Turning Lemons to Lemonade

How MGAs can benefit from consolidation in the insurance industry

By now consolidation in the insurance distribution chain is well established and
nobody is immune from its impacts. Consolidation within the broker and the carrier
markets is actively reshaping the insurance industry in terms of business relationships,
choice, and profitability. How does an MGA survive and prosper in such an
environment? The purpose of this white paper is to help the leaders and owner-operators
of Managing General Agencies (MGAs) build a winning strategy while minimizing
potential negative impacts to their employees and customers that can result from this
increasingly competitive marketplace.
Many MGAs feel anxious about the strategic and competitive challenges posed by
consolidation in the insurance value-chain. However, this in and of itself should not be
the cause for dismay. There will always be a place for MGAs who can operate as
efficient delivery systems of insurance products and services for their carriers. When the
MGA/insurer relationship works best, it operates as a virtual partnership where each
partner shares information and operates for everyones collective best interests (see
Exhibit B). On the other hand, this system is under tremendous pressure and MGAs that
dont adequately prepare for the future will experience a loss of market share and
decreased profitability.
Since the passage of the Gramm-Leach-Bliley Act over seven years ago, banks
have had the leeway to sell and underwrite insurance and many have responded by
purchasing agencies/brokerages. Furthermore, acquisitions by the large, national players
such as Brown & Brown and Arthur J. Gallagher have further fueled consolidation.
These driving forces have led to a more concentrated agent/broker market. Many MGAs
are concerned with how they handle their agent relationships with this consolidating
supply pool. With their customer base consolidating, many MGAs have responded by
increasing their marketing dollars. Unfortunately, they have seen very little return on this
investment. Furthermore, many of the mid-sized and large customers (agencies/brokers
generating $10MM-$100MM in premium) of MGAs are actively pressuring their
preferred MGA partners to provide them with more value. This pressure is ultimately
being driven by the end user of the insurance. It is the norm rather than the exception
that clients demand their agent/broker get as many as three of four comparison quotes at
renewal time. Many MGAs are finding themselves spending more and more time
providing comparison quotes without closing a sale.
But this is not the only negative competitive pressure MGAs are feeling. MGAs
are also asking themselves how they choose which carriers - big and small - to represent
and how do they find safe havens with the carriers they do represent. Carriers are
becoming more demanding and increasing the workloads of MGAs without a
corresponding increase in fees and commissions, resulting in margin pressure and lower
profitability for the MGA. See the graphic below to demonstrate the pressures
converging on the MGAs.

Public
Consolidators

Banks

Consolidation of
Your Customers

MGAs

Carriers

A winning MGA should have a strategic plan that recognizes the reality of
consolidation and the market pressures it faces. MGAs have three basic strategic options:
1. Get Big,
2. Get Focused,
3. or Get Out.
Each one of these strategies has its positives and negatives. Exhibit A of this
paper lists the tradeoffs among the get big, get focused or get out options. While the

strategy you choose depends on your unique circumstances, the key is actually deciding
on a strategy and executing on it. The business leaders that do not proactively respond to
this rapidly changing marketplace are inadvertently putting their companys legacy in
jeopardy. In other consolidating industries, companies that continued on the path of
business as usual slowly saw their competitive position and shareholders equity erode.
A path of no action not only slowly erodes your companys position, but puts the wellbeing of your employees and team members in danger. Consolidation is a fact. How can
you, as a leader, benefit from this environment?

Get Big:
The first strategic option is to become one of the industrys consolidators. Some
of the MGAs pursuing this option have added, internally, the acquisition and integration
expertise to their management teams. Other MGAs have chosen to partner with a private
equity firm to be the platform company in a private equity sponsored build-up.
Whichever route you choose the fact remains that as many as two out of every three
mergers and acquisitions end up destroying shareholder value. (source: Richard Dobbs,
Marc Godehart, and Hannu Suonio, Are Companies Getting Better at M&A?
McKinsey on Finance. Winter 2007). While an M&A strategy can enable you to improve
scale, build volume and exploit opportunities for cost saving rationalization, it should be
prudently pursued. What should the business leader consider if he or she wants to build
scale through M&A?
Common sense dictates that your current business should be positioned to handle
the additional revenue, employees, customers, and complexity you will be adding to your
business. However, many consolidators ultimately fail because they never reach
excellence in the necessary activities required for success. These activities center around
four major categories:
expertise in the mechanics of the entire deal including post-closing
integration,
your employees capacity and skills,
the strength of your processes and systems in place before the merger or
acquisition,
and your culture and the culture of the firm you are acquiring or merging
with.
The price and the terms of any transaction are important, but just as important is
your plan for integrating and leveraging the business after closing so one plus one
equals more than two. This process is beyond the scope of this paper but any
consolidator needs to make sure they have access to this expertise.
Many consolidators who have failed repeatedly point out that they made the
mistake of embarking on a merger or acquisition without evaluating the capacity and skill
set of their people. Do you have the right management team in place to take advantage of
an acquisition? Are your people ready to adapt and grow with the inevitable changes that
any acquisition brings? At the end of the day, your people will be the ones making your

