Taking Stock...that point.) You can continue on autopilot, or evolve by taking stock of your people and technology to compete in today’s dynamic economy. Findings from the 30th Annual

Taking Stock:People & Technology Propel Progressive Firms

MarshBerry’s 30th Annual Market & Financial Outlook report addresses top challenges insurance agencies face — talent, market dynamics and technology.

n The Mechanism That Drives a SMALL BUSINESS UNIT

n The Rise of PRIVATE EQUITY-BACKED BUYERS

n Metric of the MONTHF E B R U A R Y| 2 0 1 6

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*Merger & Acquisition Announced Transactions in Insurance Brokerage (1999-2015); Ranked by Total Number of Deals

n PG. 4 Taking Stock: People & Technology Propel Progressive Firms

n PG. 7 Metric of the Month • Non-Compensation Expenses

n PG. 8 The Mechanism That Drives a Small Business Unit

n PG. 10 The Rise of Private Equity-Backed Buyers

n PG. 12 On the Horizon

TABLE OF CONTENTS

CONTRIBUTING AUTHORSMEGAN BOSMA, Senior Vice President

MOLLY CONNELL, Senior Consultant

CANDICE ENSINGER, Director, Research

KYLE HOEFT, Consultant

DANI ZHELEZOVA, Data Consultant

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February Spotlight

MarshBerry’s 30th Annual Market & Financial Outlook Report:

NOW AVAILABLEResults from the 2015 survey compiled anonymous general independent agency information on financial performance, market dynamics, and technology, along with MarshBerry’s proprietary financial management system Perspectives for High Performance (“PHP”) data.The complete report enables independent insurance agencies to highlight key agent and broker performance trends from 2007–2015 with results segmented by revenue size and region.

The five core chapters offer a market overview and outlook. Charts in each section provide information on:

n External Factors — Economy — Market Dynamicsn Merger & Acquisition* & Perpetuation Readiness n Growth n Expense Management & Profit n Operations & Productivity

To learn more, log on to: www.MarshBerry.com/2016MarketFinancial*Securities offered through MarshBerry Capital, Inc., Member FINRA Member SIPC and an affiliate of Marsh, Berry & Company, Inc., 28601 Chagrin Blvd., Suite 400, Woodmere, Ohio 44122 440.354.3230.

4 February 2016 | CounterPoint

Renewal income provides comfort for many traditional insurance agencies. Most are happy if agency growth outpaces inflation and provides adequate shareholder return. Those agencies tend to “go with the flow” in terms of growth. They continue to operate their firm as they always have, rising and falling with the market and with no real significant investments in technology or assertive recruiting efforts.That’s all well and good— until the environment changes. The winds of change blow in many directions. Election years typically create regulatory and economic uncertainty. Declining labor participation, low unemployment, a rising number of open positions, and a widening skills gap are combining to put upward pressure on wages. Technology is advancing at a rapid pace and is no longer just a tool for firms to use to improve efficiency and manage receivables. It provides data analytics to make better business decisions. It provides alternative sources of income. It is an extension of the firm. Using technology can either enhance or detract from the customer experience.

More progressive firms challenge the old ways.

Taking Stock:People & Technology Propel Progressive Firms

by Megan Bosma, Senior Vice President440.392.6553 [email protected]

MarshBerry’s 30th Annual Market & Financial Outlook report addresses the top challenges insurance agencies face — talent, market dynamics and technology.

5CounterPoint | February 2016

MarshBerry learned that agencies are concerned about talent, including:

1 hiring the best people; 2 retaining them with smart

compensation plans; and3 giving them the resources they

need to focus and close sales.

So, what are progressive firms doing that a typical agency is not in the talent department? They’re recruiting all the time, not just-in-time. They’re attracting young professionals so they can build a team that allows for perpetuation. They’re giving young producers an appealing work environment — a culture that’s less staunch and more modern.

MarshBerry initiated a LinkedIn survey asking potential future employees (not specific to the insurance industry) what they were looking for in an employer. What reels them in? We found that younger professionals prioritize a company’s values and vision. As job candidates mature in age, they seek these qualities but also look more closely at a company’s financial success and reputation.

