Is a MBO the way to go?

There are growing numbers of brokers in private hands whose owners are reaching an age where they are looking to take a step back. However, while merger and acquisition (M&A) activity has increased across the insurance sector overall, there remains a sizeable portion of the UK market which is not of a scale to catch the eye of consolidators or private equity investors.

The answer, however, may be found internally as management teams can consider a management buyout (MBO), to deliver consistency as well as to allow the business owner to realise the organisation’s value.

Olly Laughton-Scott, founding partner at independent corporate advisory and insurance specialist IMAS, believes a MBO remains a real option for smaller businesses.

“The M&A activity has seen valuations increase and therefore it makes it more difficult because of the expectations of the departing shareholder,” he explained. “Those who are considering a MBO as an exit need to be prepared to stay on in the business for some time to hand over control in a staged way.

“The smaller brokers can be less attractive to the consolidators for a number of reasons. One can be the concentration of risk. Often, they may have two or three clients which account for a large proportion of their income and to the consolidators they do not want to run the risk of seeing those clients leave, particularly if their relationship with the broker was built with the vendor who is leaving the firm.

“In a MBO situation there is the opportunity for the vendor to remain with the firm and ensure there is a handover of those relationships over time.”

Capital questions

Laughton-Scott added that for management who are seeking to undertake the MBO, options for external finance are limited.

“Very often the vendor will have to value the broker and create an instrument which sees the value paid over time,” he explained. “A figure of £3m to £5m is too much to raise via family and friends and is too small for any private equity involvement, so the value has to be taken over a period of time.

“Banks are reluctant to become involved in the smaller end of the broking market because, in effect, the value is in a collection of people and their relationships.”

His view is supported by Tom Barford, associate director at accountancy and consultancy firm BDO. He said the number of MBOs remained few compared to M&A activity.

“We have not seen many at the larger end of the broking market,” he added. “For smaller brokers, there could be some support from insurers as they remain keen to work with brokers and those who operate on a fee basis remain attractive.

“For existing management who are looking at the MBO process, there is the question of attracting capital; there are some limited PE options, but that funding will come with an aggressive growth plan that will look to meet its exit horizon. They will not want to be in the company for an extended period.”

Barford added that brokers will remain under pressure as the number of companies looking to acquire brokers and intermediaries outweighs those that are considering an exit.

Extracting value

Ashwin Mistry, executive chairman of broker network Brokerbility, noted that MBOs are an option that should be seriously considered by brokers; four of his member firms have successfully carried out a MBO in the past three years.

“Product mix, location, relationships in the market are all factors that are being considered,” he explained. “We are seeing the large consolidators reaching out to all but the very small brokers. The smaller brokers are not viewed as cost effective due to the level of due diligence required.

“Other factors are the regulatory regime, the economic uncertainty, including Brexit, and the geopolitical risks that we face.

“There is the issue that with ongoing M&A activity there are some brokers who have an expectation on the multiples they can achieve; when the process is started, they discover that the value they have is different from that [which] the potential buyer is willing to pay. The reality is different from the theory.

“It is better for those who have been with you on the journey to look to deliver in-house succession as there are clear benefits.” 

Mistry added: “Insurers are re-examining their distribution strategies. They are willing to support brokers which undergo MBOs as they value the choice that brokers can bring at a time when numbers are contracting due to the growth of the consolidators.”

He said those who are seeking to leave their business are prepared to be flexible when it comes to how they extract the value from the business.

“Exiting shareholders are often happy to take their money over 24 to 36 months,” he noted. “Some look at a four year cash payment and will stay involved in the business to ensure ongoing value. They will retain a role with the brokers to manage relationships over time, so those relationships can be retained within the firm.”

Mistry said it is 10 years since he and his team carried out a MBO of Brokerbility, which has seen the network grow from a team of 27 to now have more than 170 staff.

“We all had skin in the game in terms of putting in funds and we were aware of what we wanted to achieve and where we wanted to take [the business],” he added. “These new leaders have 20 years or more of their working life remaining and, as such, have an energy in where they want to take the business.”