Enterprise Building Through Reinsurance

“Yesterday’s home runs don’t win today’s games.” – Babe Ruth

For the independent agency, today’s franchised dealership marketplace is changing rapidly. Large dealer groups are buying up stores nationwide, and other dealers are seeking to expand their number of stores. Even with many dealers reaching the age of implementing their exit strategies, there are fewer franchised stores available than in the pre-recession years.

Just a decade ago, an agency could be considered very successful by having a group of 6-10 loyal long-term dealer clients. Today’s ownership changes present the agency with new challenges. More than ever, a few changes of ownership in the agency’s client base can be the difference between prosperity and hanging on for survival.

Building an Enterprise - Why it Matters

An enterprise is a business with built-in long-term value for the owners, clients, associates, vendors and potential investors.

The truly entrepreneurial agency principal must look beyond the value of the income generated by loyal clients and toward adding to the value of the agency enterprise itself. The reasons for this are three-fold:

1. To build an enterprise that relies on more than just a few key personnel and their interpersonal skills
2. To create a business that has the human, procedural and capital resources to serve dealers more comprehensively in a more competitive environment
3. To lay the foundation of an exit strategy for the agency principal by becoming, beyond goodwill relationships, a company that has value in the investor marketplace

None of us are getting any younger but it is never too late to add value to the agency. Building the agency into an enterprise is a “today” priority. It is not unreasonable to project that just as consolidation is occurring among franchised dealerships, the same will happen to independent agencies.

To profit from this trend an agency must grow in many ways, but the scope of this article is to focus on the value of delivering a premier reinsurance program to the dealer and how that redefines the role of the agent. Once those two aspects are embraced the agency can build its value in other ways to attract new dealer clients and even new partners, investors or buyers.

Our premise is that dealers want solutions that deliver the most income to the dealership and financial success to the owner personally. The latter is the goal of any businessperson. This common-sense premise puts the dealer’s interests first as the best strategy for building the agency’s value. It is about becoming a partner - not just a provider.

Franchised dealers are seeing many of their traditional sources of profit being reduced - finance reserve, new car sales margins and service drive competition, to name a few. More than any other single decision today, a first class reinsurance program enables the dealer to generate more income in the dealership while building a new personal wealth asset outside the dealership.

I was once a Chevrolet dealer, and many people in my company are former dealers or GMs, so we see participation programs as about the dealer having the same profit opportunities, or risks, as those traditionally taken by the factories, big insurers, or income development companies and administrators with their own products. We have seen how much they wanted the dealership’s business, so we have always known there were significant underwriting profits in the risks associated with VSCs, GAP and ancillary products. We believe these providers will never be satisfied with straightforward fees only and their programs will be designed to give the fewest benefits possible to the dealer.

My company’s approach to reinsurance is based on giving the dealer every available benefit. This strategy colors the entire philosophy of my company and the agencies that represent our program, as well as this article’s theme of how a great reinsurance program can transform an independent agency from a vendor into a partner.

Reinsurance is much more than the “back-end benefit” to a retail product sale as it has been presented over the years. It is a fundamental success strategy for the dealer. For that reason the agency must, as a true partner, become an expert on what competing reinsurance and participation programs deliver.

“The man who will use his skill and constructive imagination to see how much he can give for a dollar, instead of how little he can give for a dollar, is bound to succeed.” – Henry Ford

The Elements of Reinsurance Expertise

Participation programs are broadly accepted by dealers. Over 70% are in some sort of participation program, from what amounts to retros to legally defined reinsurance structures such as CFC, NCFC, or DOWC. For this reason, odds are, a dealer prospect and professional advisors such as CPAs and attorneys feel as if they are knowledgeable. But, the partner agency must know even more.

Let’s break this knowledge base down into 6 categories:

1. Structure and ownership
2. The money structure - fees and costs
3. Rates, profitability and risk management
4. Premium flow and trust accounts
5. Profits and taxes
6. Products and income development

The documents that a provider gives the dealer after signing up are the agency’s best source for utilizing this knowledge. When assessing a reinsurance or participation program for your dealer, do not begin until you have all the agreements and proposals that describe that program. The things in writing are more important than what someone says.

Structure and Ownership

Whether CFC, NCFC, DOWC or other, the key question is, “Which structure best supports the dealer’s goals to create the most wealth?” That’s why the dealer is in business.

Wealth is the tangible power and the control to get things done. It is not just measurable dollar wealth in the participation entity. Wealth is the power and control to do what is needed in F&I, the service department, store remodeling or elsewhere in the dealership. Wealth helps manage employees and incentivize key managers. Wealth empowers the dealer owner to meet personal goals and obligations to family, community, and his or her future concerns, such as an exit strategy and retirement.

Thus, the partner agency should engage the existing or prospective dealer client to uncover these fundamental needs and goals and then apply that knowledge in finding the best structure to deliver that control.

The Money Structure

Becoming knowledgeable about fees and costs associated with all programs is the single most important skill the partner agent can bring to the table. These things are not always readily transparent. The partner agency must put in the homework hours to be a credible advisor to the dealer, but we have come up with two shorthand questions that cut to the heart of the matter. The dealer should ask any competitor the following questions:

“If I remit $XXXX, how much goes into my account?”

“If a claim costs $XXXX, how much is taken out of my account?”

The answer goes a long way to making the fine print of many dealer agreements transparent. So does an answer that evades the question.

