Two agencies (Agencies A and B) live a few blocks apart in a medium sized city in the Midwest. Both of them generate $1.75 Million in gross commissions (including contingency income) 50% PL/CL and both of them generate about 20% profit. The owners of each are in their mid-sixties. ARE THEY BOTH WORTH THE SAME AMOUNT?
Agency A:
125-year-old agency with the same family owning it for the last three generations. The owner has no family interested in assuming ownership and has no active producers (Active = growing the agency’s book of business annually). Revenue has struggled to remain at $1.75 MM commissions with sufficient referrals generating revenue to offset retention losses as the client base dies, retires or sells their businesses and properties.
Agency B:
20-year-old agency started by two producers who left a large agency to start their own business. Each has a child in the agency, one in a producer role and the other in a service and management role. They bought a small ($125k) competitor five years ago. Revenues have grown from zero 20 years ago to $1.75 MM and they continue to grow at around $125,000/yr.
Are both agencies worth the same amount/multiple?
Will both agencies attract the same buyers? Should they?
Are the succession/perpetuation/financial goals of the owners of both agencies the same?
WHAT MAKES YOU THINK THAT ONE FORMULA OR MULTIPLE (OF ANY AGENCY MEASUREMENT OR COMPONENT) COULD DEFINE THE SAME VALUE FOR SELLING OWNERS WITH DIFFERENT NEEDS OR FOR BUYERS WITH DIFFERENT MOTIVATION FOR THE POTENTIAL ACQUISITION OF EACH AGENCY SIMPLY BASED ON THEIR REVENUE OR PROFIT AT A SPECIFIC POINT IN TIME?
First of all, NO – WE HAVE NOT LOST OUR MINDS AND CHANGED OUR PHILOSOPHY — we will neither calculate nor share the results of the thousands of valuations we have done in general multiple terms (Multiple of Revenues, Multiple of Commissions, Multiple of Profits, Multiple of EBITDA, etc.). We know from bitter experience that if we create those “average” benchmarks, agents will try to use them in defiance of the common sense that dictates that no “average” is possible based on the differences in tangible and intangible asset values of any agency in the U.S. Using any multiple, regardless of how they are created will end up cheating either the buyer or the seller as is reflected by the obvious difference in value of the two agencies displayed above even though they are the same size and same profitability at the point of review.
Our goal has always been to calculate the appropriate value of an insurance agency asset based on the conditions and needs of the seller and the potential earnings from that property for the specific buyer that is considering the transaction.
THE “SPOILER” – THE BIG REVEAL!
THE VALUE OF AN AGENCY IS ITS FUTURE EARNINGS POTENTIAL FOR THE SPECIFIC BUYER BASED ON THE HISTORIC PERFORMANCE OF THE SELLER OVER AN ACCEPTABLE PERIOD OF TIME TO BOTH BUYER AND SELLER. IF A COMPANY IS TRANSACTED RATHER THAN JUST THE BOOK OF BUSINESS, THE TANGIBLE NET WORTH OF THE COMPANY’S BALANCE SHEET IS ADDED TO THE INTANGIBLE ASSET VALUE OF THE BUSINESS AND GOODWILL.
THE TERMS OF THE TRANSACTION DEPENDS ON THE CASHFLOW ANALYSIS OF THE TRANSACTION OVER TIME. If the agency can’t afford the cash to support the buyout, the transaction can’t be successfully accomplished without cash infusion over time – something that most buyers can’t or won’t permit.
What Agency Consulting Group, Inc. does when valuing agencies for internal or external succession or perpetuation is to calculate the historical trends of revenues, expenses and profitability and project those trends with appropriate elimination of a) expenses specific to the retiring owners, and b) known changes that will take place with the new ownership. The end result is a statement of future earnings potential against which we apply several hundred risk factors specific to insurance agency operations (tangible and intangible) to determine the discount rate to the future earnings potential that could likely affect the agency’s future earnings potential. The total of the discounted future earnings potential over a period of time acceptable to the buyer and seller determines the likely value of the asset to the specific buyer.
If the specific seller’s situation (economic, age, health, reason for the transaction, etc) allows for the price and terms offered for the asset the transaction will be deemed fair and will conclude. If not, the transaction will not be concluded and another buyer must be found whose purchase potential will better meet the needs of the seller. UNLESS THE SALE IS BEING MADE UNDER DURESS, THE NEEDS OF THE SELLER, NOT THE NEEDS OF THE BUYER, WILL DETERMINE WHETHER A TRANSACTION WILL BE MADE.
For instance, in Agency 2 it is likely that the buyers will be the children of the current owners and, unless debts, health, financial condition require high value or immediate cash price, the sale can be made on a longer term basis benefiting the sellers over the long term and on very “friendly” terms for the buyers who will sponsor the purchase using agency cash-flow.
However, Agency 1’s eventual sale depends on unknown conditions of the seller. Are he and his spouse healthy or do they need time and cash to address health concerns? Have they set aside funds for retirement or do they need the proceeds of the agency sale to support their lifestyle? Is the owner trusting of a potential buyer or does he require financing cash up front to assure his value actually comes to him?
A similar set of circumstances must be derived from the potential buyers in order to create and value of the asset to the particular potential buyers.
If you’re considering buying, selling or merging, we suggest that you have a proper valuation done for your agency. Call us at 856 779 2430 and we’ll be happy to discuss it with you.