The Closing Window of Opportunity, or Is It?

By and | September 7, 2020

As merger and acquisition consultants, we wonder how long unusually high EBITDA multiples will be paid by buyers. Most of our insurance agency clients have not seen dramatic losses of commissions and fees during COVID-19, mostly because of not having a dependency on the hospitality, entertainment, hotels, restaurant and bar industries.

We have a number of buyers that we represent that pay EBITDA multiples in the 8 to 10 times range. When preparing a valuation, we adjust for already lost business or lower workers’ compensation commissions, if some of the businesses they insure are lowering payrolls, due to temporary or even permanent layoffs. New sales are also lower for many clients, so these rating bases are being adjusted, which lowers agency commissions.

What will the new M&A environment look like in 2021? While even policy makers fail to predict recessions or future interest rates, it is clear massive economic risk factors remain.

This fall there are predictions of a resurgence of COVID-19, a presidential election is underway and many businesses appear to be closing or downsizing to comply with new mandated distancing regulations. Is the recovery going to be a V (quick recovery) an L (drop with no recovery) or a W (drop and a recovery followed by another drop)? Will it take a vaccine in the middle of 2021 before we see the bulk of the 30 million unemployed Americans return to work? With many states deciding not to open schools this fall, or doing so on a limited basis, most children are going to learn via Zoom. This in turn puts more pressure on workers with children severely impacting their labor productivity and forcing up to 15% of workers to exit the labor force to pick up these new responsibilities, according to Goldman Sachs.

Recession: Second Wave?

As unemployment compensation expires and cash reserves dwindle, a big fear among economists is a secondary economic recession. While consumers have lapped up unemployment, they have been paying down debt and even leading a retail spending jump. This moment is fragile and business owners need to prepare for an uncertain future. Those looking to sell or buy have a golden opportunity to persue their transaction in the next few months.

Taxes & Interest Rates

With debt levels climbing, business owners are not expecting any permanent tax cuts next year. Yet, with the federal reserve lowering interest rates to near zero, those eligible to borrow capital are in the best position to do so in recent history. A flight to safety has occurred in the last year that will likely continue into the next year. Private equity with nearly unlimited borrowing capacities financed at record low rates will likely continue to lap up safe books of business and agencies. Even if the standard 95% renewal rate is lower, insurance continues to be a much safer investment for PE buyers. Yet aftershocks will surely be felt and going forward a larger uncertainty discount may be applied.

As consultants, we want to get all the deals we have in process closed before the end of the year. This will save our clients a great amount of money on taxes on their down payment, which have been averaging in the 80% to 90% of purchase price range.

Earn-outs and bonuses that go further into the future, would also likely be taxed at a higher rate. The stock some take in the transactions would also be taxed at higher rates when it is sold, likely at retirement.

Summary

Be safe by wearing a mask. If the perpetuation plan is to sell in the next two to three years, then moving this time period up, would be a very good idea.

About Catherine Oak

Oak is the founder of the consulting firm, Oak & Associates, based in Northern California and Central Oregon. Oak & Associates. Phone: 707-936-6565. Email: catoak@gmail.com. More from Catherine Oak

About William Schoeffler Jr.

Schoeffler Jr. is a financial analyst for Oak & Associates who specialize in financial and management consulting for independent insurance agencies, including valuations, mergers acquisitions, sales and marketing planning as well as perpetuation planning. Phone: 707-935-6565. More from William Schoeffler Jr.

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Insurance Journal West September 7, 2020
September 7, 2020
Insurance Journal West Magazine

Surplus Lines: Wholesale & Specialty Insurance Association Annual Marketplace; Market: Energy