Rates, Profitability, and Risk Management

Unlike the adversarial days of the walkaway contract, when a dealer owns or participates in the underwriting profits, the lowest rate is not necessarily the best rate. For all products, the question becomes balancing out saleability in F&I, the dealership commission structure, and underwriting profits. A premier reinsurance program should provide flexible strategies for setting rates.

You cannot manage what you can’t measure. Risk management requires measuring how much, when and why of all F&I products’ performance through the expiration of each contract. Reporting on production and the flow of premium into and claims costs out of the reinsurance company must be timely, comprehensive and easy to understand.

A good report will start by summarizing the overall financial status of the reinsurance company or participation entity and then provide the layers of drill-down data upon which the big picture is built. It must be simple to understand. If a provider’s reports require the dealer to be a CPA or actuarial data analyst, it is not a user-friendly management tool and may be obfuscating what a dealer should know.

No matter the quality of the reports, a true partner agent will review them in person with the dealer-owner to deliver added value to the relationship. If action is needed to, for example, adjust rates, product mix, or service drive practices, then this is the best time to get a decision from the top.

Premium Flow and Trust Accounts

Dealer participation in underwriting profits is based on the taking of risk, therefore they have to understand how the reserves are performing and therefore, they must have access to the account where the funds are held. If that participation entity is a true dealer-owned reinsurance company, the dealer’s rights of ownership demand that the dealer know everything about the account.

• Where the funds are held, and who decides that?
• Who controls access to the account?
• What investments are allowed, and what control does the dealer have?
• Are loans from the unearned premium allowed as investments? Or can the dealer owner only borrow surplus (earned profits)? Loans are an asset of all insurance companies, if properly structured and administered.
• After the remittance is received by the program manager, when is it funded?

This last question is indicative of the program manager’s view of the dealer as a true owner. Slow funding - more than a week or two - is evidence that the program regards the remittances as their money, and is probably a strategy to earn some of the time value of that money. This is a hidden cost to dealers because they lose investment income during that time.

Many participation and reinsurance programs do not give the dealer clear answers and control on these matters. They seem to treat the dealer as a junior partner, rather than the sole source of premiums and the risk-taker.

Profits and Taxes

The amount and timing of profits distributed to the dealer owner varies greatly depending on the structure of the participation entity. This is a key question for the dealer whose underlying business goal is, of course, to predictably and sustainably receive the maximum possible income. The agency’s best relationship-building strategy is to know how each structure answers the following:

• When can profits be taken?
• Who makes the decision to take out profits?
• Who are they paid to? (third-party, dealership or dealer- owner?)
• How are distributions taxed?

Legally constituted reinsurance companies are taxed under the special federal tax code for all insurance companies. There are some advantages under that code, regarding unearned premium and investment income. Other participation structures, such as retros and overrides, do not offer this advantage.

The important thing for the agent to know is that they are not a tax expert or licensed advisor, but are there to advise their dealer on a program’s earning potential. The structure and its tax consequences must be considered. Therefore, the agent must be familiar with the taxes incurred by CFCs, NCFCs, DOWCs, retros and other participation structures. The agent’s job is to deliver profits, for without profits to the dealer’s company tax issues are irrelevant.

Products and the Role of Income Development

Many of us have long seen ourselves as delivering products for the F&I department to sell and simply earn a commission from each sale. Our job was to address claims, rates, point-of-sale materials and exceptions. Participation in the underwriting profits was simply a way to sweeten the deal. Years ago, even I thought Portfolio was simply a VSC and ancillary product provider dedicated to the reinsurance model.

Then I realized that our identity was not really based on the facts. Many of our dealers had a reinsurance company worth as much or more than their dealership. A Portfolio reinsurance company owned by the dealer really meant we were in the business of managing the dealer’s company for profit.

VSCs, GAP, and other products are as important for delivering profitable premiums to the dealer’s company as for the mark up commissions earned up front in the dealership. They are interwoven needs. Underwriting profitability is increased because more products’ premiums go into the dealer’s company. A diverse product mix helps stabilize this profit opportunity.

With this in mind, today’s agency must offer all products to find the best fit for these interwoven needs of the dealer – what will allow maximum sales and profits. These include all types and configurations of VSCs, GAP, limited and CPO warranties, theft protection, maintenance, lease protection and many others. It’s about the best fit for the local market and the dealer’s goals. Done conscientiously, the agency will earn all the dealer’s business and keep competitors out.

It goes beyond simply installing the products. Today the dealer expects the agency to not only provide a premier reinsurance structure but to do the income development with key personnel in the dealership to create healthy profits for both the dealership and the reinsurance company. Genuine income development expertise requires that the agency not be a “yes-man” to the loudest voices in the dealership, but strategically works with the dealer owner to create, adapt and sustain what works best.

I believe, that addressing all aspects of income development builds a secure future for the independent agency. An agency builds its enterprise by helping dealers build their’s. The agency’s role is to be the most valuable partner to the franchised dealer’s enterprise in the stores, as well as help in the dealer’s ultimate goal of becoming personally financially successful through wealth building. Reinsurance alone is not the magic bullet.

Today’s franchised dealer’s rapidly changing and challenging business reality is marked by less help and more pressure from the factories, plus competition for factory franchises. Other companies seek to prey on this for their own benefit. The best agency enterprise-building starting point is recognizing that there is an ultimate decision-maker in every dealership - a human being with personal goals and interests. The potential is there for the true partner independent agency to become even more valuable to the dealers than the factories.

"But to be entrepreneurial, an enterprise has to have special characteristics over and above being new and small. Indeed, entrepreneurs are a minority among new businesses.

They create something new, something different; they change or transmute values." - Peter Drucker