DON’T OVERLOOK PERPETUATION,
EVEN NOW!

There is no downside to exploration;
do the research and seek advice

By Matt Sprang

Stories of independent agencies selling for unheard of multiples seem to take on a life of their own, leading one to believe the traditional means of passing on an agency from one generation to the next—agency perpetuation—is no longer worth considering.

Agency values have continued to rise—despite the pandemic, inflation and interest rate increases—making the agency model a highly attractive and dependable generator of cash flow that keeps on producing in good times and bad. After almost 30 years of so-called experts forecasting the demise of agents, the independent agency channel distributes nearly 90% of all insurance placed. Strategic buyers, which include private-equity-backed and public brokers, know this and are willing to pay a premium for a well-run agency.

Serial acquirers continue to stress that a perpetuation cannot yield a value that competes with a third-party sale. As a result, agency principals hear a litany of common justifications for perpetuation with overused maxims that attempt to support the belief that “it’s more than just the money.”

The conventional way of thinking starts by asking some basic questions that include:

1. What will happen to my employees?
2. What will happen to my customers?
3. What will happen to the brand I’ve created?
4. What will happen to my agency’s commitment to my community?
5. Will I be able to work for a new owner as part of an earn-out?

This may sound like a classic holiday movie plot, but it is not about a small bank in a small town.

Re-examining the classic perpetuation arguments

Independent agencies might be like a family, so it’s natural for owners to want employees to be treated well after they sell. However, a new owner isn’t part of your family, nor are your employees “family” to you when you place a dollar sign next to their name. Employees who are a drag on your agency are detracting from its value.

However, if you have a productive team and care about that group that helped build your agency, a great way to prove their value is not to sell them but provide an opportunity for them to be owners.

Your best clients might have been with you since the beginning. They trust you and have a special connection to your agency as long as their insurance needs continue to be served. What will happen to that relationship after you sell? Why would they leave if their needs are fully being met and the large brokers may have more specialized resources? Don’t worry, your clients will be fine.

For many people in your community, you are your agency and your agency is you. Your agency’s brand may even be tied to your family’s name. If legacy is important to you, you might try to remember how you got started in the business and became an owner. Quite possibly it was through a parent or other family relationship. You might want to give a successive generation the same consideration you were given by providing an ownership opportunity.

[I]f you have a productive team and care about that group that helped build your agency, a great way to prove their value is not to sell them but provide an opportunity for them to be owners.

Community involvement is the life-blood of an independent agency. Agencies are some of the biggest boosters of local civic organizations, youth sports and downtown revitalizations. It goes beyond just community pride. It’s a way of life for you and your employees. The large brokerages support the many communities they operate in because it is “good business” to do so.

You started or bought into your agency because you longed to be an owner and your own boss. Are you comfortable being an employee and not calling the shots? Many former owners have a tough time firing staff they have known for years and adjusting to a new pay scale. For many agencies purchased by large brokers, attaining the full earn-out can be elusive based on lofty metrics.

The stark reality is that the only thing that matters is whether a perpetuation can yield value to the seller that approaches a third-party sale.

Despite rising deal multiples, there continues to be a compelling case for agency perpetuation. If carefully structured, and executed in stages, perpetuation can yield to the seller as much or even more, than a third-party sale.

The advantages of a staged perpetuation

When you sell an agency outright, you give up future cash flow for a lump sum. On the other hand, a staged perpetuation allows you to accumulate those cash flows and reinvest them in your agency and in producers aspiring to ownership. A perpetuation ensures that these perpetual cash flows go to the recipient of your choosing. That might be you, one of your producers, a family member or a combination of parties.

An underutilized but very effective method of staging a perpetuation is an employee stock ownership plan, or ESOP. An ESOP is an employee benefit plan that allows the owner to sell some or all of their shares to a trust. Owners received cash for their shares, and employees receive a financial interest in the stock held by the trust.

Employees gain the advantage of a sense of ownership, and owners retain the flexibility to decide how they want to stage the process. As the owner gradually gives up ownership by selling shares, the employees have an opportunity to participate in the growth of the agency. Other advantages of ESOPs include their tax-favored status and their ability to enhance productivity and employee retention.

Tips to selling

If you do consider an outside sale, pay careful attention to the terms of your buy-sell agreement. What does the earn-out look like? Do you have to meet production goals? Who will you report to? What will become of your top producers?

The advantage of a perpetuation is that you have time to groom a successor. By identifying a new owner early, you can prepare them for ownership and give them incentives to stay on at your agency.

Look at performance benchmarks for agency best practices in the Big “I” and Reagan Consulting’s “Best Practices Gateway” (bit.ly/BPGateway). For example, Net Unvalidated Producer Payroll (NUPP) measures how much an agency is investing in the next generation of producers. Benchmarks can help you build more value in your firm so you can earn more when you sell.

While the lure of large multiples makes an outside sale attractive, you may find perpetuating is a better choice for you. Perpetuation allows you to gradually exit the business on your own terms and for the benefit of those who helped you build the agency.

There is no downside to exploring perpetuation. Do the research and seek advice. The serial acquirers will always be there waiting.

The author

Matt Sprang is senior vice president and director of agency banking at InsurBanc, a division of Connecticut Community Bank, N.A. InsurBanc specializes in financial products and services nationally for the independent insurance distribution community. Started in 2001 as a vision of the Big “I,” InsurBanc finances acquisitions and perpetuations and helps agencies become more efficient by providing cash-management solutions.