EBITDA for Insurance Agencies: What It Is and Why It Matters

There's a big difference between your agency's net income and your EBITDA, and independent insurance agencies need to know the difference. Net income is the number that tells you what your agency earned after your tax strategy, your debt, your auto lease, and your country club membership all took their turn. It doesn't show what the agency earns on only what it needs to operate, without all of the additional fluff. We refer to this as EBITDA, or the agency's operating profit. EBITDA is the number that matters when you're deciding whether you can afford a producer, whether your expenses are out of line, or what your agency is worth to somebody else. Most owners have never calculated it on their own books. Your raw P&L won't be able to give you this number, but we can show you how.

What is EBITDA for an insurance agency?

EBITDA stands for earnings before interest, taxes, depreciation, and amortization. Simply put, EBITDA is the operating profit of the agency that strips out those four metrics (interest, taxes, depreciation, and amortization) to show what the agency itself produces, before financing choices and accounting choices get layered on top.

We look at EBITDA for a couple of reasons, but to summarize them all, it’s because it strips out the decisions that have nothing to do with how well the agency runs.

• Taxes vary by state and by how aggressive an owner's strategy is, so pulling them out puts a Florida agency and an Ohio agency on the same footing.
• Interest comes out because one owner borrowed to buy a book and another paid cash, and that's a financing choice, not an operating result.
• Depreciation and amortization come out because they're accounting timing, especially amortization on purchased books, which can swamp the P&L of an agency that grew by acquisition while an organic grower shows none of it.
• Adjustments are made on top of that for what's personal or one-time.

What's left is what the agency itself earns, which is the number you can compare to peers, hand to a lender, and multiply. Adjusted EBITDA is what your agency earns after someone strips out the expenses that belong to you personally and the expenses that happened once and won't happen again. That's the number that gets compared to other agencies. That's the number that gets multiplied.

Your expense categories don't match anyone else's

We perform Group Benchmarking, where we give each agency a report that compares them to industry benchmarks for their size as well as the other agencies in the group. When we do this, our team goes through every set of financials so that the comparisons are accurately compared to one another.

Since all agencies are their own independent companies, you can classify items however you choose. When it comes to comparing to other companies, it makes the process challenging. One agency may put their AMS expense into “IT Expense” while another puts it in “Dues & Subscriptions” and a third puts it into some other category.

Agencies aren't mis-categorizing things out of carelessness. They’re categorizing expenses the way they think about them. The only problem is, it’s also where the comparison falls apart. An owner who looks at dues and subscriptions sees a number that seems way too high and says, “That can't be right; I don't spend that much on dues”. They're correct, but we’re able to give them clarity into what’s in that category compared to other agencies.

Here's a test that works whether or not you ever get benchmarked. If you handed your financials to someone outside your agency, could they find your total technology spend? For most agencies, the answer is no, because technology is sitting in this account and that account, and that second account isn't all technology either.

Would the next owner keep paying for this?

Discretionary expenses are the ones your business is carrying that a different owner wouldn't. Some common examples of discretionary expenses for an agency include Country club memberships, travel or luxury travel, entertainment spend (season tickets, restaurant spend, ect). Almost every agency we have ever worked with has had some type of discretionary expenses that we have taken out. An expense can be completely legitimate for tax purposes and still come out of your EBITDA. Optimizing for taxes and looking at the operating profit of the agency are two different questions.

Only looking at agency financials with discretionary items included hides the true ability for the agency to reinvest. Many times agencies will tell our team that they don’t have the money to invest in a new producer, marketing program or technology that will help take them to their goal of being at the next level, but they’re missing the fact that they do.

For a full breakdown of discretionary expenses including examples, listen to Business Refocused Episode “What is EBITDA”

The one-time expenses hiding in your three-year trend

We look at three years of expenses by category, so the peaks and valleys show up fast. Then the only question is what caused the peak.

It can be many different things, like a rebrand, new website, management system conversion, including the data migration and the feed, which is the kind of expense you should be having roughly never.

Other common one-timers:

• Large equipment purchases another agency would have capitalized, like a full round of computers
• Building repairs, roof work, anything structural
• Severance pay, which stops being an expense the day the last check clears
• A marketing tactic you tried once and abandoned
• Any subscription you cancelled mid-year and didn't replace

Small stuff stays, nobody's pulling out your Best Buy charges. The point is to stop looking at a spending level you're never going to spend again and treating it like your baseline.

What to do about it

Put three years of P&Ls side by side by category. The actual categories, not a summary. Circle every peak. Write down what caused each one. If you can't name the cause, that's the first thing to go find out.

Run the next-owner test on four lines: dues and subscriptions, travel, auto, and meals and entertainment. For each item, ask whether a different owner could reduce or cancel it. Every yes comes out of your EBITDA calculation.

Fix your chart of accounts so technology sits in technology. Then hand your P&L to someone who doesn't work in your agency and ask them to find your total technology spend. If they can't, you've found your next bookkeeping project.

Separate capital purchases from operating expenses going forward, so you don't have to reconstruct it later and neither does anyone valuing your agency.

The number you can defend

Net income on your P&L is a real number, and it answers a real question. It just isn't the question you're asking when you want to know how your operation is performing or what it's worth. That answer lives one layer down, in the adjustments.

You can get partway there yourself with three years of statements. When the number actually matters, because you're selling, buying, adding a partner, or planning a perpetuation, get an agency valuation or agency health check built on adjusted numbers instead of an estimate.