Fixer Upper: Acquisition of a Poor Performing Agency

March 17, 2017

You’re ready to acquire an insurance agency. Now it’s time to identify the target. An agency acquisition target typically includes many qualities such as great carrier markets, a quality book of business, strong renewal retention, tenured employees and a nice pace of new business growth.

But sometimes the “for sale” agency falls short in one or more of those categories. A buyer must know the root cause of the agency shortcomings to understand if a viable acquisition exists and the appropriate value to pay for the quintessential “fixer upper.”

Diligence should include asking questions. Will it be a good buy with long-term potential or a money pit needing extensive clean up? A “fixer upper” can be a great investment if the buyer has the expertise (akin to Chip and Joanna). If the buyer is looking for entry into a new class of business or a new customer demographic, a “fixer upper” is not a good idea. It’s a challenge to master a new type of insurance agency let alone solve problems of a poor performing agency.

A pure scale acquisition of a “fixer upper” can be very positive when the buyer has strong, relevant expertise, can realistically address core problems, can remediate systemic issues post-sale, and can resolve weaknesses in the agency. If the plan is ‘hire a consultant’ – bad idea. In a “fixer upper” deal, the buyer should possess the necessary competencies and not rely on a third party. If a buyer can’t diagnose the real issues prior to the sale but depends on an “expert” to assist, this can be cause for concern and reconsideration. A buyer needs to be ready for in-person, hands-on management and problem solving.

Lifestyle vs. Apathetic Owner

There’s a difference between a lifestyle owner and an apathetic owner. A lifestyle owner generally keeps the agency on a reasonable path. This owner maintains regular involvement, understands agency performance, preserves carrier relationships, and will take action when necessary. Financial results often reflect expenses in the agency related to the ownership lifestyle that will be eliminated post-sale. A lifestyle agency is not really a “fixer upper.”

A more serious issue is an apathetic (or incompetent) owner. An apathetic owner can devalue their own agency by ignoring issues (consciously or subconsciously) and not maintaining a regular presence in the agency. These tend to be the “fixer upper” opportunities.

Deep Dive into Agency Operations

Bad decisions and poor judgment by the owner, along with apathy, illness, and bad luck can manifest itself in several ways.

  • Financial results: Excessive expenses due to inefficient operations, poor staffing, overhead burdens, such as an expensive long-term lease or costly technology contracts, may result in a “fixer upper” situation. Some expense overruns can be quickly remedied; others are tougher to resolve. Industry benchmarks are very helpful to understand and identify the areas that are out of line. Consider reviewing the 2015 Best Practices Study by IIBAB & Regan Consulting.

Financial distress from being over leveraged (personal and/or business) and accumulating too much debt on the agency books can potentially be resolved with the sale. Buyers must be sure to understand the nature of the liabilities and likely structure the acquisition as an asset deal.

  • Technology: Is the agency still a paper haven? This can be resolved by introducing technology. Is the agency management system dated? This can be resolved through updating accordingly. The kicker is understanding employee aptitude to embrace (not just adopt) technology. Adaptation to new technologies can be a tougher fix.
  • Employees: Are salary levels excessive? This is a tricky issue to solve. Being overstaffed is an easier fix than reducing per person salary levels.
  • Markets & Carrier Relationships: Does the agency offer competitive products? One idea is to test quote a few clients to your own contracts to understand attractiveness. Make sure you understand all contract terms and contingency calculations. Can the buyer improve the terms and markets by acquisition? Will the buyer carriers be comfortable with the quality of the purchased book?
  • Customers: Is there customer loyalty to the agency, or are the customers transient? Meet some of the customers if possible to gauge acceptance of a change in ownership.
  • Location: How is the local economy? If the economy is struggling, this could signal hardship within the agency as well. Take note of the office environment. Is the agency in a visible, easily accessible area?
  • Financial performance: Factors to consider in examining financials include back breaking overhead, poor commission structure, and too much business in wholesale/MGA market.
  • Quality of the Book: A buyer should analyze carrier reports to determine the loss ratios and quality of the book. If it’s a bad book, it’s a tough fix. Even with re-marketing, re-rating, and re-underwriting the book of business, it’s a gamble that the book can be rehabilitated. The buyer should review individual policy files and understand the underlying issues of poor loss ratios.  In these situations, a renewal rights deal may be appropriate. Under a renewal rights structure, a buyer only pays for business properly priced, underwritten, and placed in the appropriate markets. Bad risks will not be purchased.
  • New business: Anemic new business can be the result of poor marketing, non-competitive product offerings, or absence of leadership, true sales plans, and management. Several industry benchmarks exist to evaluate producer quality. There may be a go-getter producer who needs stronger motivation, guidance, and goals, or the existing producer(s) may be better at servicing than selling new business. And sometimes there’s just not a true producer in the mix. Sourcing and hiring producers can be an expensive investment, many times owners chooses to put those dollars into their own pocket. Over the long haul, this can devalue the agency.
  • Personal Issues: Root causes can be owner personal issues ranging from illness, divorce, substance abuse, or other personal life challenges. These can be tricky discussions, yet serious problems. A buyer should fully understand the personal situation that led to the demise of the agency. Consider if there will be any lasting impact of those issues. Long term impact from an owner/employee office affair creating a dysfunctional workforce is very different than seller illness.
  • Other ventures: Ownership distraction from other business ventures is not uncommon. The seller may have been too involved with other ventures to pay attention to the agency.   Understanding if/how the agency was neglected is important to evaluate the agency’s ability to perform.
  • Distressed situations: A sudden death of an owner is a grim situation for the employees, carriers, the buyer, and of course the seller heirs. Most professionals are respectful of the situation. Carriers may feel there is no one minding the shop and become nervous about the status of servicing the book, protecting their contracts and quality of business. A potential buyer may agree with heirs to manage the agency during a specified disposition period to stabilize the operation. This can calm employees, carriers, and customers while relieving time pressure on the heirs.

Buyers need to take the time to fully understand the operations and intricacies of an agency prior to purchase. Conducting proper diligence around each possible scenario behind poor agency performance will help you make an informed decision. “Fixer uppers” are a viable option for growth through acquisition, if done with knowledge and information.

Kelly Drouillard is the General Manager of the Insurance lending division at Live Oak Bank. Reach her at 913.980.7773 or kelly.drouillard@liveoakbank.com