acquisition a success and you need the right people in the right jobs before you embark
down this path.
Many organizations fail when they grow too quickly. The danger of this
happening is even more prevalent when you grow through mergers or acquisitions. Your
business should have made enough headway in its transition from an entrepreneurial
organization to an entity that has the systems, processes, and structure of a professionally
managed corporation. Businesses that fail to put in place these foundational items
become the victims of poor execution.
Last but not least, the culture of your firm needs to be compatible with any firm
you acquire or merge with.
People are at the core of your business. Everything you do, people are involved
in and influence the outcomes or results. In getting big, we already mentioned the
capabilities of your people and the thought of making sure you have the right people in
the right roles. As you consider the growth and expansion for your business, are your
own people ready for the expansion, the likely increasing work loads, the changes in how
things are done and the possibility they will need to improve their capabilities to grow
with the firm? One of the most important components to growth is considering how
your people will respond.
In merging or acquiring, your people are only part of the solution. Now you have
new people to include into your plans. It is imperative you consider the environment
these people have worked in, the type of leadership, the reward, communication and
operating systems previously in place as well as the overall work conditions/environment
they worked in.
A few areas you will want to consider focusing on are:
How have the new changes been communicated to them to this point?
What communication plan will you establish in order to effectively bring
them along ?
How will you determine the capabilities of each new person and the
particular role/function area they will serve in
What are the expectations and timeline you will have for them in the new
entity?
These are all critical issues in considering how to create a strong future culture
and high performance.
Given the risks and work involved in becoming a consolidator, a MGA could
decide to forgo this strategy and instead choose to leverage its competitive advantages
and pursue a focused growth plan.

Get Focused:
Given that MGAs are agencies that serve as outside administrators of
underwriting and/or claims services for the insurance companies that they represent, a

MGAs growth focus can take several forms. Do you want to expand into new products,
new services, new customers or new regions? Answering these questions in a strategic
context means three things:
(1) Clearly defining the purpose of your company and the business you want to be in,
(2) knowing the key resources required to be successful in that business segment,
(3) and focusing and synthesizing these resources into driving forces for growth so
you can effectively execute on your agenda.
Growth plans fail when people are unclear on the necessary ingredients for
success. In general, two critical components are:
(1) knowing your growth strategy fits with your organizations competitive
capabilities and
(2) effectively communicating your strategy to your team and your customers.
Many MGAs only underwrite two to three specialty programs in limited
geographic regions of the United States where they have amassed market expertise. To
leverage what they do well -- underwriting specialty risks -- it might behoove them to
expand their geographic footprint. Often this entails opening new offices. Other MGAs
have leveraged their understanding of specialty risks to grow revenue through wholesale
brokerage in targeted industry sectors such as long-haul trucking or tribal gaming
operations. Yet other MGAs who feel they have an advantage in their claims handling
have marketed this capability to grow with insurers and agencies. These MGAs, by
providing world-class service after a loss, position themselves as value-added partners.
If pursuing a focused strategy, the authors have found that everyone throughout
your organization needs to clearly understand your strategic initiatives and your
expectations of each team member. It is not uncommon for executive leadership teams to
fail to clearly articulate and communicate their strategy throughout the organization. Are
your employees committed to making your organizations strategy a success? Do they
take full responsibility for their actions and feel empowered to assist in the companys
growth initiatives? If you can successfully align your organization internally, the next
step is communicating your focused value proposition to your agencies. It is a common
complaint among many MGAs that their marketing efforts do not increase their
profitability. This will be true if marketing is done in a haphazard manner and not as an
integral component of your plan.
Whether an MGA chooses to leverage core competencies in underwriting, claims
adjudication, or policy administration depends on each MGAs unique capabilities and
competitive situation. One constant that doesnt change no matter what strategy you
pursue is the need to maintain and continually upgrade your peoples abilities to provide
the best service possible to your customers. Given the industrys rapidly-changing
environment, MGAs that grow will do so by focusing on their unique strengths. There
are numerous examples of bankrupt MGAs that reinforce the saying that if you fail to
plan, you can surely plan to fail.

