How to Own an Insurance Company

By F. Laughton Sherman | May 9, 2005

Purchasing a Shell Could be a Smart Move for Some Profit-Seeking Brokers

Oft times, managing general agents, wholesalers and insurance brokers feel they are inadequately compensated for the important services they provide in proportion to the substantial profits they see going to their carriers or fronting companies from their book of business. This is particularly true during a hard market.

Typically, carriers and fronting companies charge substantial fronting fees, upwards of 6-10 percent, for the use of their ratings, licenses, admitted/non-admitted paper, etc. Brokers with good underwriting (i.e. low loss ratios) cannot help but salivate at the thought of eliminating these heavy fronting fees and combining the savings with the substantial earnings potential they could realize by retaining the risk themselves.

Before racing to purchase an insurance company, one must consider the various other means of participating in profits. Probably the most common method is by way of profit sharing commissions with carriers. However, this limits the broker to only taking a small portion of profit.

The next step up is likely some type of quota share arrangement between the broker and the carrier in which the broker agrees to assume a percentage of the risk, backed by a letter of credit (which ties up capital), in exchange for a percentage of the profits. This option, though not always available, does afford the opportunity to hold on to a slightly larger percentage of the profit.

The only way for a brokerage to capture all the profit is to set up its own insurance company. If successful, this act enables the brokerage firm to “control its own destiny.” To do this is no easy task, but it is possible. The key is in knowing exactly what is at stake and knowing all the elements that must be in place before proceeding.

Let’s assume that start up capital is not a problem. Many additional things must be considered, implemented and achieved before a successful start-up can be realized. The decisions to be made are seemingly endless and begin with the geographic footprint desired, where the company should be domiciled, and statutory surplus requirements of the states involved. Additionally, the complexities involved in obtaining a charter, the multi state regulatory approvals processes and achieving the A.M. Best rating required all must be navigated without mistakes. Collectively, these obstacles, and many more, present a drain on a broker’s time, resources and the ability to run the day-to-day business.

Thankfully, there is a commonly used shortcut which avoids some of the problems associated with starting an insurance company. Several early hurdles may be cleared by simply purchasing one of the many shell insurance companies on the market today. Ideally, a “clean shell” will be available. This is an insurance company with licenses but without old insurance liabilities or legacies.

Purchasing a shell will not eliminate critical decisions such where to domicile or in which states are licenses needed. Nor will it guarantee the required A. M. Best rating or state regulatory approval of the new ownership. However, most importantly, it will be a company that already has a state of domicile charter and existing licenses in most or all of the states desirable to the buyer.

What is the cost to acquire a clean shell?

Shells in today’s market are plentiful, but there are significant entry fees. The seller of the shell will want two things:

1) A dollar for dollar exchange for delivering the shell to the buyer with the capital tied up in the shell. Some shells are accompanied with as little as $2 million in capital and surplus.

2) Consideration for the number of states in which the shell is licensed to write business. For example, if the shell has existing capital and surplus of $5 million and is licensed in 10 states, the buyer will need to deliver $5.5 million to the seller at closing. This assumes that the seller will sell the licenses for $50,000 per state.

The price paid for a license depends on the number of licenses carried by the shell, and, of course, where the shell is licensed to write business. Highly populated states such as California, New York and Florida typically are priced at a premium when compared to other states. Usually license prices are in direct proportion to the population of the state. The most costly shells are those licensed in all or most of the 50 states and the District of Columbia. Over the past nine months, the prices of these licenses have been, on average, $139,233 and as high as $250,000. Conversely, shells licensed in less than 30 states are generally sold for approximately $60,000 – $65,000 per state license.

How to proceed?
What else should be considered when acquiring a shell?

First, it is important to understand that some states have minimum capital requirements. Ratings from A.M. Best are also a key issue. A company unable to get the appropriate rating may not be able to write business directly and instead must settle on a fronting carrier. This would revert to paying the fronting fees of 6-10 percent.

Also, how much additional capital is needed to support the new business that goes into the shell? What levels of net written premiums to surplus ratio must be maintained going forward? If you can bring significant premium volume, perhaps a large capital raise from a private equity group is worth exploring.

The real key is in knowing all the issues that must be addressed to insure ultimate success. The considerations can be intimidating unless the buyer fully understands the process. If this expertise is not available in house, the broker would be wise to hire an advisor that has been through the process, understands the regulatory issues and comprehends capital and ratings requirements.

In the event start up capital may not be readily available, there are ways to obtain this funding. In many cases, this is not an insurmountable issue but it does require expertise and experience in dealing with the capital markets. Access to capital will depend on the broker’s success record, the strength of management, the business plan and the amount required as well as the proper relationships with investors.

Undertaking the start up of an insurance company, although daunting, is not an insurmountable objective for brokers who are qualified, capitalized and well advised.

F. Laughton Sherman (LSherman@LMC is managing director of LMC Capital LLC, a national investment banking firm dedicated exclusively to the insurance industry. Among other services, LMC provides industry-specific advice as it relates to the sale of brokers/agencies, mergers and acquisitions, debt financing, valuations, and/or evaluating strategic alternatives. The firm is located in Charlotte,
N.C. To visit the website go to

Topics Carriers Legislation Agencies Profit Loss

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