When we inquired about the desired pay structure for a producer, all age groups surveyed desired a stable salary vs. commission-based compensation. In fact, 80% to 95% preferred a check they can count on. What does this mean for insurance agencies? Perhaps it’s time for a re-evaluation of the way we communicate producer compensation and incentives.

A Dynamic Market?You can’t control what the market does, and 2015 was certainly an interesting year.

The U.S. economy experienced moderate growth, lifting total commission and fee income for agencies and brokers. But, the U.S. economy faces a number of headwinds as we move into 2016. Deceleration in the world’s economies has strengthened the dollar and is putting pressure on U.S. manufacturing and exports. According to MarshBerry’s 2015 Market & Financial Survey, the U.S. unemployment rate is relatively low (5%) and

The same-old isn’t so successful when dynamic firms are investing in growth and focused on talent and technology.Those bold, growing agencies are taking a closer look at who they hire, how they compensate producers, the technology they use, and the data they collect to focus sales efforts.

Agencies that address market factors head-on are proving that it’s a change-or-die world. (That sounds harsh, but a record acquisition year in 2015, according to SNL Financial, underscores that point.) You can continue on autopilot, or evolve by taking stock of your people and technology to compete in today’s dynamic economy.

Findings from the 30th Annual MarshBerry Market & Financial Outlook survey shed light on what evolving agencies are doing to push profits and attract young producers — and the challenges traditional agencies will face if they ignore these factors. According to top industry executives who responded to our survey, agencies face five key market challenges: talent acquisition; market dynamics including premium rate changes and market disruptions; regulations; technology, and the economy.

Talent is the number one challenge insurance agencies

face today and will continue to confront in the future.

TOP CHALLENGES THE INDUSTRY WILL FACE

IN THE NEXT 3-5 YEARS

*Market Dynamics include rate environment, new risks, growth, consolidation, and market disruptors.Source: 2015 MarshBerry Market & Financial Survey

Market Dynamics*

Talent

Regulations

Technology Economy

1

2 3

4 5

The good news is, addressing these external forces can position firms to take control of their success. Here, we share highlights from our Market & Financial Report and provide insight on what agencies can do to stay relevant, grow profit and compete in a more tech-savvy, acquisition-laden environment than we’ve ever experienced before.

It’s All About the PeoplePeople are everything to a business. You can have the most high-tech ship around, but if the crew on board is unskilled or complacent, you’ll wreck.


appears to be continuing on a downward trend towards full employment. A strong labor market has led to an increase in domestic consumption which further strengthens the U.S. economy. Agencies that responded to the 2015 MarshBerry Market & Financial Outlook survey were optimistic about the outlook for 2016.

With such a rosy economic outlook why are top executives reporting that “market dynamics” (including premium rate changes, growth and consolidation, and market disruptions) will be a real challenge in the next 3-5 years?

Agency growth continues to rise and fall with changes in premium rates, exposure base and U.S. real Gross Domestic Product (GDP). Growth rates for the average agency decelerated in 2015. We anticipate growth rates will taper further to around 6%, in aggregate for 2016. A tight labor market, due in part to declining labor participation, low unemployment and a rising number of open positions in the U.S. will make recruiting that much more challenging. These factors, combined with a widening skills gap, are putting upward pressure on wages. Increasing compensation costs could dampen agency profit. The Federal Open Market Committee of the Federal Reserve Bank raised the federal funds rate at the end of 2015, but the impact has not yet rippled through the U.S. economy. We anticipate additional interest rate increases, albeit gradual, at some point, which may impact the insurance industry.

the center of the technology model. A more customer-centric model uses technology to enhance the customer experience.

Technology was a concern for the top executives who responded to the MarshBerry survey, and we understand why.

In a competitive environment with slowing organic growth, technology can give firms a leading edge. Technology is also expensive, and firms that have not been focused on investing in growth and are on the “same-old” track of doing business are behind.

Technology is beginning to disrupt the insurance industry — especially in the world of employee benefits. Agencies cannot afford to ignore the changing technology tide.

