Many of us have a strange Love/Hate relationship with our carriers that are truly unusual to the retail and supplier concept. In normal situations a business-like agreement is struck between a supplier/manufacturer and its retail distributors that may be supplemented by personal relationships but are grounded in costs and margins that permit each to earn a profit on the products being distributed to the consumers.
The two hundred years of relationships between independent agencies and the carriers who “supply” them with product, have been different. I’ve been on both sides of the equation and can validate that many agents (and many carriers) have personal relationships that are created from long associations that are more meaningful than the simple retailer/supplier relationship. Many agents have their roots in one; or a few carriers who taught the agents the trade and for whom the agent retains deep loyalty.
But what happens when a carrier makes a decision to reduce commissions that directly and personally affects the compensation to their loyal retail agents?
I learned during my experience with a large carrier that true loyalty is between human beings, not between businesses. Every time we express loyalty to a carrier we set ourselves up for a fall and take a risk. A carrier that has a responsibility to stockholders and regulators to remain liquid will make decisions based on their profit potential, not on the effect of their actions on the agents. Similarly an agency has a responsibility to their policyholders and prospects to provide the best products, coverage and service (claims and policy) at competitive (not necessarily at the lowest) rates.
If a carrier feels it cannot make an appropriate profit, they will increase rates and/or lower expenses (including commissions) to make their product profitable – or they will withdraw from the market. If a carrier’s products cannot meet the long term needs of an agency’s customers, the agency must consider moving their business to a carrier that will provide them the products and service that will support the agency and its customers.
These actions for both carriers and agencies should not be subject to emotional issues related to either the changes in compensation or to the movement of books of business. It isn’t personal – these are business decisions that are meant to achieve the business goals of both carrier and agency.
However, the relationship becomes emotional when a carrier takes actions that will financially affect their agents without sufficient notice that would give the agents the ability to take their own responding actions to offset the effects of a general commission change. The relationship becomes similarly emotional when an agency takes action against the best interest of their carrier-partners without sufficient notice to allow remedial action to be taken by the carrier.
So what is the place of the personal relationships that many agents have with representatives, management and executives of their carriers? Those personal relationships should provide both agent and carrier with feedback that prepares each for the upcoming action. Every change that carriers bring to the agencies are telegraphed in various ways; the more communication between agent and carrier representative the clearer the message of upcoming events. Similarly, if you have long term problems with service issues, territorial rate issues and other issues that could affect your attitude toward a carrier your responsibility is to communicate those issues to the management level that can address those issues before you are forced to take action. Less emotion in those communications the better the result will be. You are building an audit trail that, unsolved, would lead to your action. Similarly, a carrier should build that same communications trail to their agents that would avoid the ‘Friday Surprise’ (including announcement of commission change).
So what can an agency do when a commission reduction doe take place?
The answer depends on scope of the commission change and on the business practices and motivation of the agency.
If a commission reduction is specific to one agency and punitive in nature because of a specific agency long term loss ratio, it is a call to action for the agency to re-underwrite its business lines. The carrier should have recommended that action long before the commission change in a rehabilitation program. Punitive commission reduction rarely works. It is often the prelude to agency termination and the carrier would certainly understand a book movement under those circumstances. You will know if redemption is possible if a return to standard commission is offered based on regaining profitable loss ratios. If not, please consider the commission reduction the “handwriting on the wall” and take your own action sooner rather than waiting for the axe to fall.
If commission reduction is general for the Company or for a State an agent’s reaction depends on their normal business practices.
A business should guard its profits on behalf of the owners ROI. However, in many agencies profits, while certainly desirable and welcomed, are secondary to operational costs to the business. Profit is a surprise, not planned and expected. And in other agencies profits are purposely minimized with all excess income accruing to bonus compensation to owners and employees.
If an agency has a profit objective to build reserves for growth and asset value the reaction to commission reductions is to determine which operating expenses could be reduced to secure agency profit levels without affecting service levels to the customer. In many agencies expenses are not controlled until a reason exists (like commission reduction) that will affect agency revenues.
Regardless of the ability to reduce operating expenses the agency should investigate whether the new commission rates are common in their territory or unusual. If the new commission rates are common and equivalent to most other carriers the choices are few, reduce expenses or the owners take less to allow them to pay their people and other expenses.
If the new commission rates are not equivalent to competitors it is time to go shopping for new carriers. The considerations for a carrier changes should be (in order of importance);
1) Are the products and coverage provided similar?
2) Are service levels (to the agency and to the customer) acceptable?
3) Is the pricing competitive in the territory and to the carrier being replaced? Competitive is NOT equivalent to lowest price. Competitive means in the lower 50% of carriers providing that coverage in the territory.
4) Will the carrier sponsor a book of business conversion with underwriting assistance (taking the business as renewals instead of treating all of your customers as new business) and financial assistance to convert the book to the new carrier’s applications, system, etc.
Don’t fool yourself. There IS a cost associated with moving 50 or 500 or 5000 policies related to communicating the change to the customers and the administrative time to convert the accounts. Some customers may be lost. The time and risk should bear a 2% to 4% conversion cost without necessarily providing ‘found money’ to the agency.
We all recognize that commission changes imply lowering margins with which independent agents are expected to pay their bills and earn a living. Carriers are responding to many pressures and would prefer to make a profit and grow in a territory without any commission change. But their operating margins are generally higher than their direct writing competitors, some of the reason for which is producer commissions. Most carriers look at commission changes as the last step when all other options are exhausted. However, as much as we appreciate the reasons for these actions, lowering commissions is a direct threat to agency income and profit generation. Changing a commission rate from 17% of premium to 15% is only a 2% change for the carrier. But it is an 11.8% change to the agency. A change from 15% to 10% is a 5% difference to the carrier and a 33% change to the agency.
We have done many studies over the decades at Agency Consulting Group, Inc. to establish the minimum average commission rates that can be sustained by an agency providing the proper service levels to their clients while compensating their employees and producers sufficiently to retain them and still returning a reasonable ROI to its owners. We are nearing those levels at the commission rates that are currently being paid in the agency system. As you know Agency Consulting Group, Inc. collects data from several thousand agencies annually and publishes the averages to the industry. The general average commission rate for commercial lines hovers around 12.5% (includes all lines including WC) and for personal lines is approximately 14%. There isn’t much play left in the commission rates without negatively affecting agency owners’ compensation. Agencies must protect their average commission rates in order to maintain the value of their agencies in ownership transition.