D I V O R C E
BUT WHAT IF SOMEONE ELSE'S DIVORCE AFFECTS YOU???
Divorce is a difficult subject to address regarding insurance agents - or for any businessperson in a stable relationship. We don't want it to happen. We don't expect it to happen. When it happens, the emotional results are rarely good for anyone - but the financial results are sometimes devastating to the divorcee business owner.
Even if we assume that it will never happen to you, can you assume it will never happen to YOUR PARTNER or to any minority shareholder in your firm??
Although you may be fortunate to have a sound marriage that will never end; the devastation of a divorce can be just as harmful to an innocent partner in an agency as it is for the unfortunate divorcee.
Citing examples is easy for a consultant who has been in the field for over 40 years:
- Agencies that had to be sold to pay for the divorce settlement,
- Partners forced to buy out viable agency stockholders,
- Financial devastation for divorcing owners who won't or can't sell their agencies but must still sponsor a large settlement due to the value of the agency and its goodwill,
- And there are a few situations of owners who couldn't handle the emotional strain and took extreme and unwarranted actions.
And even when some or all of these situations are avoided, the loss of attention to a business when a marriage breaks up is devastating, in itself.
We cannot soften the financial or emotional blow of a divorce. Whether you are the male or female partner involved, whether you caused the situation or someone else did, and even those situations where no one is "at fault" -- divorces often start amicable, but rarely end that way. And while we can't ameliorate the results of a divorce, we can prepare an agency to minimize the ramifications of any potential divorce situation by taking appropriate steps in structuring the owners' agreements and by valuing the agency and its goodwill long before a divorce situation (or any other test of an ownership cash-out) can happen.
Here's the rule:
EVERY AGENCY THAT HAS MULTIPLE OWNERS MUST ESTABLISH A VALUE, INCLUSIVE OF GOODWILL VALUE PRIOR TO ANY POTENTIAL NEED FOR IT!!!
And while a Pre-Nuptial Agreement in a marriage can cause friction because it implies that one partner or the other might eventually want a separation, an organization's Ownership Agreement is less threatening because it protects both the organization AND the owners from actions by partners or by third parties that impact the partners or owners.
These two components (an agreement that specifies what happens to the stock, how it is valued and how goodwill is treated in the event that ANY owner is divorced, and the current and valuation process for the agency (to show anyone that it is objective and a regular event - not just because of a divorce) resolve any issues related to subjectivity or valuation methods that might arise as the result of the influence of a marital partner or his/her attorney at any time in the future.
The principal issue that must be addressed is the Goodwill treatment of the agency value. Personal Goodwill as a predominant feature of an agency means that the agency value is minimal without the participation of its owners. Practices that are primarily Personal Goodwill oriented include many law firms, accountant's practices and doctors. If the principal was to leave or die, the practice would dissolve quickly and the loyalty of the clients relates to the professional expertise of the individual instead of to the business.
The reverse of that is Enterprise Goodwill most visibly represented in a business like a dry cleaner. In most cases, when a clientele is built by a cleaner, the relationship is one of convenience for the clients and, assuming no change to pricing or service levels, they will continue to frequent that establishment even if the ownership changed.
Insurance agencies may have personal goodwill, enterprise goodwill, or a mix depending on the rolls of the owners in customer retention, specialties that require owner participation and the extent of generic insurance products usually personal lines and small commercial lines that will stay with the agency regardless of movement of ownership.
Since the purpose of identification of Goodwill type and extent is important in the valuation of an agency, that determination is usually made during the valuation process. However, if an agency ownership agreement includes specifics about the requirements of sale of stock or valuation methods related to the potential need of a divorcing owner, it is appropriate to include wording regarding the degree of personal vs. enterprise goodwill appropriate to the agency under the specific conditions under which the agency operates.
But please remember that a sword cuts both ways. If you specify that the agency's goodwill is associated specifically with the expertise and efforts of its owners, that will be the treatment of goodwill in any subsequent valuations and may underestimate Fair Market Value of the agency in a sale that will allow owners to retire, that results from the death of owners, or for other reasons in which ownership changes include departure of current owners. The more Enterprise Goodwill in an agency, the more valuable it is when an ownership change occurs with the selling owners departing.
The best advice is to be realistic about your agency's goodwill. In many cases, we see agency's specifying that their personal lines and commercial lines comprise the agency's Enterprise Goodwill and that the specific clients coded to certain owners comprise the personal goodwill of those owners, without whom those clients would not remain with the agency. This can be stated generically in an Agreement and form the guidelines for treatment of agency value in the event of divorce without negating agency value in case of other ownership changes.
Call us at 800-779-2430 if you would like advice or a consultation to establish the proper agreement for your agency and, of course, to fulfill any valuation need