IS THE VALUE OF TODAY’S BROKERAGE AT RISK?

Things have quickly changed! Within the span of a few months, geo-political and macro-economic factors have tilted the world on its axis. Slower supply chains and labour shortages emerging from COVID have contributed to an inflationary cycle in Canada that was supposed to be a temporary phenomenon. Then came the Russian invasion of Ukraine; which created the necessary conditions to amplify inflationary pressures across the global economy.  In our country, the Bank of Canada responded by initiating a cycle of interest rate increases as inflation was no longer deemed as “transitory” and a prolonged period of increasing interest rates is likely here to stay. Consumers are feeling the pinch as their buying power erodes. Top line commission income growth and brokerage profitability face potential negative impact for the first time in many years.

All of these factors create a dilemma for the brokerage owner. How can I continue to rely on my existing succession plan to maximize my brokerage’s value and efficiently execute on a sale? The key is “adaptability”! When considering the concept of “adaptability”¹ and the forces that could impact your succession plan in the near term, you need to ask yourself the following questions:

• Is the market for insurance brokerages at its peak? With only a few large, financial sponsor-backed industry consolidators competing for brokerage targets, could the current instability ever drive valuation levels down? The answer is, probably, but it’s pretty hard to predict when, why, and to what extent. As a brokerage owner, you need to consider the possibility of some downward pressure on valuations. Your succession plan should account for this risk.
• If growth through brokerage acquisition is at its peak, what will drive brokerage valuation levels moving forward? Multiples expansion over the past couple of years was mainly driven by positive business sentiment and convenient accessibility to inexpensive debt financing to fund acquisitions. With business sentiment now mixed at best and debt financing now more expensive, brokerage growth trajectory is more than ever before a major valuation driver. Organic growth is a desired attribute for acquirers and often would imply a higher multiple. Growth through acquisition is another critical measure for value. This does not always necessarily mean brokerage acquisitions. A fulsome acquisition strategy must also rely on maximizing the brokerage’s ability to acquire agents, along with their books of business, at reasonable multiples.
• What if the current geo-political and macro-economic instability slows in the coming months? Improving economic conditions and higher asset prices spawned in part by inflation could increase the overall demand for insurance coverage. Brokerage owners should assume that organic growth will remain a key driver for maintaining high valuation levels. Key to the adaptability of your brokerage’s succession plan is including assumptions for both upside and downside risks.

Your insurance brokerage took years to build and has endured and thrived through multiple economic cycles. Therefore, any succession plan you create as a brokerage owner cannot exist in a vacuum. It cannot remain static! It must be adaptable and address both upside and downside risks to your brokerage’s valuation. While the likelihood of significant compression in brokerage valuations remains small, re-visiting your succession plan is a prudent step to take in the current market.

¹Key Points on Adaptability taken from “Has the Insurance Brokerage Market Peaked?” Rackes and Forgione, Houlihan Lokey, 2022