Pitfalls of Buying an Equity Stake

[TechNiche]

I'm looking for some feedback on a situation that has been presented to me. I was approached by a producer who has 25% stake in an independent P&C agency and is looking to get out. This seems like a potentially good way for me to enter the market... but with some equity and income. My goal really is to focus on a very niche line of business. Based on what I've read... a good rule of thumb is that I could pay 1.5 to 2 times the annual commission rate to acquire an agency (So in this case between 35% and 50%). I'd also guess the rate should be on the low side considering that I would have a minority stake.

What questions should I be asking ?

What are the pitfalls here (political is very high on my mind) ?

I would think I should get either 25% of the current books commission or the commission on the book sold by the agent selling his equity. IS that reasonable ?

What are some reasonable records to request ? I would think the count of policies in force and total commission for the last 3 years as well as tax returns for the last 5 years is reasonable.

Would you consider this if it was a good situation (how do you define that) or would you run from this ?

Thanks!

 

[MW Agent]

I'm looking for some feedback on a situation that has been presented to me. I was approached by a producer who has 25% stake in an independent P&C agency and is looking to get out. This seems like a potentially good way for me to enter the market... but with some equity and income. My goal really is to focus on a very niche line of business. Based on what I've read... a good rule of thumb is that I could pay 1.5 to 2 times the annual commission rate to acquire an agency (So in this case between 35% and 50%). I'd also guess the rate should be on the low side considering that I would have a minority stake.

What questions should I be asking ?

What are the pitfalls here (political is very high on my mind) ?

I would think I should get either 25% of the current books commission or the commission on the book sold by the agent selling his equity. IS that reasonable ?

What are some reasonable records to request ? I would think the count of policies in force and total commission for the last 3 years as well as tax returns for the last 5 years is reasonable.

Would you consider this if it was a good situation (how do you define that) or would you run from this ?

Thanks!

I don't know the make-up of the agency, but my caution would be that a minority shareholder can be squeezed out fairly easily, especially if it's a small agency/ownership group and you don't have a relationship with the book of business. For example, if producers get paid X%, the overhead gets paid, what's left would then get divided out by shareholder ownership percentage. If it's a small group of producing owners, who is to say they couldn't vote to increase the revenue split to the producers, profit sharing allowance, ect so that less money goes to the shareholders.

I'm not saying this would be the case, I would be very clear on what you are buying into. Also, why does the other person want out? Retirement, liquidity for some purchase?

 

[xrac]

I don't know the make-up of the agency, but my caution would be that a minority shareholder can be squeezed out fairly easily, especially if it's a small agency/ownership group and you don't have a relationship with the book of business. For example, if producers get paid X%, the overhead gets paid, what's left would then get divided out by shareholder ownership percentage. If it's a small group of producing owners, who is to say they couldn't vote to increase the revenue split to the producers, profit sharing allowance, ect so that less money goes to the shareholders.

I'm not saying this would be the case, I would be very clear on what you are buying into. Also, why does the other person want out? Retirement, liquidity for some purchase?

The only thing a minority shareholder has a right to is an equal portion of whatever profits or dividends that are distributed. A minority owner could even be fired by the agency. This situation is even iffier depending on how the business is written. Does this guy own his own book of business or does the agency own the book. I personally don't want to be a minority owner in anything.