Before you leave ..

Insurance broking is a relationship-oriented business. Many firms are founded and run by individuals or small teams and in most cases those individuals are key to the success of the business. More often than not these individuals stay with the company until their career winds down and they want to exit. Without a clear strategy of succession both in terms of business leadership and ownership, this process can be long and drawn out and firms can often suffer.

Clearly, business owners want to cash in on the value they have built up in the firm, either to fund retirement or to invest in a new project, but they will also want to secure continuity of service for clients and secure the future of the business for the benefit of continuing colleagues that may also have contributed greatly to building the company's value. In practice a balance will need to be struck, and whatever the balance of objectives, achieving them requires a clear strategy for succession.

Whoever buys the business, whether a new generation of managers looking to step into the owner's shoes or an external buyer, they will pay only what they think the business is worth to them now and in the future.

Broking is a people business, and for an external buyer the main risk in any purchase is that key people will leave and a substantial element of the business will leave with them. That risk will normally lower the valuation.

Mitigation

There is scope to mitigate the risk by locking-in management and young stars with attractive contracts through earn-outs and other mechanisms, however, lock-ins cost if they are to be effective and this will lower the external buyer's valuation. On the other hand, an earn-out structure mitigates the valuation risk for the buyer, but does so by passing it back to the exiting seller. This may well be very unattractive to an owner that wants to step-down completely and cut all ties with the business, as they will have no continuing influence on the drivers of the earn-out.

A transfer of ownership to internal buyers coupled with a succession in leadership is likely to best preserve the value of the business, as the new owners are also the individuals best placed to secure that business value. If envisaged, planned and communicated clearly then it is also likely to give incentive to the firm's rising stars to stay in the business.

Exiting owners will need to make sure that the new owners, whether external or internal buyers, are buying enough bang to pay big bucks for the business.

Broking is a relationship business, based on trust supported by a record of delivery of high quality service. Neither that trust nor the record of serviced quality can be quickly or easily transferred if it is identified only with key individuals, and it is therefore essential to plan over the long term to preserve what is effectively the business brand when senior, key individuals exit.

To be really effective this will involve some transfer of client contact and responsibility - the value in the business - onto a wider group of individuals, and for this reason many brokers have been reluctant to go down this path to any significant degree. To deal with the understandable concerns of the senior people, what is necessary is a well thought out succession strategy so that this transfer happens in a planned and controlled way. Valuable relationships are not short-term and remaking them will probably take years, not months. The strategy should therefore be based on a plan over a period of at least three years.

In the instances of ownership transfers to continuing management it will be necessary to determine a funding strategy to support the payment of built value to the exiting individuals. The succeeding management may well have young families, large houses, big mortgages and be cash-strapped generally. It may well be difficult for them to find funding without bricks and mortar security. However, there are lenders that will fund succession transactions on the basis of future business cash flow, especially where there is a solid framework for that succession, and the business fundamentals are sound.

Key steps

What are the key steps? The first thing to consider is understanding your goals, including considerations such as ownership transfer to a family member. Ask questions like how much money you want to make out of your exit, how much you want to reward people that are continuing in the business, and how far involved you wish to remain. Second, seek professional advice in framing your succession strategy and plan, and in developing the structural framework for that succession. Third, continue to plan for the next business phase beyond your planned exit, and continue to adopt business improvement strategies to improve value and the quality of the business' earnings. Then identify and groom successors and consult the new generation of managers and build their aspirations into the succession plan. Lastly, build a relationship with financial backers that will support your proposed plan.

- David Roberts, Partner, financial services division, CLB Littlejohn Frazer.