Episode 170

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It’s something we all dream about – retirement. Selling our agency for big bucks so we can sip Mai Tai’s on the beach. The agency’s name and reputation carrying on with another generation. Or just locking the door and calling it done. All are worthy ends for your shop.

Whatever your dream is – I know that it’s very personal and important to you and I want you to achieve it. But no matter which end game appeals to you, it requires some serious planning (up to a decade before depending on your exit strategy) before you’re ready to walk out the door for the last time. And you’ll need to run your agency differently in terms of how you handle the money and make other key decisions.

Bottom line – the end game is not something you can leave until the end. You’ll need to give it serious thought and as Stephen Covey has long implored us, “begin with the end in mind.”

It starts with some soul searching in terms of how, ideally, you want it to play out and what is possible or at least plausible. Once you’ve figured that out – you need to put your plan into action, so everything is in place when you’re transitioning out and the agency can survive that transition.

Over and over I see agency owners who started too late or didn’t do the homework to build out the details and specificity they needed in their succession plan. That’s the perfect way to limit your options or force you to stick around longer than you want.

I don’t want that to happen to you. In this episode, we’ll take a close look at all of your options and the criteria for each. Hopefully, that will set you up to create a win for you, for your employees, and for potential buyers of your thriving agency.

 

 

What You Will Learn in This Episode:

  • Building your wealth while you still own your agency
  • Succession options for agency owners
  • Factors that affect the valuation of your agency when you go to sell
  • Why being a generalist decreases the value of your agency
  • The value of setting up sources of residual income outside your agency work
  • Different options if you want to sell your agency
  • How to have candid conversations with potential buyers of your agency
  • Why gifting shares of your agency to employees is a bad idea
  • Baking succession planning into partnership agreements
  • Why you need to go slow when considering merging with another agency

Drew McLellan is the CEO at Agency Management Institute. He has also owned and operated his own agency since 1995 and is still actively running the agency today. Drew’s unique vantage point as being both an agency owner and working with 250+ small- to mid-size agencies throughout the year gives him a unique perspective on running an agency today.

AMI works with agency owners by:

  • Leading agency owner peer groups
  • Offering workshops for owners and their leadership teams
  • Offering AE Bootcamps
  • Conducting individual agency owner coaching
  • Doing on-site consulting
  • Offering online courses in agency new business and account service

Because he works with those 250+ agencies every year — Drew has the unique opportunity to see the patterns and the habits (both good and bad) that happen over and over again. He has also written two books and been featured in The New York Times, Forbes, Entrepreneur Magazine, and Fortune Small Business. The Wall Street Journal called his blog “One of 10 blogs every entrepreneur should read.”

The Golden Nuggets:

“An agency owner should know how they want the game to end at least a decade before the agency owner is ready to step away.” - Drew McLellan Share on X “If the brand of the agency is too closely associated with the agency owner, it's not very sellable.” - Drew McLellan Share on X “Without a strong and realistic succession plan, you may be running your agency far longer than you intended to -- out of sheer economic necessity.”- Drew McLellan Share on X

 

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Ways to contact Drew McLellan:

Speaker 1: If you’re going to take the risk of running an agency, shouldn’t you get the benefits too? Welcome to Agency Management Institute’s Build a Better Agency Podcast. Now on our third year of bringing you insights on how small to mid-sized agencies survive and thrive in today’s market. We’ll show you how to grow and scale your business, attract and retain the best talent, make more money and keep more of what you make with 25 plus years of experience as both an agency owner and agency consultant, please welcome your host, Drew McLellan.

 
Drew McLellan: Hey everybody, Drew McLellan here from Build a Better Agency and Agency Management Institute. Thanks for joining us for another episode of Build a Better Agency. This is the kickoff episode of the year for us in terms of solo casts. So unlike most of my episodes where I bring a guest on and pick their brain on your behalf, this is an episode where it’s just you and me. And I want to talk to you about something that I want to plant inside your brain. And in particular I have been saving this episode for the start of the year because in January we think about, we talk about, hopefully we do some planning and I think there is a piece of planning that for most agency owners often gets either not done at all, or it gets done so late in the game that it’s not super helpful. So what I want to talk to you about is the end game. What is the plan?

 
  Stephen Covey has told us for many years that we should start with the end in mind. And honestly, I’m not sure that there is a more applicable situation than the end of your agency. And what I find over and over is most agency owners make some assumptions, some erroneous assumptions, or they wait too long to make some decisions and then begin to operate their business in alignment with those decisions. And what it does is it reduces your choices.