Think about how Amazon has disrupted the retail space with its sophisticated technology, including systems that monitor buyer behavior to improve sales. You know those “suggested products” lists that pop up on the site, and on social media? In insurance, some progressive firms are pushing the envelope with data tracking technology that can be used to improve sales initiatives. Of course, it’s not quite as “disruptive” as the retail giant’s tactic, but the idea of monitoring and collecting data can apply to all industries.

Growing Smarter Progressive firms will find opportunities for growth and market differentiation in spite of what the economy does in 2016.

The key is to look inside. Evaluate talent and devise a strategy for recruiting, retaining and developing employees. Take stock

Do you believe the current rate cycle across all lines will have a positive, negative, or no impact on organic growth rate in 2016? +

Source: 2015 MarshBerry Market & Financial Survey

Based on survey results, we are expecting a slow-down of organic growth and profits, driving firms to take a closer look at expense management. Successful insurance agencies will work to control their growth so they are not subject to market swings. They’ll take a good hard look at spending and ensure that those dollars are invested toward growth-focused activities (technology and people).

Tapping into TechnologyInsurance has not traditionally been a “high tech” industry, and today’s more traditional firms are lagging in the adoption of technology.

Historically, insurance agencies view technology as a tool to enhance their business. This view tends to put the agency at

UTILIZATION OF AGENCY MANAGEMENT SYSTEM

Source: 2015 MarshBerry Market & Financial Survey

METRIC OF THE MONTH


Total Selling + Operating + Administrative Expenses divided by Total Commissions & FeesMarshBerry’s proprietary financial management system Perspectives for High Performance (“PHP”) data shows that this metric has been steadily decreasing over the past five years — which sounds like great news, until the strong TCF growth rate is factored in. Our data shows that for the average agency, Non-Compensation Expenses have continued to increase, but at a slower rate than TCF. As TCF growth tapers in 2016 and beyond, we expect to see this line trend back upwards.

While evaluating Non-Compensation Expenses, it’s also important to look at the flip side — compensation costs. Compensation costs are on the rise across the board, and 2015 results* show the largest increases (over last year) were in agencies with net revenue of $20 million or less. Over the last five years, Non-Compensation Expenses have not increased as quickly as Compensation expenses. The bigger the gap between the two expense categories, the more opportunity for profit exists. The converse is true — if you increase one without keeping the other in check, the difference will have to come out of the bottom line. n*Trailing twelve months through September 30, 2015.

Non-Compensation ExpensesNon-Compensation Expenses as a Percentage of Total Commissions & Fees (TCF) is a key indicator to track agency expense management, as it tells you how much of your core revenue goes into non-personnel overhead costs. Within your agency, this ratio should decrease over time — which signals that you are able to achieve better efficiencies and economies of scale as your agency grows.

NON-COMPENSATION COSTS AS A PERCENTAGE OF TOTAL COMMISSION & FEES

of technology and make investments where possible. Understand market disruptions so you can steer ahead of the curve rather than riding the draft of leaders.

The MarshBerry Market & Financial Outlook report is a valuable tool for firms to understand market forces and to use as a foundation for business decisions. The industry is saying people and technology are the greatest hurdles—and we believe these factors also represent a significant opportunity for success. n

GROWTH RATE OF COMPENSATION VS. NON-COMPENSATION EXPENSES IN RELATION

TO PROFITABILITY

*Trailing twelve months through September 30, 2015.Source: MarshBerry’s Perspectives for High Performance

*Trailing twelve months through September 30, 2015.Source: MarshBerry’s Perspectives for High Performance

MarshBerry’s 2016 Market & Financial Overview report

is now available. Learn more at www.MarshBerry.com/

2016MarketFinancial


For the Record

There are certain building blocks that are fundamental to the long-term success and viability of an initiative. Just as water is a critical building block to the survival of most organisms, the producer can serve a similar role for small business units.

by Kyle Hoeft, Consultant 616.723.8428 | [email protected]

Small Business Unit The Mechanism That Drives a

Feeding The Service First ModelThe overall objective of a Small Business Unit (SBU) with an insurance agency is to create a servicing process that is more automated, profitable, and scalable with a goal of retaining accounts, already written through the agency, that have fallen below a minimum account threshold. When executed properly a producer’s book can create an annual siphon of written accounts to be transitioned to the unit. An added benefit is that the minimum account threshold serves as an instrument to help producers avoid flat lining in book growth.

