if the producer succeeds and already owns 50% of a substantial book of business that he can leave and use to buy into another agency (or negotiate additional compensation) for half the value of that book of business. If you don’t give the producer the option to buy the book of business and choose instead, to require the agency to buy the vested interest back at departure of the producer, then you will BOTH see a productive producer leave AND have to pay him to do so. THERE ARE ALTERNATIVES THAT WILL INCENT A PRODUCER TO GROW YOUR BOOK OF BUSINESS.
Here are a few other reasons that equity should not be considered for a producer in the producer’s generated book of business:
- First, how do you know the producer will be successful? You may end up with a producer several years down the line who has generated $50,000 or $100,000 of total commission and you have granted him some form of equity that obligates you to repurchase a small amount of income (again) after paying the producer to produce that income initially. Any form of equity should be pegged to the attainment of a “significant” amount of revenue for the agency. What’s “significant”? That term should be reserved to an amount of income that actually increases the agency’s total value. Consider that mostProducers that generate less than $100,000 are likely COSTING you money, not earning you profit or value. Producers start breaking even on the overall costs to the agency between $150,000 and $200,000. Above $200,000 they are likely earning you annual profits and starting to impact the value of your agency (depending on your size).
If they are not successful, why would you give up the only thing you’re working for – the growth of your asset value? Keep any equity arrangements as an incentive to grow to a relatively important part of your book of business.
2. An equity agreement usually lies on top of a standard agreement for a portion of the commission that the producer is to earn for his daily efforts. If you offer a competitive commission arrangement you must remember that the rest of the agencies in your area offer this commission schedule contemplating the competitive pressures of the agency business in your area. So what they are offering for producers to help build the book of business owned by the agency, you are offering AND yielding a part of the value of that book of business, thereby lowering the value of your agency. And the larger the producer’s book of business becomes, the more value you are relinquishing – while the agency (not the producer) still must pay ALL OF THE EXPENSES related to the service and administration of that book of business.
- If you try to offer a lower commission using the sponsorship of expenses and the equity position you will probably not gain production staff since they traditionally respond to highest value compensation before all else.
- If you end up offering a standard compensation schedule in your area – more on New Business than on Renewals or more on Growth of book of business than on Base, you are probably breaking even on the producer’s efforts (or losing money considering all of your costs) in the first year and earning agency profits on longevity of accounts. Providing equity as an additional benefit in the producer’s book of business is the gift that keeps on giving – lowering your agency value accordingly and providing the producer an annuity or retirement benefit when he leaves the agency.
3. When a producer is granted equity in his/her book of business instead of some form other form of compensation arrangement it is natural for the producer to become more enveloped in the success of that portion of the book of business that accrues value to the producer than in the rest of the agency’s book of business. Most agents claim that would ‘never happen’ to their dedicated young producer – until it happens – then all hell breaks loose.
4. You can’t sell what you don’t own. If you are building your agency toward your future retirement benefit you must realize that you can only sell the portion of the book of business that you own. If you have one or more producers who each claim an equity position in the books of business that they generated, it directly diminishes your equity value in the agency. What happens if you attract a buyer and the producers don’t want to sell their parts of the books of business? Complications arise when the business is split apart.
These points make it sound as if we are against equity arrangements. NOT TRUE. But equity should be reserved for people who will help you increase the value of the agency in total, not as an incentive to produce business. There are other, better ways to accomplish the goal of incenting producers to grow the agency’s book of business.
And, when you find someone who becomes important enough to the agency that you a) don’t want to risk losing that person, and b) has earned his/her way into a real ownership role in the agency by virtue of the contribution made to the entire agency’s growth and productivity, equity should be earned in the agency, not just in the part of it that he has produced. If the new partner earns or buys a minority interest in the entire agency they quickly realize that ALL customers, ALL expense control, and ALL growth accrues to their benefit and they will contribute more to your goals and objectives than any individual performers.
These equity agreements can still include tight non-piracy and non-solicitation agreements and should be vested over a five year period to assure longevity of the employee.
If you would like to discuss your producer compensation program and how it can be improved to motivate producers to actually grow your agency’s book of business, please call Agency Consulting Group, Inc. at 856-779-2430.