30th Annual NAPSLO Conference: Acquisitions, Consolidations, Objectives, Trends Highlighted

Agency consolidations, consolidators’ objectives and a broad range of other trends and developments were highlighted by Steven S. Wevodau and Robert J. Lieblein, both with WFG Capital Advisors LP, during the National Association of Professional Surplus Lines Offices, Ltd. (NAPSLO) 30th anniversary conference in Orlando last month.

Both speakers explained how to develop a successful acquisition strategy, key reasons for failure and lessons learned from past acquisitions.

“Agencies have three choices: stay as you are, enhance the agency, or find a buyer,” explained Lieblein. He said the “stay-as-you-are option” is a poor choice.

“Agencies need to work smarter, and not harder – if at the end of the day they cannot enhance their shareholder value, they should consider selling,” he said.

Wevodau and Lieblein gave far-reaching predictions about mergers and acquisitions, detailing how potential purchasers examine targets and decide if an acquisition is worthwhile.

Wevodau said five critical dynamics shape consolidation: industry rate changes, slowing organic growth among acquirers, capital markets, influence of banks and capital gains rates.

He said banks have slowed down in number of acquisitions compared to public brokers, but banks have patience and he expects them to continue to be active in the market place and be a viable alternative to the traditional brokerage distribution market.

They mapped 2004 transactions by seller, gave examples of how buyers set their purchase price and described “buyer’s math.”

“To determine the purchase price the buyer must overlay financial statements and do a creative/dilutive analysis,” explained Wevodau. “They have to be careful not to dilute shareholder value.

“They look at the basic earnings per share to shape their acquisition strategy by working backward and asking what they can tolerate so that the acquisition is accretive to earnings per share,” he said. According to his evaluation, intangible factors are just as critical to financial factors that drive agency valuations and ultimately what a buyer will pay for an agency.

Trends in agency pricing and structure

Five trends in agency pricing, structure and objectives were outlined: 1) understand the distinction between platform, revenue and roll up acquisitions, 2) learn what drives agency value, 3) market values of agencies are based on both tangible and intangible components, 4) changes in pricing trends during the past two years and 5) purchase price components and structure.

Lieblein cautioned everyone to establish pricing parameters and avoid false information. He said agency owners who are considering selling are out-of-touch with real market pricing; he advised them to get guidelines to make sure their expectations are aligned with real life pricing.

“Basing the purchase price on revenue alone is ridiculous,” Lieblein said. “At the end of the day the key factor should be one thing – profits.”

Wevodau said it is important to consider the components of the purchase price. They include: rep and warranty escrows; baseline performance/retention escrows; currency and closing cash (cash/stock); and incentive/earnout provisions. He explained that understanding these components is critical prior to starting the sale in process so that you understand from the transaction structure.

He said it is very important how such deals are structured, noting that on average most buyers pay 75 percent of the purchase price up front as cash or stock, with a 25 percent holdback, depending on the buyer. Of ultimate importance is how the deal is structured.

Lieblein advised caution in considering any acquisition, pointing out that, “If you buy an organization you are stuck with it and it can cause you many long-term headaches.” He quoted a study by the Boston Consulting Group revealing that 61 percent of acquisitions between 1995 and 2001 destroyed shareholder value. Other studies, according to Lieblein, indicate an even higher failure rate, which could be as high as 75 percent.

Key reasons for failure

He cited five key reasons for failure: 1) poor strategic rationale or understanding of strategic synergies; overpayment based on overstated value; inadequate integration planning and execution; a void in executive leadership and strategic communication; and a severe cultural mismatch.

The last item could be the most important factor, he said, describing the cultural match as the most critical and the most overlooked factor. “It’s important to consider the effect of an acquisition on the cultural makeup of both companies,” Lieblein explained. “People are your most important asset; if there are clashes, people will leave and they are key to the success of the acquisition.”

The presenters said they have developed key reasons for failure and have learned some basic lessons from past acquisitions.

Lessons learned

They learned many lessons from past acquisitions. To enhance chances for success it is essential to develop an acquisition strategy; develop and communicate pricing rationale; be flexible and creative; perform effective due diligence; know when to walk away; understand motivation is not critical; remember buying is selling; use professional advisors; recognize and use seller’s advisors; avoid the “nothing will change” approach; and think the deal is done.

Lieblein said it’s important to evaluate acquisition candidates on a score of one to 10 according to management assessment, growth potential, historical cash flow, mix of business, customer base, ability to integrate, carrier relationships, competitive situation, location and technology of facilities. The overall score, based on percentages, should be evaluated and appropriate action taken accordingly.

“If a candidate has a score of 50 percent or less, there is no reason to continue the acquisition process,” Lieblein said. “If the score is from 60 percent to 80 percent, they are a good candidate to continue the process. If their score is above 90 percent they are unique, but perhaps a reevaluation is necessary.”

Topics Mergers & Acquisitions Trends Agencies Excess Surplus Training Development