 
  I think that one of the most expensive mistakes that most agency owners make is that they don’t know, and when I say know, that’s probably “Know” but they don’t know how the end is going to play out. What they want for their agency when they are ready to retire. And that they don’t know that soon enough because knowing where you’re headed absolutely makes you decide different things at different times. And so today, what I want to talk about is that end game. I want to talk about all the different ways that you can exit your agency, the pros and cons of those.

 
  Because what I want to do is I just want you to start thinking about what matters to you. And I will tell you this, that this is as much an emotional decision for agency owners, as it is a financial decision for agency owners. How you feel about what happens to your agency after you are retired is very personal. And for some of you, it may really matter that the agency carries on or that the agency name carries on even. And for others of you, it’s more transactional that you’re fine with the agency not continuing after you retire as long as you get out of it what you want. There are no right or wrong answers here, and there is no judgment. I’m just going to lay out the whole framework of what’s possible and then have you decide where your agency fits.

 
  And in some cases, your agency may not fit in the option that you want. And so now you have time to build your agency to be something different so that you can have the desired outcome. So I believe that an agency owner should know, again, “Know”, how they want the game to end at least a decade, 10 years before the agency owner is ready to step away. And the reason why is because oftentimes it takes that long to prepare your agency. And we’ll talk in a minute about all the different ways that has to happen for that end game, whatever it may be.

 
  But I will tell you this, that here’s a truth about agency owners that I see every day. So many, many agency owners will misappropriately spend agency money. They will overspend on staff or overhead or spend money on everybody else and they shortchange themselves. They’re the ones who don’t take a paycheck, they’re the ones that don’t go on vacation, et cetera, et cetera, et cetera, all because they think there’s a big payout that’s going to come when they sell the agency. But the truth of the matter is, most agencies don’t sell at all. Most agency owners have not built something that is sellable.

 
  And so one of the underlying messages of this solo cast is, if that’s your decision, whether it’s a conscious decision or it’s just how it plays out, I want to make sure that you’re taking a lot of money out of the business while the business is active. Your business needs to serve as an ATM machine in terms of you making sure you’re making the appropriate amount of money as well, not just your team, so that whatever happens at the end, you’re fine. You really, really, really need to build your wealth while you still own the agency. And then however it plays out you’re going to be okay.

 
  But the reality is, most agencies don’t sell and it’s because they are not actually a buyable asset and we’re going to talk about that down the road in a minute. But the other truth is that most agencies sell for about half of what the owners believe that it’s worth. So when an owner enters into the process of beginning to think about selling their agency, they have a number in their head. And quite honestly, oftentimes, most of the time, your number is wrong. And it’s much bigger than what someone is actually going to pay for your business.

 
  The other reality if you sell your agency is, that it’s very, very rare that an agency gets sold where the buyer does not expect the agency owner to stick around for a while for transition, for biz dev, for easing the clients and the staff into new ownership, whatever that may be. So again, this is why it’s critical that you plan this out far enough in advance because by the time you’re ready to sell, you want out and you need to do this early enough that you have that two year window or so, where you can be the indentured servant to the new owner and help them ease the transition. And in most cases, because the buyout is an earn-out that you’re not going to get all your money up front in cash. You have a vested interest in the transition being smooth. And so you too want to stick around for a while to make sure it goes well.

 
  I will say that for many agency owners, this is emotionally really difficult because basically what you’re saying is, “This is my baby. I’ve built this for the last five years, 10 years, 25 years. It’s been in my family for 60 years, and now I’m going to hand you my baby, and I’m going to let you raise my baby. And I don’t get to vote anymore on bedtimes or curfews, or whether they eat sugar. I don’t get to weigh in on any of that anymore.” And for many agency owners, this is really difficult to be someone’s employee in the agency that you just ran for X number of years, super difficult. So you need to factor that in as well.

 
  So let’s talk about some succession options and what they look like for agency owners. Most agency owners as I said, really overestimate the value of their agency. And they’re very disappointed when they actually do a valuation. And this point I will make, and I will underline, and I will put in bold, if you’re going to do a valuation for your agency, you need a valuation CPA who understands our business. Do not go to your normal CPA, do not go to a M&A specialist who is a generalist, you need to talk to someone who specifically understands our business, because they’ll understand how to normalize your books, they’ll understand what the numbers mean. They are able to valuate accurately.

 
  So if you want to sell your agency for as much money as possible, it starts with having an accurate and good valuation for our industry. And for that, you cannot go to a generalist. So if you don’t know, if you’re at the point where you want a valuation and you don’t know a great valuation CPA that specializes in the agency business, shoot me an email because I will introduce you to a couple who are spectacular and it’s all they do all day is this kind of work specifically for agencies. They’ve been inside agencies, they’ve understood agencies for years, and they will help you get the most value out of your agency by having an accurate valuation.

