Credit providers have become increasingly focused on understanding what drives behaviour and credit risk in specific industries, and will set lending policies accordingly.
There are now a number of established policy guidelines across traditional service industries such as Real Estate Agencies, Financial Planning, Finance Broking, Insurance, Legal Practises and Accounting Firms.
If you are involved in these industries, funding growth via acquisitions or expansion, or to help in succession planning, is a viable option to explore.
SMEs in the Insurance Broking industry primarily specialise in risk management. They act on behalf of their clients and provide advice in the insuring of a range of assets and risks.
Accordingly to IBIS World data, there are around 5,700 businesses in the industry with combined Revenue around $16 Billion and circa 22,500 staff. The industry has grown substantially in recent years. Along with the strength of asset prices, the availability of credit and other demand-led factors have seen valuations of these practices climb materially.
Like other professional service firms, these businesses often have excess capacity and are chasing a better recovery of fixed overhead costs. Often, they may need to acquire new people to meet growing demand for services.
Banks have grown their appetite for lending to Insurance businesses. Historically, this has been based on the nature of recurring revenues through their commission revenue, which builds confidence in the continued ability to service debt.
The major lenders in this category are Macquarie, Judo, ANZ and NAB.
Insurance Broking practices have a history of consistent revenue flows. Therefore, success in managing money and debt typically embraces the following strategies.
- Match the loan term to the period in which benefits are generated
This is always true for acquisitions or expansion in this sector. The benefit generated by the acquisition is unlikely to sustain forever, despite good management. A longer-term P&I facility is usually a better option than an interest-only term, followed by aggressive amortisation.
- Consider the security profile and how its links to credit terms
One of the positive things about borrowing in Professional Services, is the ability to borrow without tangible security such as property or varying levels of guarantees etc. However, make sure the nature of the security provided fits the resultant impact on price and/or terms.
Lender philosophy has advanced in assessing professional services firms, including Insurance Broking.
Typically, this is based on a percentage of the valuation, which historically focuses on the recurring commission and fee income. Financiers will consider the strength of other cash flow, but the quality of customers remains the critical factor.
When talking with the bank, it is important to determine what the actual income is to use for loan servicing. EBITDA is the most familiar measure, but what about adjusting for a market salary for the owners? When putting in a market value of the Owners' contribution, this can change this number materially. This is what we call EBITDAO.
Once the income is normalised, borrowing limits are generally based on the following guides:
1) Maximum loan amount to be less than around 2.75 - 3.5 times EBITDAO and up to 3.75 for some scenarios
2) Interest Cover Ratio (ICR) of more than 2.50 times
3) Maximum loan amount to be less than 60-70% of independent valuation on average
Lastly, it is not just the size of the Revenue/Earnings but the quality of it that is important. The latter will drive the attractiveness for both lenders and prospective buyers.
Our Professional Services Industry Lending Guide can provide more insights.