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Why Sustained Earning Power Is Possible in the ‘New Normal’

Agency principals are understandably nervous. The pandemic has upended business and created uncertainty. How do you plan for 2021 when there are so many unknowns?
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Why Sustained Earning Power Is Possible in the ‘New Normal’

Agency principals are understandably nervous. The pandemic has upended business and created uncertainty. How do you plan for 2021 when there are so many unknowns? Which markets should you participate in? Is now a good time to sell or acquire an agency? What will future profit-sharing look like?

In times of change and disruption, it's important to remember that adversity breeds opportunity. I'm not certain what the “new normal" will look like, but I do know that opportunity-driven agencies will survive. They will be the leaders in a post-pandemic world that may be very different than the world we knew just months ago. 

Opportunity-driven agencies are the ones that will figure out how to sustain their earning power. And they'll do it the way they've always done it—by focusing on the fundamentals of value and growth: creating new sources of revenue, increasing efficiency, cutting expenses, and investing in people and technology.

“Being opportunity-driven is about looking at a bad situation and turning it around to see the opportunity," says William Sahlman, Harvard Business School professor. So, how do you find opportunities to retain value and sustain your earning power, even during a pandemic?

What is Value?

Value isn't shiny top-line numbers. Value is derived from generating steady, predictable cash flows. How efficiently you produce revenue is the critical question. Income earned more efficiently generates greater sustainable cash flow and contributes to higher agency valuations.

Growth occurs when you invest in new sources of revenue, such as an acquisition or hiring new producers, and those new dollars are earned with minimum expense. If it costs a dollar to earn a dollar, you haven't maximized your value. Revenue streams that are generated with improved operating leverage are what add to your long-term earning power.

These are not predictable times. But knowing the predictors of cash flow allows you to focus on the things that matter. Retention, loss ratios, revenue, new business, customer demographics—these are what you should be watching like a hawk.

Look at the agencies that have been growing and think about why larger agencies have continued to acquire smaller ones. These agencies are increasing value through a combination of acquisitions and organic growth. They're after long-term profitability, so they acquire well-run agencies that have real value and something they don't already have: a niche market, a new territory, product expertise or carrier relationships. And by acquiring a number of agencies, they achieve economies of scale that individual agencies can't realize on their own.

They're also willing to make the management decisions necessary for growth: weeding out unproductive staff, eliminating redundant salaries and expenses, and modernizing the office. Investing in digital technology also makes them nimbler, more customer-responsive and data-driven organizations.

Getting Lean and Mean

As a result of the pandemic, we're likely to see more agencies partnering to create better efficiencies. By combining forces, these agencies can offer competitive compensation to attract top talent and can invest in needed technology and infrastructure. The pandemic will squeeze agency owners who can't keep up, making a merger or buyout appealing if they are nearing retirement. 

But if you're still relatively young and want to be your own boss, now is a good time to invest in your agency. I've long been a proponent of organic growth—or sweat equity—to drive better returns. 

Owners should get their house in order for what lies ahead. For starters, you can boost your earning power by reducing the cost of servicing your accounts, utilizing customer relationship management systems, digitizing your records, taking advantage of social media and using your cash more efficiently.

The successful agencies will be the ones that can navigate past the current uncertainty and find opportunity. Here are some best practices that can lead to a higher level of growth:

Invest in your people. Good people are what get you through tough times. Having a dedicated, reliable team makes your organization more resilient. Check up on your team if they work remotely. Onboarding new employees in this environment can be a challenge, so staff stability is important. Ensure that remote employees have cyber-safe agency management resources to effectively service your customers. 

Manage your expenses. Be sure you have systems in place to monitor and control your expenses. Always look for ways to reduce costs. With each business decision, ask yourself: “How does this affect my future cash flow?" At the same time, be sure to budget for pandemic-related expenses such as computer equipment, software, training and marketing costs. 

Think about borrowing. The Federal Reserve has signaled it will keep interest rates low for the foreseeable future. Rather than draining your working capital, it may be a better option to borrow to pay for new office systems or hiring another producer. Well-run agencies with good cash flow will be able to access capital on more favorable terms. Low-cost debt capital can be used to move an acquisition or perpetuation forward, even in these uncertain times.

Continue to build client relationships. Check on your customers regularly. For some clients, just receiving a phone call can further cement your relationship with them. Invest more time in serving, not selling, your clients and staying active in your community. Your involvement will pay off in referrals and goodwill. This is the way to rebuild pipelines, which leads to future growth.

Have a succession plan. Think about who your successor will be if you're planning to perpetuate and retire soon. Have a plan for how your agency will transfer ownership. It can be in stages over time to ease the exit and maximize tax advantages. Keeping your key performers engaged and informed is critical to your succession plan.

There's no doubt the pandemic will impact the financial future of many agencies. Those that specialize in hard-hit markets like hospitality, energy, travel and entertainment may need to find new markets and customers. Perform a stress test on your future cash flow. What happens if you lose three of your top 10 commercial clients? Have a financial strategy to deal with potential disruption to cash flow.

David Tralka is the president and CEO of InsurBanc, a division of Connecticut Community Bank, N.A. An expert on agency mergers and acquisitions, agency perpetuation and financing, he has presented at numerous venues nationwide.

Looking Ahead

Every agency should be focused on the future. Spend some time assessing what works and what doesn't in your firm. To borrow from Jim Collins, author of “Good to Great," ask yourself these three questions: 

1) What markets are you the most passionate about?
2) What can your agency be the very best at?
3) What best drives your firm's economic engine? 

The answers to these questions will help you thrive in the new normal that lies ahead.—DT

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Friday, October 9, 2020
Perpetuation & Valuation