How are they impacting the availability of capital to agents?
Allstate’s recent move to once again adjust compensation has many agents and consultants calling us to ask are we still lending to Allstate agencies. The answer is YES. Allstate has been transparent with lenders about the changes after they roll them out to the agent force. This allows lenders to understand the impact and model those changes to stress test an agency’s P&L and lending capacity.
Many lenders reaction to the changes implemented in 2023 was simply to cap their exposure or loan amount to TPP value. Compensation changes may not have been the sole driver of that approach, but as a result of situations where agents were terminated, unable to affect a sale of the agency, and upside down on their loan (loan amount greater than TPP). Those situations may cause losses for lenders when the agency owner doesn’t have sufficient other assets or income to pay off the loan balance in excess of TPP. Therefore, the easy reaction from the lender’s perspective is to cap the exposure at TPP on future transactions to help eliminate those riskier situations.
So what does that mean for agents buying or selling their agency? It depends. One major factor a lender will consider is are you Elite, Pro or Emerging? Emerging agents are taking the largest hit to renewal revenue approximating 22% decline from 2022 to 2024 assuming the same level of premium. That decline has been gradual in 2023 as policies renew and will continue a gradual decline in 2024. Normally lenders lean on historical financial information in underwriting a loan. All other things equal, that historical information isn’t representative of what 2024 may look like for an agency, especially in the Pro and Emerging categories.
Let’s take a look at a simple example. Let’s assume we have a $5 million premium agency classified in Emerging category for 2023 and is still on pace for Emerging in 2024. That agency may have been valued near $1.15 million in early 2022 based on an average premium multiple of 0.23. The 11% renewal compensation reduction implemented in 2023 and market adjustments to price bring that agency value down to about $1 million in early 2023. Typical financing of an agency in 2022 might have been 80% by the lender, 10% cash in by the buyer and 10% seller note. As many lenders tightened towards TPP, that means at the same purchase price of $1 million, the buyer and seller would need to fund double what they would have in 2022.
Unfortunately, many buyers don’t have that type of cash to affect the purchase. Sellers may be willing to carry a larger seller note, but many want most of their cash up front so prices tended to get squeezed in order to get transactions done. For Emerging agents, the additional reduction in renewal commissions in 2024 will mean even tougher decisions. The decision to sell now likely depends on how efficiently you can run your operation and manage expenses while trying to climb out of Emerging status and staying off the Allstate termination radar.
If you are a Pro or Elite agent, the impact is more minimal. However, given the complexity of the commission structure and Allstate’s quick changes in two concurrent years, the risk of Allstate “moving the needle” is greater which may make lenders tighten their belts. Being transparent with your lender may help mitigate that tightening to ensure that they are looking at the business from all angles.
Lenders should be looking factors other than TPP, especially for those in the Pro and Elite status. Renewal revenue may adjust, but share variable compensation, bundling and bonus metrics with your lender to ensure they are getting a full picture of how you are adapting. Growth in new premium, retention and loss rates are metrics that you should share with your lender. And even if those metrics aren’t going in the direction you want, have open dialogue about them. Spend time going through your plan for operating expense growth or reduction depending on your situation because it’s more about cash flow and net operating income than it is about topline revenue. Agencies who run more efficiently should be valued higher and have more ability to leverage.
Seasoned lenders have seen cyclicality in the market before. The key for you as a potential buyer or seller is to have conversations early with a lender who’s been in this market for a long time and seen those cycles. Your agency value is driven by how much someone is willing to pay you in cash or how much a lender is willing to finance.
Summarizing one lender’s view of the current market, here’s a few takeaways:
- Elite, Pro or Emerging status makes a difference.
- Agency values are declining given volatility in the market and compensation changes.
- Sellers need to recognize that higher overall cost of financing given the interest rate environment will impact what a buyer will pay.
- Stronger balance sheets may be needed for buyers to get deals done.
- Most importantly, plan and adapt.
Lending isn’t getting easier in this environment, but we are lending with open dialogue and information sharing to help us fully evaluate your unique situation.
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