Has regulation halved the value of your business?

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Just this morning I heard two comments about the value of client bases. One was from a commentator who told a broker that whatever he paid for a client base last year - the value today was ‘half'.

Tuesday, November 23rd 2010, 2:49PM 4 Comments

by Russell Hutchinson

I always reckon that the right price for an asset is the one that clears the market: that means the price at which willing buyers and willing sellers will do a deal. So, I actually keep tabs on the prices of client bases for valuation work that we do. A couple of calls had yielded some recent transaction figures. These were multiples of renewals for life and personal lines books. The range was 2.9 to 3.7 for life client bases, and one was ‘just under two' for a book that was ‘mainly health insurance'. Those are not as high as they have been. The peak was just before the global financial crisis. There is a reason for that: most of these books of business are bought with credit lines repaid from the renewal income stream and additional new business commission. Reduced availability of credit has crimped the sales value for several years now. The prices are actually a touch higher than they were at the depths of that crisis - but still not super-duper.

So let's return to the question of whether regulation has halved the value of these books. Well, it may have pushed a few more on to the market, which will push prices down. If a life adviser has to spend $3,000 more each year to stay compliant then this has to be brought into the cashflow calculations. It will make him or her more willing to sell, and the minimum price is now determined by the renewals from the book - minus the fixed cost of doing business - multiplied by the discount rate. So it has had an effect. But given that the average book of renewals is about $30,000 p.a. the additional fixed cost can only depress the value by about 10% - not half.

For the buyer credit conditions are improving. The buyer isn't taking on any additional fixed cost. Neither are they subject to any of the advice risks in the book - it wasn't them that gave the advice. The equation for them remains the same. Even if they buy a $30,000 book at about 3 times, with a retention rate of only 80% the internal rate of return is about 13%. Gain a few good new business cases from the book and you are doing okay. For those advisers operating as RFAs with mainly life books one thing remains true: the greatest effect on the value of your business isn't regulation. Availability of credit has a greater effect, but that isn't the largest determinant. The big difference is always what you do.

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