Often, the new owner does not adequately plan for the unexpected, or may have overestimated their ability to lower the overhead at the new location and increase sales. Or, employees may suddenly depart the agency, leaving the new owner in a bind.

For any acquisition to succeed, buyers and sellers must do their homework assignments–thoroughly.

If you're buying another agency, you've got a lot to lose if you don't do proper due diligence, especially with a cash buyout.

Below are some of the critical steps buyers should take.

o Determine the reason for the sale:

Step one is to figure out why the target agency wants to sell. There are many legitimate reasons for selling, such as retirement or succession planning. But be careful that the seller doesn't have any skeletons in the closet that could hurt your business down the road.

Few agencies will volunteer every bit of information about their business–especially the negative aspects. Contact carriers that have been used in the past; read local insurance publications and the state insurance department Web site; contact the local Better Business Bureau; and conduct Internet searches–all of which could reveal evidence of illegal activity.

o Review the noncompete contract:

Ensure that a strong, protective noncompete contract is in place and will be followed not only by the seller but by the agency's producers.

Often, when an agency is about to be sold, many of its producers view the imminent transaction as a threat to their livelihood, not knowing what change will bring. A few of the less ethical ones may use this uncertainty to justify shifting accounts to their own private businesses or to another agency promising a more favorable commission split.

The answer: Only consider buying agencies with ironclad noncompete contracts.

o Analyze the book of business:

Don't just look at total commissions from the past few years. See what percentage of the accounts have been on the books for two years, five years, and even for 10 years.

Structure an earn-out provision to ensure the seller's book of business is as represented. Plus, review the agency's loss ratios, carrier persistency, carrier contracts and types of accounts and anticipate their likelihood of continuing as clients.

For example, the typical general contractor may not be as stable as the typical accounting firm.

Be diligent in looking for trends in commissions. For example, if total commissions have doubled in the past three months, or if the agency just landed a huge new commercial contract that now represents a disproportionate share of commissions, something might be up–and you need to investigate.

Review the average commission per account and determine the mean, the median and other pertinent statistics.

While you can't predict the longevity of every account, the deeper your analysis, the better you'll be able to spot nuances–like bad policies or categories of clients that aren't likely to remain on the books for long.

o Review tax returns:

Look at the seller's tax returns to see if they match up with the commission statements. This is a good, independent check on what the seller is representing. Plus, examine ratios, margins and non-operating expenses.

o Analyze carrier activity:

Identify which insurance companies the agency is placing most of its business with. See if these carriers plan to lower commission rates, give less favorable terms with contingent contracts, change product offerings, or even move out of your state. Talk to the carrier representatives for this information.

Also, find out if the carriers' direct writers have been trying, and possibly succeeding, to encroach on the agency's business. Make sure you keep copies of all the agency's contracts with carriers. The more you know upfront, the better off you will be.

On the other side of the deal, although the buyer may have more at stake financially, the agency being acquired can have its plans of cash infusion, growth, continuity of management and other goals squashed in a hurry. So if you plan to sell your agency, here are the key steps to take:

o Evaluate the buyer's financial stability:

Demand full disclosure of financials and how the money will be raised, including the lending source and how the transaction will be closed. Be sure there's proof of funds to support the buyer's ability to pay.

Ask to see the term sheets of the buyer's loan documents, and make sure a commitment letter is signed so the deal will go through with no surprises.

o Determine if the buyer's goals are aligned with your goals:

Reexamine your goals for selling and see if the buyer can meet them.

For example, if you're counting on the buyer's capital to upgrade technology, hire more support staff or fund a new marketing campaign, be sure the buyer is willing to invest in the agency's future.

o Clarify management structure:

As an agency principal accustomed to your own management style, you need to be comfortable with the buyer's way of running the shop. This is important for you and for your employees, who for years have worked under you.

Rick Dennen is founder, president and chief executive officer of the Indianapolis-based Oak Street Funding, which offers commission-based lending to insurance agents. Go to www.oakstreetfunding.com for more information, or call Mr. Dennen at 866-625-3863.