 
  Let’s talk about the, in general terms, in layman’s terms, how this works. So you’re going to get a purchase price based on one of two factors. It’s either going to be a multiple of your pre-tax profit or EBITDA, or it’s going to be a percentage of your adjusted gross income. So if it’s your adjusted gross income and just a reminder for those of you who have not taken some of our courses or may not be familiar with that term, adjusted gross income is your gross billings, and then you subtract your cost of goods, and what’s left is the money that you actually can run the agency with. That’s your adjusted gross income. And out of that money comes your loaded salaries. So everything you pay your people both in terms of salary and benefits and then your overhead, and then the profit. So those are the three big buckets that AGI gets broken up into.

 
  Anyway, if it’s going to be a AGI percentage, typically right now, the highest I’ve seen is a 1.5. Here’s what they’re going to do, they’re going to take your AGI for the last five years, they’re going to drop the high and the low, and then they’re going to average the middle three. So let’s just say that your AGI average after they drop the high and the low is a million dollars. Then your purchase price is going to be typically, and we’ll talk about some of the factors that influence the percentages. But typically you’re going to get one times to 1.5 times that average AGI. So in this example, you would get anywhere from a million to 1,500,000.

 
  Or the other way that valuations are done in terms of purchase price is they look at your EBITDA. Again, they’re going to take your pre-tax profit or EBITDA before… They’re going to take five years. They’re going to lop off the high and the low, they’re going to average the three, and then there’s a multiplier. And that multiplier is right now going to be about anywhere from three times that EBITDA to seven times that EBITDA. And I’m going to walk you through the factors that influence whether it’s a three or a seven in a little bit. But that’s the basic factor that all agency purchases start with. We’re going to agree that we’re either going to buy it based on AGI or EBITDA, and then there’s this multiple.

 
  A typical buyout, no matter who buys you is that on average, you’re going to get anywhere from 10 to 30% down in cash. And then the other 70 to 90% is going to be paid out. If it’s paid out quickly, it’s going to be over three years. I’ve seen it go out as far as 10 years. I would say the average is five to seven years. So whatever the dollar amount you agree upon for the sale, you’re going to get that 10 to 30% upfront in cash. And then the rest of it’s an earn-out over time. And there’s always a factor in the equation that says, “If the agency tanks, that there are adjustments to what they owe you.” And by the way those adjustments always only go down. I’ve never seen a deal where if the agency grew super aggressively after you were gone, then all of a sudden you got more money.

 
  So there’s only downside to you as an agency owner on the performance adjustments. And oftentimes, as I said, the agency owner is working for the agency anywhere from a year to three years. I’ve never seen it go longer than three years. And I’ve often seen it where both parties wish it hadn’t been for as long as it was set in the contract, and sometimes that’s negotiated out. But oftentimes part of the buyout structure is salary is baked as salary because some agency owners post-sale are really more active in the agency than others. And so one of the things you want to do is mitigate taxes. And so you’re going to take your money out in a plethora of ways. And one of the ways that you’re going to take that out that is tax advantageous is a salary. So if you leave early, then you have to take it out in another way. So you have to factor that in as well.

 
  Here are some of the things that influence that multiplier, that four to 7%, three to 7%. First one is, how stable has the agency been? So is the profitability been pretty stable? Have the billings been relatively stable or on an upward trajectory? But how profitable have you been overall? So if you’ve had two great years, but before that you were in the tank the whole time, that’s going to influence your multiplier, obviously in a negative way.

 
  One of the other things that is a factor in the multiplier is your client mix. So do you have a gorilla that’s going to knock you down in the multiplier? Do you have a lot of long-term clients that’ll knock you up in the multiplier? Do you have no client that’s more than 15 or 20% of your AGI? Again, that’s better. So that would be an increase in the multiplier. Do you have signed contracts, annual contracts? Are you a project shop? All of those things are going to influence that scale of three to seven in one way or the other. So the more stable you appear, the more likely it is that clients are going to stick around, obviously. And the more that you couldn’t suffer a huge loss if one client goes away, all of those are going to influence that multiplier.

 
  Another key factor in deciding how much your agency is worth is your management team or your leadership team. How good are they? How stable are they? How long have they been in their roles? And how vital are you the owner in the leadership or management team? If you still play a critical day-to-day role, understand that that is going to be something that reduces the multiplier. What they’re hoping is that they can buy an intact business that could run whether you’re there or not. That’s the holy grail. Is that you could pluck the owner out and the agency would just continue on just like it always has been. That’s by the way, hardly ever the case. So I don’t care if you’re two FTEs or you’re 250 FTEs, odds are you still play a critical role in the agency. So somewhere on that scale of how critical you are and how strong the management team is in your absence, that all plays into the value of the agency.