Get Out:

The courage to face the future honestly often leads owners to look for a profitable
exit strategy. The accelerating pace of consolidation, along with the money flowing into
the industry from banks and private equity firms, offers an opportunity to smart sellers
who understand their options as well as the potential pitfalls.
The best time to sell your company is when you do not need to sell: there is no
financial pressure to repay creditors or create an instant retirement nest egg. Instead, plan
a company transition in an orderly and methodical way; rather than under a time pressure
that decreases your negotiation leverage.
The insurance industry value chain will not consolidate forever. So, if selling is a
strategic option, then when is the time right for selling? The best time to sell depends on
your unique circumstances and what you value as an owner and operator. If getting the
highest price possible is your main concern, then you should sell when you can line up
multiple buyers to bid for your company. If the legacy of your company and the wellbeing of your employees and customers is a concern, then you might want to explore
selling when you have found a buyer who is willing to give you a fair price and possesses
the willingness, integrity, and capability to ensure a win for all of your team.
Selling when you do not need to sell gives you more strategic flexibility. You
have more control over the sale process and can take your time choosing the right partner.
Some owners just want the highest price and best possible terms. If this is the case, it is
best to create an auction environment among potential buyers and play them off against
each other. If you want your employees to be comfortable with the new owners and its
important to you that the process is above board and conducted with complete integrity,
than take the time to build a relationship with a buyer who will trust and respect you.
Unfortunately, the truth is that most business transitions do not have happy endings. The
tips and traps involved in selling your business are beyond the scope of this paper, but it
merits thoughtful analysis for any seller of a MGA before moving forward in the process.
If selling is a strategic option you would like to explore, we encourage you to download
from the Helios Capital website the white paper, Dont Make the Mistakes I Did. In
this paper, entrepreneurs and business owners who have sold their businesses reveal
lessons learned and what they would do differently if given the opportunity.
Whether you decide to get big, get focused, or get out; you should have a
strategic plan that recognizes the reality of consolidation and the market pressures you
face. It is unlikely that any of us can make the single correct forecast given the rapidly
evolving insurance value chain. However, by acting rather than reacting, you have a
better chance of getting the outcome you desire. For MGAs that take their destiny in
their hands and execute on a strategic course of action, continuity and financial health can
be maintained. It is a known fact that industries do not consolidate forever. Indeed,
when the dust has settled, the winners in this game will see their profitability increase as
weaker competitors have fallen by the wayside. The strategy you choose depends on
your unique wants and circumstances. As fellow business leaders, we wish you the best
of success with all your goals and objectives.

Exhibit A

Get Big
Pros
Increases Mass Around Similar Products &
Services More Negotiation Leverage
Provides Base for IT Investment Increase
Efficiency
Access to Capital is Easier Capital Costs
Are Less
Take Greater Risk Sharing

Cons
Most M&A Deals Fail Due to Inability to
Merge Separate Cultures
Critical Customers Often Leave
Critical Employees Often Leave

Get Focused
Pros
Control Over Building Shareholder Value

Cons
Pressure from Competitors, Customers, and
Suppliers will Continue to Accumulate
Control May Lead to a Higher Selling Price Will Compete from Weakness when Focus
in the Future
is Lost
Providing More Services at the Same Price
Detracts from Profitability
Workload Increases; Profit Decreases

Get Out
Pros
Maximize Return on Your Work
Understand Future Risks & Rewards - &
Choose to Take Some Chips Off the Table
Achieve a Fair Price
Provide Upside & Protect Your Downside
Protect the Well-Being of Your Employees
Protect the Well-Being of Your Family

Cons
Many Consolidators Fail to Integrate &
Operate Their Acquisitions
Appropriately/Effectively
Inequitable Deal; Can Lead to Problems for
Your, Your Team, & Your Company
Handled Inappropriately; Can Tarnish Your
Legacy
Missing Unforeseen Upside

Exhibit B

Who Benefits From the MGA Distribution System

Insurers
Immediate Access to
MGAs marketing
network
Expertise, skill and
knowledge from the
MGA
Rapid premium growth

MGAs/Sub-producers
Ability to seize underwriting
opportunities without a large
capital commitment
MGAs can build expertise in
certain insurance products
and services
Sub-producers given access
to markets and products that
they may not normally have
access to.

Variable expense
structure (fees &
commissions) based on
premiums
Rapid exodus if insurers
business focus changes
Fixed costs that are
minimal since most
staffing considerations
are with the MGA
Source: PriceWaterhouse Coopers

Consumers
Insurance knowledge and
expertise that their agent may
not possess
More competitive pricing and
broader coverage offerings
Safety programs that are
tailored to the specific
industry segment
Dedicated claims and claims
expertise in the industry