Passing it on

For insurance brokers, turning hard-won commercial reputations and an attentively grown company into financial reward is not easy, yet selling their business represents perhaps the most important deal that any owner-manager will complete in their career.

Establishing a solid succession plan and taking time to consider how to crystalise the efforts of a career into a gold-plated financial reward is important if any insurance broker owner is going to capitalise on the relationships nurtured over the years and the business they have painstakingly pulled together. Finding the right approach takes time and careful consideration because there are many options to work through.

There are six main options for brokers looking to pass on or sell their business. There will be some degree of overlap between each and, depending on the nature of the business and the specific circumstances, a compromise between some of them might be the best approach.

The first and potentially easiest option is to leave the business and persuade the remaining directors to buy out the available shares. This maintains the integrity of the firm and, in most instances, should have relatively little impact on clients, the existing business culture and the staff left behind. Depending on the size of the firm and the availability of finance, it may not be an option that is open to all.

In the second instance, an individual could sell their share of the business to a third party. This may create difficulties with other shareholders and take a little growing used to but if the right person can be found then they can inject new life and ideas into a business, helping propel it forward.

From within

Third is the option of training either an existing employee or a new recruit to take over the business at a later date. This offers the prospect of passing the business on but it does create issues regarding realisation of capital from the move and whether or not such an individual would be in a position to present the funds necessary to allow the existing owner to walk happily into the sunset of retirement.

The fourth option for consideration is to sell to another firm, which requires all shareholders to be in agreement; where co-owners would rather continue independently, it might not always be the suitable option.

Selling does offer the opportunity of becoming part of a bigger entity and growing the business as part of a larger parent, though issues arise concerning the future day-to-day experiences of the existing owners and how they will feel operating underneath new bosses. This is not a consideration to be taken lightly and, where people have worked for themselves and been used to taking responsibility for company decisions, accepting a less business-critical role can be very difficult to live with.

Similar to selling to a competing business, the fifth option is to join and then sell to a network. This option gives a firm access to a wider range of products and services as it seeks to fatten itself up before a final sale; a network will also have a tried-and-tested process in place to deal with the accession of the business at a future date and hopefully ensure that there is a smooth handover. For those selling, it is important to work with the right partner to ensure that the new corporate culture sits comfortably with the way the business has been run traditionally, as well as with the type of service and relationship that clients have enjoyed previously.

Lastly, it may be that selling is not the best option and that the business would generate more capital if liquidated. This is likely to be true for firms that have seen business tail off in recent years and, while they may turn over enough to keep afloat, the business they are writing and the retention rates they are carrying are not sufficient to entice any buyer to make a reasonable offer. Where a business owns assets such as property or cars then it may be most beneficial to the owners to shut the operation and sell off the assets rather than try to sell it as a going concern.

Individual owners should think carefully about their chosen exit strategies and how their businesses will fare after they leave. They may not always be able to secure their favoured strategy. Market conditions and third-party interest will feature highly in how they can leave their business and still realise the best possible value for it.

Unintended outcomes

Kevin Young, chairman at the Argyll Insurance Group, sold his insurance business to Jelf Group. He comments: "I was hopeful that some of the people coming through would be in a position to buy the business and I could slip into the background." That did not prove to be the case and the firm now operates within the Jelf Group.

Young was very happy with how the sale went but the point for other owners is that the first option they consider might not always be the one that ends up offering the best result in practice.

The recession has had a pronounced impact on business sales and there is not the same appetite to snap up firms as there was before it took hold. Young says that it was not unreasonable to expect a firm would be valued and sold at between double and 2.45 times its annual brokerage a couple of years ago. Now, the guiding principle is between one and one-and-a-half times total commission and so, in some cases, the amount that a business will fetch has halved.

Commission multiples are not the only marker posts when it comes to business valuations and earnings before interest, taxes, depreciation and amortisation is often used as a mutiple for those seeking to place a price on a going concern.

As with commission multiples, the EBITDA multiple has also fallen significantly in recent years. Nick Sharp, managing director of the property and commercial division at Barbon Insurance Group, remarks: "From the days when EBITDA multiples were north of 10 and going up towards 15 only a year ago, I would see these now down to somewhere between four and nine depending on the business."

The irony, however, is that while businesses are cheaper to buy, it is not necessarily easier to raise the money required because of wider capital constraints in the financial community.

There are also others factors at play, which have changed the desire of buyers in the market to take on new businesses at all costs. In the first instance, many larger consolidators have already taken on a lot of new acquisitions and there is a feeling that many need time to digest these.

Jonathan Hughes, partner at consultancy firm Bain & Co, says: "Big brokers are wrestling with integration issues and are not keen to add to that complexity unless there is a very specific niche business on offer."