 
  One of the other things that agencies are evaluated on is, your products. So if you’re a traditional agency, it might be on your creative, what awards have you won? If you’re an SEO agency, it might be the ROI that you’re delivering to clients and the reporting that shows how you demonstrate that. But it’s the marketplace’s perception of the value that you bring. So it’s really, how have you been recognized in one way or shape or form for being the best of the best?

 
  Another thing that adds to the multiplier is the narrowness of your niches. So if you’re a generalist, if you serve every butcher, baker and candlestick maker, that’s going to put you on the low end of the multiplier scale. If you are very narrowly niched in a couple of industries, and you are an established thought leader in those industries and you and your team speak at conferences and all of the things that we’ve talked about many times before, that’s going to increase the value of the agency.

 
  And then another factor is biz dev. So if you are still in the feast and famine model of biz dev, if you mostly grow the agency by referrals, if you don’t have a systemized process by which you fill the pipeline and work your sales funnel, that’s going to reduce the value of your agency. So these are all things, and you can hear now why I said it matters that you think about this for more than a decade, because odds are, you’re not delivering at an A plus in all of these categories today. It doesn’t mean you can’t focus on them and start to deliver on them, but sometimes there’s room for improvement here and you want to have time to make those improvements while you’re exploring how or when, or why you might want to sell.

 
  Another factor in the element of value, which you have no control over really other than opening up a satellite office is location. So some people believe, and it’s interesting because I’ve seen the opposite, but some people believe that an agency is more valuable if you’re in a major market. I’ve been involved in a lot of buy, sells and all of that with agencies that we work with. And I will tell you that I’ve seen very small agencies in very small markets that have a very specific niche or skill, get gobbled up and have a great multiplier. So location is not always a factor, but the more of a generalist you are, probably, the more important it is that you are in a major market.

 
  Let’s talk about succession planning and what I want you to think about before you begin down this path. And the first one is, and I said this before, but it is worth repeating. An agency owner needs to make his or her wealth while they are still working in the agency and they still own it. So you want to make sure that you are running the agency in a way that you are maximizing your salary, your dividends, how you use the profitability of your agency to get money out of the agency and start investing it in something else. And I don’t care if it’s real estate or a thoroughbred horses or… Whatever it is. Whatever your thing is. However you want to build wealth, investing, whatever. But don’t leave your money in the agency for too long. And another time we’ll talk about how much money you should leave in an agency.

 
  But my point is, your agency should be building and funding your wealth while you are still employed. Do not count on a payday that may never come. And for many agency owners, this is a really harsh reality that at some point in time, sort of slaps them in the face because they didn’t take the money out, they shortchanged themselves to pay everybody else. They allowed the agency to stay overstaffed rather than trimming down when they needed to. And as a result, the agency owner always took the short end of the stick.

 
  This is not what I want for you. This is not a good money strategy. You need to run your agency in terms of how you pay yourself as though you are not going to sell it for a dime. That the day you close the door is the day you stop getting money from that agency. That’s how you should think about it in terms of your own compensation so that no matter what happens, you and your family are fine. That’s what I want you to think about, all right? So do not count on a payday that may never come. Technically not about succession, but absolutely about succession planning.

 
  All right. Now what I want to do is I want to walk you through the different ways you can sell your agency, the different kinds of buyers and the pros and cons of that. But first, let’s take a quick break.

 
  Thanks for checking out this week’s episode of Build a Better Agency. I wanted to interrupt very quickly and just remind you that one of the services that AMI offers is our coaching packages, and it comes in a couple of different options. So you can do a remote coaching package where we would communicate with you over the phone or over a Zoom call, or we also do onsite consulting where we would actually come to your agency and work with you for a day or a period of days to solve a specific problem typically, that you’ve pre-identified and we’ve talked about on the phone. So if you’re interested in either of those, you might go over to the AMI website and under the consulting tab, you will find more information about both our remote coaching and our onsite consulting. Let’s get back to the episode.

 
  All right, welcome back. We were talking about succession planning and all the ways that you may or may not sell your agency. And right before the break, I promised you I would walk you through the scenarios of how agencies get bought and sold and the pros and cons of that. But first, I have a bribe for you. So I would like to really increase the number of ratings and reviews that we have on the podcast. So here’s my deal. For the month of January, I’m going to remind you about this, but for the month of January, I’m going to keep asking you to do ratings and reviews for the podcast. So whether you download it on iTunes or Stitcher or Google, there is a place for you to leave a rating and/or a review. And what we’re going to do is everybody who leaves a rating or a review in the month of January, we are going to put all of your names in a hat, and we are going to give away one of our workshops, a seat to one of our workshops.