Selling Your Sales PeopleThis is what separates the best from the rest. Arguably the most significant challenge in building out a successful SBU is selling producers on the idea that taking money out of their wallet today will result in more money in their wallet tomorrow. Come again? The forward-thinking producers will voluntarily trade-down their accounts to the SBU, quickly grasping the concept that they are not the victim, instead, the beneficiary. The remaining producers will likely play the role of the victim, accusing management of cutting their pay for their own personal benefit. We believe that proactive management is the key to combating this reaction.

Proactive ManagementThe knee-jerk reaction by a majority of the producers will be one of negative consequence. How does this change adversely impact me? Effective communication is important at this stage. We recommend that management run a book of business stratification on each producer prior to introducing the SBU model and utilize various metrics to help each individual understand the benefit. We have found that producers are often unaware and uneducated about the stratification of their book of business. An agency cannot steadily grow top line revenue without producers consistently moving upstream in their book of business makeup. A concept often times lost on even the most experienced producers.

Benefits of a Small Business Unit1 Capacity Creation: In theory, increased capacity

equates to increased time to sell new business. On average, the bottom 40% of a producers accounts equate to less than five percent of their gross income. Trading down of accounts should be evaluated (and enforced) by management on an annual basis.

2 Client Satisfaction: “We exist because our clients do”. The level of attention, consistency, and automated nature of the SBU often provides a better experience for the customer and a greater chance to retain the client in the long-run. Source: MarshBerry Opinion & Experience


3 Improved Retention: This is a two-fold benefit. Retention on top accounts should improve as producers utilize increased capacity to build these relationships, cross-sell them, and find more of them. Retention on bottom tier accounts should also improve because they generally receive an increased level of attention from dedicated individual(s) in the SBU.

4 Growth/Rate/Exposure: Accounts that grow above the minimum account threshold and out of the SBU can be assigned to a producer at full renewal.

5 Compensation: Best practices suggest that producers should receive the full new business split for writing an account below the minimum account threshold, for the first year only. No renewal. This will align their interest with the agency.

6 Aligned Interests: For established producers, the time, effort, and energy to write a small account can seem like a burden. Under the SBU model, the producer can write the account and hand it off to the SBU without restricting capacity.

Book of Business Stratification Metricsn Average Account Sizen New Business Generationn % of Accounts Under the

Minimum Account Thresholdn Dollar ($) Impact on W-2 from

Transitioned Accountsn Average Number of Accounts

per Production Person

All too often agencies make excessive exceptions in keeping small accounts in a producer’s book. Exceptions by definition are not the rule.

Let’s assume the average producer has 200 accounts. By transitioning the bottom 20% (40 accounts) to the SBU the producer has the capacity to write fewer accounts at a larger average account size, which is a win-win. Once accounts have entered the SBU, producers still have the opportunity to cross-sell and grow them above the minimum account threshold.

Where Do You Stand?1 Have you created a book of business stratification for each producer that shows where each account ranks in the

hierarchy of commissions? 2 Have you communicated this stratification to each producer and visually helped them understand the impact on their

compensation and benefits of the SBU? 3 Is your agency committed to annually trading down producer accounts into the SBU each and every year?

If you can emphatically answer “yes!” to all of the questions above, you are well on your way to establishing a mechanism that can help drive your SBU. nSecurities offered through MarshBerry Capital, Inc., Member FINRA Member SIPC and an affiliate of Marsh, Berry & Company, Inc., 28601 Chagrin Blvd., Suite 400, Woodmere, Ohio 44122 440.354.3230.

CL CUSTOMERS PER CL PRODUCTION PERSON

CL = Commercial Lines

“Average” is the average of all agencies in the database, while “Best 25%” is the best 25% of the average performance.

