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Agency Financial Management Reaching the decision to sell Sometimes the road can be full of curves By Paul J. Di Stefano, CPA, CPCU
Many agency principals assume that reaching the decision to sell to a third party is a fairly straightforward process. In the majority of cases it is anything but that, with agency principals reaching that decision only after exploring various perpetuation options. Perpetuation plans may include key employees to whom good faith commitments are made with regard to their future role as agency owners. Unfortunately, those commitments may or may not ultimately be fulfilled—for various reasons. In some cases, the principals who made those commitments get to a point where they want to exit and suddenly realize that their future financial security may be tied to a key employee’s ability to keep the agency running successfully. They may no longer feel secure with that scenario, particularly if there is an opportunity to substantially cash out with a third-party acquirer. Initial strategies also may change over time as a result of changing circumstances. For instance, it is common for agency principals, especially those who had parents in the business, to assume that their children will join the agency and ultimately perpetuate it. As time goes on, that assumption may or may not become reality. Some principals, particularly those who control an agency, attempt to put off making a decision and have “the best of all worlds” by delegating much of the responsibility for running the agency to other partners in order to free themselves as much as possible from being tied to the office. Being away from the office for extended periods of time may be appealing to the principal, but the other partners will begin to feel that they are carrying the entire load and may start pressing for a change of the status quo. A similar “best of all worlds” scenario may play itself out in situations where the principal is the sole shareholder. Key individuals desirous of buying an equity stake in the agency at some point are likely to become impatient and start exerting pressure on the principal to execute an exit plan. What does that say about “best-laid plans”? We have seen situations where a divorce has forced the sale of an agency if it represents a large part of the marital assets. In one case, the judge awarded a large settlement to the wife, based on an inflated valuation of the agency submitted by the spouse’s counsel. In our opinion, the valuation was unreasonable because it was based on the assumption that future cash flows would be consistent with past experience. The problem was that the agency was writing a volatile class of business, so its revenue could be affected negatively by market forces. The more conservative option—which was not taken—was to sell the agency and split the proceeds. In another case, three partners had come together as the result of a merger. Two of the partners were a husband and wife who had no other plans than to continue working in the agency well into the future. Unexpectedly, the senior partner decided that he wanted to retire. Initially the parties were at odds over what to do because they had never anticipated this turn of events. Harbor Capital was called in to recommend strategic options. Our solution was to partner the husband and wife with another agency, which bought out the retiring partner’s equity stake and left his two partners with a continuing equity interest. In some situations, the principals want to exit and have difficulty reaching the deal that the individual shareholders require personally. In one interesting case, the principals had engaged in negotiations with several acquirers over a number of years. The problem with consummating an attractive deal was the buyers’ perception that a large portion of the agency’s book of business was very vulnerable because it was tied directly to one of the older producing principals. In this case, the “pushing the envelope” solution resulted in a merger of this agency with a specialty agency run by a younger team that was also interested in selling as part of a plan for the future. The transaction created a larger, more attractive entity that would realize a much higher value for all the principals. Some principals approach the sales process in an unemotional, businesslike way. In their minds, everything is for sale at a price. These individuals typically have other business interests in which they would like to become more heavily involved. In one Harbor Capital deal, the seller had invested in and was running a vineyard and winery and wanted to work full time in that business. In other cases, principals feel a strong emotional tie to the agency. These principals may intuitively realize that selling is the appropriate road to take, but they have difficulty dealing with that reality. A common theme among principals of smaller agencies who start thinking about selling, despite the fact that they are not prepared to retire, is a growing disenchant-ment with the day-to-day grind of running the agency and dealing with clients, companies and employees. Many principals experience this frustration and don’t know quite what to do about it. Some realize that the right transaction can create a role to match the principal’s personal desires. While it is true that some owners take a conscious path that leads them directly and methodically to a decision, in many cases the route may be circuitous, with some reaching the decision by the process of elimination of perpetuation options. As with life in general, individuals vary in the way they view the future; but it is important to remain flexible and realize that circumstances can change over time. * The author |
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