 
  So the value of that is around 1,800 bucks. And honestly even though this is downloaded and listened to by tens of thousands of people every week, most of you aren’t going to do it, which makes me cry a little. So your odds are pretty good. So if you will, please go wherever it is you go to leave ratings and reviews for podcasts and leave us a rating and review and I promise regardless of the rating and/or review, we will put your name in hat and someone’s going to go to a workshop on us, okay?

 
  All right. Back to succession planning. Let’s look at the ways that agencies get bought or… Actually let me preface that. Agencies end. With the first one, being that the agency owner closes the door and walks away. On the day that they’re ready to retire, they’ve obviously planned this in advance, they’ve wound down the business and they literally just lock the door and walk out the door when they’re done. And this is how the majority of agencies end.

 
  Again, I want to emphasize this to you. This is not the abnormal, this is the normal, and there is nothing wrong with letting your agency wrap up this way. It does not comment on the value of your agency, it doesn’t comment on the value that you brought to the business or to your clients. It may very well just be the way you want it done. And oftentimes this is because the agency owner has been integral to the business. So they are still very tied to the day-to-day. And so the value of the agency is greatly diminished the minute they walk out the door or the brand is closely associated with the owner.

 
  So if you as an agency owner are this well-known person in the industry and you haven’t built that up in any of your other people, I do want you to be well-known in the niches that you serve, but it can’t be just you, right? You need to have other people who have this depth of knowledge. But if the brand of the agency is super closely associated with the agency owner, then oftentimes it’s not sellable. If you have no leadership team in place, or that leadership team is pretty fluid, or they’re a leadership team in name, but they don’t really actually help run and lead the agency.

 
  Obviously, if your metrics aren’t great, if you haven’t been making a lot of money, if it’s been a lifestyle business, which again, there’s nothing wrong with this. I have lot of agency owners who make a great living running an agency that is a lifestyle agency. So do not think for a minute that this is a bad choice. And again, also, if you’re a generalist firm, if all of those or many of those are true, odds are you’re going to close the door and walk away, which means it’s critical that you run the business knowing that that’s what’s going to happen so that you’re not waiting for a big paycheck that is never going to come.

 
  The most common way that agencies, and by the way, the most successful way that agencies get sold is when they get sold internally to employees. And the reason why this works so well is because the buyer’s a known entity. So there’s no disruption to the internal team, to the clients. It’s really a pretty smooth transition typically. The clients already know and trust whoever’s buying the agency. So there’s less scattering after the purchase that we often see in some of the other scenarios. But you also have to understand that the buyer probably doesn’t have a lot of money for this. So the agency, if you think you want to sell to your employees, you need to be thinking about how you’re going to help them fund that purchase. And oftentimes it’s through a bonus program or something else that you build specifically so they can build up assets to buy the agency.

 
  The buyer’s also going to need a lot of grooming. So I don’t care if they’re a great AE, art director, whatever it is they’re good at. They have probably not been on the back side of the house running the business side of the business. And if you’re an agency owner, you remember what that was like when you started and you were deer in headlights going, “What do you mean P&L and this and that?” We had to learn it. And so you have the opportunity if you identify the buyer early enough to teach them a lot of this stuff while you’re still around. So you can coach and mentor them so that they are much better prepared to run the agency perhaps than a lot of us were, who started our agencies from scratch. They’re going to need a ton of grooming. And so, again, this is critical that you are talking to them and you have a plan and they know exactly what the plan is far in advance so that the two of you could be working on this together.

 
  One of the big mistakes I see is that agency owners will have this abstract conversation with an employee like, “Hey, would you like to run this joint someday?” Or, “You know what? You’re my succession plan.” We drop those little hints. And of course the employee is flattered, and of course, they’re not going to say, “No, I don’t want it.” But that’s a very different conversation than sitting down and saying, “You know what Drew? I think that you are the future of this agency and I would really like to talk to you about buying the agency over time. Would you be open to having that conversation? Yes or no? Is that something that you want to do? Do you aspire to that? And if so, then I’m going to go through the process of getting the valuation, defining the equation of how we’re going to define the value of the agency and we’re going to walk through what it takes to actually buy this agency so you know exactly what you’re getting into. And then I want a letter of intent from you.”