Source: MarshBerry’s Perspectives for High Performance

Private equity-backed buyers in the insurance distribution space have ramped up and multiplied incredibly over the last eight years, making up 46% (212) of total deals in 2015 compared to 7% (19) in all of 2007 with a buyer count of 17 today compared to just five in 2007. Over the last nine years the number of acquisitions by private equity backed buyers has grown at a compounded annual growth rate of 35%.

The question that remains — will the private equity backed buyers continue to acquire at this frenetic pace? Looking at private equity funds that have historically invested in the brokerage space, current data shows that since 2007 these investors have stockpiled $139.3 billion in cash reserves that ultimately needs to be deployed and could potentially be deployed to the insurance broker space.1 In addition, five private equity backed buyers recapitalized in 2015, meaning the private equity firm sold their ownership interest to another private equity firm. The recapitalizations we’ve seen over the past seven years have typically allowed for selling private equity firms to capitalize on high valuations, new private equity investors to get into the insurance brokerage market, or back into in most cases, and gave prior independent agency owners that sold to the private equity backed firms another bite of the apple, assuming they received and/or bought stock in their deal, by sharing in the increased valuation of the firm. The five recapitalizations in 2015 were no different. Those agencies include AssuredPartners, Inc., Risk Strategies Company, Inc., Alliant Insurance Services, Inc., Integro, Ltd., and Hilb Group, LLC.


Dealmaker’s Dialogue

The Riseof Private Equity-Backed

Buyersby Molly Connell, Senior Consultant440.392.6584 | [email protected]

Source: SNL Financial, Insurance Journal, and other publicly available sourcesAll transactions in this presentation are announced deals involving private equity groups. All targets are U.S. only. MarshBerry estimates that only 15%-30% of all transactions are actually made public. Past performance is not necessarily indicative of future results. This chart shows only those deals completed by agencies/brokers with external sources of funding. Deals completed prior to or subsequent to private equity investment are not included.

PRIVATE EQUITY BACKED BUYERS ANNOUNCED U.S. TRANSACTIONS

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We believe that both the level of dry powder and the recapitalization activity in 2015 are strong indicators that capital is prevalent and interest remains high in the insurance brokerage space. However, according to PitchBook PE and VC News, during the third quarter of 2015, the broader private equity market saw deal counts slide to the lowest level since the second quarter of 2013. Over the same time period, capital invested (outside of two outlier deals) declined to its lowest level. Buyers have reported that deal pricing is too rich for their taste and as a result, third quarter 2015 private equity deal volume was down 18% relative to second quarter 2015 and 30% on a yearly basis. At least for the broader private equity market, risk averse behavior seems to be entering the market, in turn driving counts, capital invested and values lower.2

Is the insurance industry immune? Only time will tell. However, looking back over the last 23 quarters, the private equity backed buyer deal volume activity in the insurance industry has consistently mirrored the broader private equity market. Furthermore, with the first interest rate increase by the Federal Reserve made in December 2015, 14 months after the end of the bond- buying program known as Quantitative Easing, and debt leverage ratios on the decline, assuming that private equity buyers will not allow returns to decrease. We believe that valuations will likely suffer. n1 PitchBook U.S. PE Breakdown 4Q 2015. 2 Ibid.

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Log on to www.MarshBerry.com to register for events and to view all MarshBerry news and events.

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BANK/TASCThis year, the Spring Summit is being held March 6 – 8 at the Ritz-Carlton in Dallas, Texas. Register online today at: TBDMarshBerry’s Peer Exchange Networks are exclusive forums for communication among executives from qualified agencies selected for partnership. Our networks provide a unique opportunity to confidentially discuss common issues, exchange successful operating strategies, uncover solutions and develop action plans in an effort to help each other improve performance and grow, as well as access to a wealth of MarshBerry knowledge, systems and perspectives.

Interested in learning more about our Peer Exchange Networks? Contact Tommy McDonald today at [email protected]

Documents

Taking Stock...that point.) You can continue on autopilot, or evolve by taking stock of your people and technology to compete in today’s dynamic economy. Findings from the 30th Annual