Chapter 9 Flashcards
Brokerage Financial Management
Define profit maximization.
The concept that the more profit, the better. The ultimate goal is long-term, sustainable financial success. Investors and principals tend to concentrate on short term profits.
Identify two ways to value a brokerage.
Multiples of Commissions
Multiples of Earnings
Explain the primary disadvantage of valuation by multiples of commissions.
The most common method. Disadvantage: A highly profitable and an unprofitable brokerage may be given the same value.
What are the main three considerations for valuation?
Financial Information
Nature of Business Operations
Other Factors
Identify three components of financial information.
Balance Sheet Items
Income Statement Forms
Other Financial Items
What is identified on a balance sheet?
Assets - Cash & Short term investments, accounts receivable, other assets (modern technology, well maintained facilities, equipment, workstations)
Liabilities - Accounts payable, taxes payable, mortgage
Shareholders Equity - The owners equity represents the balancing item in the balance sheet. Assets = liabilities + owners equity.
What is identified on an income statements?
Revenue - Commissions, investment income, other income (real estate commissions)
Expenses - Salary & benefits, operating expenses
What other financial items should be considered in a valuation?
Cash Flow - Receivables over 60 days may represent bad debts. Large amounts of cash available early on is ideal
Billings - The fewer billings, the better, as the cost to bill a client is approximately the same no matter the size.
Tax Impact - Maximize certain expenses for fringe benefits.
Describe what is meant by the nature of business operations with respect to a valuation and why it is important to a prospective buying.
The way it is legally and operationally organized has an effect on value.
Procedures and technology must be compatible.
Geographic representation may be an important factor in the purchase.
What considerations should be given to operations by a prospective buyer?
Companies Represented - Which insurers and the relations with them.
Type of Billings - Direct billing vs. Agency billing.
Relationships with Clients - High retention ratio
Business Mix - Type and mix of business, or volume of a specific line of business.
What other considerations should be given to the brokerage by a prospective buyer?
Quality of Employees - Education, training, production
New Business Potential - Single-policy clients, growing community
Loss Ratio
Errors & Omissions Claims - As a percentage of commission
Market Conditions - Soft market has more potential for new business, hard market makes breaking into the business difficult, therefore a better time to sell
What are the three components to a financial management cycle?
Budgeting - AKA Profit Plans. Anticipate income flow and expense outlays, resulting in a prediction for profitability
Classifying Financial Information - Segmenting income and expenses by type (commission, fees) and source (personal lines, commercial lines) to identify patterns
Making Comparisons - Determine level of effectiveness. Variances should trigger an investigation.
Explain four commission revenue variables?
Retention - Percentage of clients who renew
Rates - Soft market; rate fall, Hard market; rates rise
Cross-selling - How well coverage was sold at inception
New Clients - Some will lapse, must have a new business development strategy.
Identify four income management procedures.
Trust Fund Regulations
Commission Reserve Accounts
Internal Cash Controls
Accounts Receivable
Explain Trust Fund Regulations and why they are important.
The brokerage has an interest in commission, premium is due to company. Some provinces require a separate account, some allow the brokerage to use these monies for their operations. Using the funds is risky as funds are tied up. A slowdown in sales can render the brokerage unable to pay the insurance companies. Some broker contracts may prohibit the use of premiums by the broker.