 
  And then all of a sudden, now you’re having a real conversation. And now it’s getting very serious and very tangible about what they’re agreeing to. When someone just holds out a present says, “Do you want this present?” We all would go, “Well, of course, I want to present that’s beautifully wrapped and who wouldn’t want a present?” When someone says, “Would you like this present? There’s a snake inside and you have to feed it live rats, but it is the best security system for your house that you’ll ever have and there’s all these benefits.” But there’s also the reality of it which is sometimes not so pleasant. Now I have to decide, “Do I really want that present? Are the upsides worth the risks, worth the costs?” Because as we all know owning an agency does not come without consequence. And some of the consequences are beautiful and awesome. And some of them are challenging.

 
  So the mistake agency owners make is they don’t have those candid conversations around money, around timing, around choices and sacrifices early enough. So you think that the buyer wants to be the buyer and they think they want to be the buyer. And then you bring them inside and you show them what’s behind the curtain. And they’re like, “No, thank you very much.” So we worked with an agency that had this conversation with their employees but it was very superficial and they knew that they were going to have to buy it. I’ll talk about gifting it in a second. They knew they were going to have to buy it, but they had no idea what the numbers were, they had no idea that the size, what the agency was valued.

 
  And so the agency owners about two years before they wanted out, finally did this homework and sat down with the buyers and guess what? The buyers all said, “Thank you. But no.” And so now the agency owners were stuck because they had for many, many years been moving along the path thinking that these internal employees were going to buy their agency and then they didn’t. And those agency owners ended up not being able to depart their business because they had no one to buy it. And they hadn’t done the things I’m talking about in terms of shoring away money and they couldn’t afford just to shut it down. So now they are still running their agency long beyond when they wanted to do that. And I see this scenario, I see this mistake over and over again. It’s not a one-time thing. I see lots of agency owners making this mistake.

 
  So if you’re going to sell internally, know that you need to have very specific candid conversations early, early on so that you really can gauge the actual interest of that employee. So I promised you, we were going to talk about giving it away versus selling it. So a lot of agency owners want to gift 5% or 1% or whatever it is to their employees with the thought that that’s going to set the hook and then they’ll buy out the rest. And again, my scenario is the same.

 
  When you offer someone something for nothing and it’s free, they all want it. It’s a very different decision. By the way, now you have a business partner who may or may not actually want to run a business when they understand what it is. It’s a very different decision-making process of, would you like this gift of five shares? Or would you like to pay me $10,000 or $50,000 or whatever the number is for these five shares. Now you are actually gauging the actual temperature of this employee in terms of owning your business. And so I am not a fan of gifting shares at any time to anyone.

 
  I have a couple agencies in some of our networks that have gifted shares, and in some cases that’s gone really well. And in other cases, it’s really blown up in their face and there’s nothing more annoying by the way, to have to buy back shares that you gave to someone, which I’ve seen happen over and over and over again. So do not make the mistake of gifting shares. This is something of value that you should get a value from. You can discount the first buy-in, significantly discount it. But make them pay something. They have to stroke that check to prove to you that they have really thought about this and that they are willing to invest in the business as opposed to just taking it as a gift. So all of that’s tied up with selling internally to employees.

 
  Another way that a lot of agency owners exit is if you have business partners and some of them are either younger or want to stick around longer than you, regardless of age, selling out internally to existing partners. So if you’ve done this well, if you’ve done your partnership well, you already have documents that say, “Here’s how we buy each other out. Here’s how we value the agency. Here’s the equations that we use to buy and sell shares from each other.” And it should be all outlined out in your partnership agreement. If you have partners and you have not done that, regardless of how close you are to wanting to sell or what you think your exit strategy is, you need to revise your partnership agreements so that it reflects this.

 
  This is like a prenup agreement. You want to do it while you’re on your honeymoon, not when you guys are breaking up. So make sure that this is a legal document, that it’s spelled out during good times early in your arrangement, that it’s fair to everybody that takes into account all of the possible scenarios. And it needs to be obviously a legal document that you’ve all signed. And then if you’ve got that, honestly, this typically goes very smoothly. Clients don’t bat an eye unless one partner is popular and the other one isn’t. The employees don’t really bat an eye. And it’s really the least disruptive to both the agency and the clients because technically someone is stepping away, but the ownership has not really changed in terms of their years of experience and all of that.

 
  It may be that you stepping away leaves a hole in the agency. Maybe you’re the biz dev person or the finance person. So you’re going to want to have a plan for plugging that hole with someone whether it’s a contract labor person or another employee, but typically selling to existing partners goes pretty smoothly and well as long as it’s documented in advance.

