I have a client I speak to for individual protection matters. I discovered he also runs a small business. How do I, as an adviser, go about valuing his business for protection purposes and offer sound guidance?
Tony Columbine, director, Relevant Life Policies
Once the need for business protection has been identified, there are really no hard and fast rules in calculating the amount or type of cover a business requires.
There are a number of key risks which can have a major adverse effect on a business and identifying these key risks and priorities with business owners initially is vital.
Each business will have its own individual key areas to cover, dependent on type and size. But commonly these would be; continuing ownership of the company on death or serious illness; loss of a key person through death or serious illness; financial implications such as assets and liabilities, bank or directors loans.
Cover can be calculated in a number of different ways. For key person cover this would be typically calculated by identifying the cost of replacing a key individual including, recruitment costs, training costs, goodwill and relationship losses and any adverse financial effects to the business.
For share purchase and partnership assurance this could be covered by a life assurance policy using the basis of multiples of salary and proportion of profits. Business owners will usually identify which valuation and calculation they feel comfortable with and which suits them.
When finding the right solution for the business, understanding the different tax rules governing the different types of legal structures and entities, combined with obtaining tax relief where appropriate is critical to giving sound advice.
Louise Colley, head of protection sales and marketing, Aviva
Most SMEs do not tend to have a formal valuation in place, but there are a few steps to follow in order to get a good idea of its worth.
Once you sit down with the owner you may well find they have at least a ball-park idea of the value.
It is essential that any such value is quantified, so it is important to see business accounts produced by the accountant.
The adviser should try to obtain the accounts for the last two or three years to get a good sense of the history of the business.
Then look at what has happened with the business over the last three years in addition to looking at its current performance; and obtain the gross profit and / or net profit figures and the net asset value.
It is also important to look at potential future contracts in addition intangible assets need to be taken into account.
These figures will be used to establish a value for the business. The typical calculation is five times net profit before tax to reach a valuation of the business. Alternatively you can use one to two times gross profits.
Important to note is that the cover is based on the business valued on today's terms and any claim would relate to the value at the point of death. If a business is over-insured the owner will have spent unnecessarily. However, if it is undervalued this will create a shortfall.
Dean Mason, practice principal, Masons Financial Planning
Firstly it is important to establish the size of the business. Are they a sole trader? Partnership? A limited company?
This will allow you to establish how pivotal your client is to the business and who else may be involved.
Ask your client who is key to them and ask them why. As always, establish a monthly budget.
You will want to see their accounts and business bank statements as this will show you how capable they are of maintaining cover and see if loan cover is needed
You will need to see any personal protection policies they have too, the client is very likely not aware they can pay premiums through the business and potentially gain tax relief on them.
Several insurers now offer relevant life policies and Bright Grey in particular provides a number of really useful sales aids, including a tax relief calculator which shows exactly what could be saved by arranging protection this way.
Be careful to ensure though that you are not edging them toward any specific provider without a full fact find and research.
Ultimately you would want to speak to, and where practical, meet with their accountant. This will not only help you give them the best advice but if the accountant is new to the concept of business protection it could produce a major boost to your business as the accountant may refer others.
Most importantly, what do they want to cover? Establish this, be it death, illness or locum support and research accordingly.