Hughes also makes the point that there is far greater focus these days on the quality of the business placed by a broker and that larger players can no longer rely on buying a business to make an immediate profit by securing extra commission when placing it again at renewal. Insurers have become wary about paying more than they have to in commission and Hughes says: "The business model used to be to lose some of the business but take more points on commission. Now the emphasis is on organic growth and high-quality business."

The need for high-quality business means that buyers have become more discerning about what they will consider taking on. This has placed greater emphasis on presenting a business in the best possible light to ensure that potential purchasers are enticed rather than put off.

The question then becomes one of what buyers are looking for. Simplicity helps and, where the business arrangements in place are well defined, it is a lot easier for a buyer to consider and potentially conclude a purchase.

Ed Brentnall, partner at transaction specialist Dow Schofield Watts Transaction Services, explains: "The cleaner the set of legal records the better. An acquirer will want to inspect all key legal agreements so ensure these are available and up to date. If applicable, consider renewing key agreements in the year leading up to a sale. Areas to consider include the property lease, key supplier agreements, human resources contracts, hire-purchase agreements and key customer contracts."

Essential transparency

It is also important that a potential buyer can go through the books easily and quickly to grasp the financial health of the business. If financial accounts have been done on a yearly basis, it is worth starting interim financial reporting to produce monthly or quarterly figures.

Any exceptional items that have had an impact on the profit or cash flow of the business should be clearly outlined and explained and a business plan for the next three to five years should be in place to help give suitors an idea of what lies ahead.

Buyers may have their own ideas for the business in the future but helping them to see the potential of a firm will help enthuse them about parting with their money.

Any vendor should also be able to offer excellent levels of management information including historical trends in premium income, existing and expected retention rates and loss ratio figures for the book of business.

Where these figures are consistent and reliable they will add to the value of the business, helping to give confidence that what a third party is about to purchase will not simply evaporate into thin air as soon as the deal goes through.

Sharp comments: "We would want to make sure that [the prospective purchase] fits and that the business the target company was involved with was profitable from an insurance company perspective, as well as make sure that client retention within that business historically had been positive. We would want to see that there were people that wanted to stay in the business for a good deal of time as well.

"I would want to make sure that we had sufficient earn-out provision and that there would be a purchase price agreement; I would only want to give a certain percentage of that up front and then provide further payment against the retention of business over the next two or three years."

However a business markets itself, owners should only make claims that they can substantiate. It is very easy to talk a business up but any flaws in the information will be revealed once due diligence is underway and no suitor will take kindly to spending a lot of time, effort and money on researching a firm only to find out that it lacks substance on closer inspection.

It will take time to ready a business for sale, so while owners are looking through the options they should play their cards close to their chests. This will allow them time to come to the best decision and will also prevent the business from being on sale for too long.

Ipe Jacobs, a consultant and former head of the Financial Markets Group at Grant Thornton, comments: "The longer you take to think about it, the better your decision might be. The thing to do is not to start the process too early because goods that stay on the shelf for too long become spoilt goods, even if there is absolutely nothing wrong with the business."

A measure of confidentiality is also important among staff as the news of a potential sale may create alarm and have many running for the door. It will create uncertainty, affect morale and may lead to a dip in present and future performance, the very things that owners will be trying to avoid.

Legacy management

Where a firm has already bought out others, it is also worth remembering that - where owners of these previous businesses are still with the company - they may be in a financial position that allows them to walk if they dislike the thought of the business being sold on. If a sale does not end up going ahead then all of this disruption will have been created for nothing and the business will be in a worse position because of it. While owners may not enjoy keeping things to themselves, doing so will prevent a host of problems.

Where any deal comes to fruition, there will also be warranties and indemnities to establish and agree upon. These will relate to future liabilities carried by the company or by separate individuals in a business and new owners will seek to ensure they do not find a host of problems coming to light only after the sale has gone through.

Liabilities can spring from anywhere and relate to anything from statutory and regulatory matters to existing company pension schemes, existing brokerage agreements and outstanding tax bills. For both the vendor and purchaser, settling warranty and indemnity problems will give confidence to both parties and is an essential part of the process.

Similarly, professional advice will help establish tax liabilities created by any sale and, although the situation has become clearer in light of last year's move to establish a single rate of capital gains tax at 18%, there are numerous reliefs available; structuring a deal efficiently can deliver significant financial benefits and avoid the taxman taking more than a fair share.

Many small to medium enterprise insurance brokers are working hard to perform on a year-to-year basis and, at a time when clients are looking to shop around to cut their insurance spend in the face of financial pressures, huge efforts are being made just to keep the business performing.

For owners wanting to enjoy the fruits of their labours by realising capital value from their businesses, keeping an eye on the future and the possibilities that lie ahead will help position their firm effectively and, when the time comes, present it in a way that provides the best chance of a successful sale.