 
  Another thing that a lot of agency owners think about is they want to merge with another agency. So typically an older agency owner wants to merge with a younger agency owner and over time sell them the shares of their stock. So we’re going to combine our agencies, we’re going to have some efficiencies. We might eliminate a couple positions and over the next five years you’re going to buy me out. So there are a couple problems with this. Number one, and the biggest one is, culture. This is like a blended marriage. And if the kids don’t get along, if the way they have lived is dramatically different, I have seen this implode more times than I can count. Literally, I’ve seen this where two agencies merge or one agency buys a smaller agency and within six months, all of the employees are scattered and most of the clients are scattered. So you really, really, this is a go-slow strategy. This is a, let’s do some projects together, let’s do some employee outings together, let’s see how this works because the culture will be key, whether or not it works.

 
  The other thing is oftentimes the one that wants to get out has the bigger agency, which means that they’re going to own the lion share of stock and the minority person, the one with the smaller agency who might be younger, now they have to come up with a ton of cash to buy out the departing partner. So you’ve got to figure out the finances of that, how that’s going to look.

 
  Usually, both agency owners end up staying three or four years, and there are a lot of casualties, as I said both on the client and the employee side. And oftentimes clients don’t like this new blend. And so you really have to have a reason why you’re coming together other than the buyout. And you have to have a story to tell everybody why it’s to their advantage that these two entities are coming together as one. You absolutely need the buy-sell as part of the merger. So again, you want to have how this is going to work defined early in the relationship rather than down the road. And ideally it’s a short-term partnership.

 
  Again, three years at the most, and then the departing partner needs to get out of the way. That’s typically how this has to play out if you’re going to merge with another agency. If you are going to sell to a third party buyer, somebody wants to come and purchase you, and maybe they don’t have any agency background. Maybe it’s some venture capital money, maybe it’s a big holding company that’s going to absorb you and you’re going to be a tiny little part of something much bigger, which is something we’re seeing right now in the marketplace. This is the least common way that an agency gets bought.

 
  And it’s the least common because if I’m a VC and I want to dump my money into a company, there are certainly businesses that have a more sustainable, less volatile history and profitability pattern than agencies. So this is not a particularly common thing. But if it is, now the agency really has to stand on its own because this is absolutely… This purchase is all about your financial documents and your history. So this isn’t about culture, this isn’t about personality, this is less about brand. This is somebody coming in and buying a machine that is been making money and is going to keep making money. And that’s what they care about.

 
  Again, the owner in most cases is going to be asked as part of the deal to stay on for one to three years. And that payout is going to come out over time. But the metrics that I talked to you about that influenced the multipliers. If those aren’t all in pretty good shape, no third party is going to want to buy your agency.

 
  Now, one thing I have seen is I’ve seen what I would call tangential businesses. Printing companies, database companies, things like that come in and buy an agency because they already have a built-in, they believe anyway, they already have a built-in customer base for the agency. And sometimes that works great. And sometimes that doesn’t work so awesome. So that’s the most common third-party buyer, but if it’s really an arm’s length third party buyer, it’s all about your financial metrics and are you making money year over year, over year, like a machine? Otherwise, they’re not going to be interested in us.

 
  So the deal is the structures vary greatly. And you need to know that you are in more control of this situation. And again, if you plan this out in advance so you’re not doing it out of desperation 18 months before you want to be retired, or before your health forces you to be retired, you can have a lot of say in the way the deal is structured. Obviously, there are concessions to be made in terms of multiples and things like that, but there is no right way to structure this deal. And so you need to be really mindful that you structure it in a way that it really serves you and your family and the people that work for you. And don’t be willing to compromise on that. Don’t sell out on that.

 
  Typically you’ll get some money up front. A lot of times the rest of it, that buyout is paid out over three to seven years, based on a percentage of the AGI that is collected for that year. And oftentimes you’re paid out, like I said earlier in the podcast, you’re paid out in a plethora of ways. So some of it’s salary or consulting fees, and you want to have a great CPA who helps you understand that all of those compensations for your agency are taxed differently. And so typically you’re going to strike a deal with the buyer where half of the way you get paid benefits them more than you and the other half of how you get paid benefits you more than them. As you might imagine, there’s not tax advantage for both of you in the same methodology of the money coming out of the business so there’s going to be some give and take on that.

 
  Again, this process takes a lot of time. And part of the reason why it takes a lot of time is that it is super personal. I mean, this has been your baby. This is your identity, this is how people know you, this is how you think about yourself. So this works better when the departing agency owner is departing, not out of desperation but because there’s something else they really want to do that they’re excited about doing. This does not work well… And by the way one of the ways that it gets passed on to employees is often in families. So sons and daughters buying out moms and dads, and in particular, this is problematic if the senior departing partner doesn’t have something else to do, isn’t excited about something because at a certain point in time, you have to get out, you have to get out of their way and let them run the business. And I see many parents in particular, but agency owners of all ilk, not having something exciting to do.

