- Agency A wants to sell itself to Agency B. Each has infrastructure – building, contents, carrier relationships, staff, equipment, software as well as the book of business that would be melded together under single agency ownership.
- Agency C wants to purchase the book of business of Producer 1 who owns his book of business and has placed it with Agency C.
- Agency C wants to purchase the book of business of Producer 1 who owns his book of business and has historically placed it all with Agency D.
- Agency E wants to purchase the book of business of Producer 2 who also owns his own book of business and places his accounts through a variety of agencies with commission splitting arrangements.
These are just four citations that we encounter every day of the transfer of ownership that occurs in our industry. Each one of them could be for the same volume of commission and the value of each one of them will be defined completely differently. It is important to note the difference in the handling of an AGENCY ownership transfer and a book of business transfer considering the variations available in each.
Buying an Agency:
Internal acquisitions are often stock sales in which the entire corporation’s stock is purchased. The value is comprised of the future earnings potential of the book of business, most often the most valuable part of the sale, over a specified period of time (determined by the buyer) PLUS the Tangible Net Worth of the Seller (Owners’ Equity less Intangible Assets like Goodwill). Stock is transferred which means there is no change in basis value. No opportunity exists to amortize the purchase price and the acquisition is for the agency’s liabilities as well as its assets.
External acquisitions are most often Asset Purchases in which the buyer purchases specific assets (like the book of business) but not the stock of the pre-existing Company. 15 Year amortization is allowed and only specific assets and liabilities are purchased with the rest staying with the denuded company’s prior owners.
Buying a Book of Business – Scenario 1
This is pretty straight forward. The Present Value of the Future Earnings potential of the book of business is calculated based on assumptions that are created by the buyer about the retention rate of the business being purchased. No provision is made for growth since all growth is generated by and is claimed by the buyer. A “floor” and “ceiling” is constructed on the potential net income stream of book of business over a pre-selected period of time and the total value of the book of business within that ‘floor and ceiling’ becomes the value of the book of business for which an agency is willing to take the financial risk of buying the book of business.
Scenarios 2, 3, and 4 describe a few of the many variations possible that raise or lower the risk of achieving the expected retention levels that will affect the value of the book of business in question.
Internal Book Purchases – Scenario 2
Many agencies have producers who own some or part of their books of business with agreements to sell their books of business to the host agency upon their death, disability or retirement from the business of insurance. This is a best case scenario for agencies since the book is already in house and would suffer less trauma from the acquisition which is seamless and transparent to most clients. Retention is typically very high in this scenario unless the producer has close relationships with his clients and the agency does not. In this case the risk for lower retention becomes relatively high causing a lowered price. But in normal conditions the client relationship is already invested in the agency and retention of business would be high. The agency also has a vested interest in maintaining the book of business with agency carriers for relationship, loss ratio and contingency purposes.
External Book Purchases – Scenario 2
When a producer who owns his book of business leaves an agency and sells his book of business to another agency the effect of transferring carriers as well as transferring client relationships must be considered both an asset and a liability in the sale. As an asset, the new agency can bolster its premium volumes with its carriers to benefit its relationship, loss ratio, and contingency potential. As a liability new service relationships may occur that will be different than typical for clients whose choice to move to a new agency was not considered in most such transfers. Retention may suffer and the risk is higher to the buying agency, often softening the price offered.
Brokered Book of Business – Scenario 3
Business placed by licensed agents among many agencies is more frequent in the urban areas of the country than in its rural areas. The customers are more related to the producer than to the servicing agency or entity. The transfer of ownership of these books of business is really a transfer of each client one-at-a-time and retention is often questionable if the original producer is not a part of the transition.
Projecting Earning Stream Potential
When considering buying a producer’s book of business the exercise we use at Agency Consulting Group, Inc. is the project the future earnings potential of that book of business in the hands of the specific buyer. We calculate the historical customer retention and then we project the revenue stream using the historical perspective as the basis and change it based on the dynamics of the new organization that would own the business after the sale.
We then consider the economies of scale as well as any extra costs associated with the purchase to the specific buyer. The resultant profit stream is subjected to the buyer’s (not the seller’s) tax rate to determine the future earnings stream that defines the benefit to the buyer from purchasing the seller’s book of business. We then calculate the cashflow projected for the buyer over a period of time acceptable to the buyer for the transaction. This forms the raw value of the book of business to the buyer agency.
We suggest if you choose NOT to use the services of a professional appraiser of insurance agencies that you follow the same track as we do in our professional valuation service. If you would like to use Agency Consulting Group, Inc. for your valuation needs, please contact firstname.lastname@example.org or call 800 779 2430 for more information and our Valuation Questionnaire.