 
  So they’re excited at the outset, at the idea of shedding some of the responsibilities of being an agency owner, but when the time comes for them to actually start not showing up or not showing up as often, they don’t really have anything else that they want to do. And so sometimes they, rather than you staying too long and you feeling like, “Oh my God, I can’t get out.” Sometimes it’s the opposite and the new owner is like, “Oh my God, they’re never going to get out.” And it is impossible for the new owner, whoever it is, whether it is a child or an employee or another agency or a third party stranger, it doesn’t matter. It’s impossible for them to truly own and run the business completely while the original owner is still in place. At some point in time you have to get out. And the only way that that’s going to feel good to you is if you are excited about where you’re going next.

 
  So this is super personal, super emotional. Many agency owners get very close to that finish line and can’t do it because what they find is it’s too much of who they are, too much of their identity and they don’t want actually to walk away. And by the way, you don’t have to sell all of your agency. You can sell the majority of it and become a silent partner. You don’t have to go into the office every day just because you own an agency. So you might keep 10 or 15%. You might come in for an annual shareholders meeting, you might be an advisor to the new owners on more of a ad hoc basis.

 
  So while I’ve been talking this whole time about selling and walking away, also understand that inside your control is if you really do walk away. So many agency owners are holding onto maybe 10%, almost like an annuity, and they’re just going to keep making their dividends. Now, obviously, if they do that, there’s some consequence on the purchase price because most people want to own it completely. So if I’m going to let you own a little piece of it, even if your vote isn’t big enough to matter, odds are I’m going to get a concession when it comes to the price of the agency.

 
  So here’s the deal. Think about it long and far in advance. Think about what ideally you want. Is that the way it’s going to play out? Maybe, maybe not, but you have a better shot of it playing out that way if you begin to run the agency thinking that’s what’s going to happen. So how much money you leave in the business, how you compensate yourself, how quickly you build up a leadership team, how quickly you let go of some control around some management decisions. All of those things are part of the decision-making and the prep work that it takes to get your agency ready to sell.

 
  And so what I’m asking you to do in this month of planning is start planning but in a really big long-term way. How long do you want to do this? Ideally, what do you want to see happen to your agency when you are ready to be done working every day as hard as you do? Are you okay with just shutting it down saying, “You know what? This was a great business, I loved it, I made great money, my people made great money, but I’ve built it in a way that is going to be pretty hard to sell. So I’m not going to do that. I’m going to keep using it as an ATM machine for me and my people. We’re going to make great money and we’re going to walk away fat and happy when it’s time to retire.”

 
  Down to, “You know what? I want to build this up, which means that we’ve got a lot of work to do. We’ve got to double down on our niches, I’ve got to build up my leadership team, I need to spend more time mentoring them. We need to even out our profitability, which may mean some spending choices have to be different. I have to be better about right-sizing the agency when we lose a client, because I don’t want it to impact the bottom line so that I have huge ebbs and flows in my profitability year over year.” Whatever that is, all of those decisions become more clear when you know where you are headed.

 
  So that’s my message for you today is, spend some time thinking about what you would like for the future of your agency, and then figure out what you need to do between now and then and hopefully that then is 10 years out or more. Obviously, this gets more urgent if it’s five years or less, but let’s assume that it’s 10 years out or more. And what are the decisions you need to make? And what are the milestones you need to be tracking between now and a decade from now to make sure that you are on track to build a business that you can sell the way you want to sell it?

 
  All right. That wraps up this week’s episode of Build a Better Agency. As always super grateful that you hang out with me every week. Thank you for doing that. Thanks for sharing the podcast with your coworkers and your colleagues and your peers. I’m always gratified by the emails I get or the LinkedIn messages. So thank you so much for that. I will be back next week with another episode with a guest, which is also going to be a little bit about the future of 2019 and where you’re headed. And also I want to remind you, we’ve got some great stuff coming up. We have some good workshops coming up this spring and lots of other things going on. So head over to Agency Management Institute and check it out. And if we can be helpful to you, please do join us for that.

 
  Also remember that, we have just added an association health insurance plan. So if you have not learned about that, head over to Agency Management Institute and find out. We have lots of different membership models that make you eligible to participate. So we’re saving the average agency around $1,500 an employee per year right now. So that’s pretty exciting. And we would love to make that available to you as well. So I’ll see you next week. In the meantime, if you need me, you know how to catch me. I’m [email protected]. Talk to you soon.

 
  That’s all for this episode of AMI’s Build a Better Agency podcast. Be sure to visit agencymanagementinstitute.com to learn more about our workshops, online courses, and other ways we serve small to mid-sized agencies. Don’t forget to subscribe today so you don’t miss an episode.