M&A Drivers Going Forward
Guy Carpenter sees several potential merger and acquisitions (M&A) drivers in 2012 and beyond:
Market Cycle - The high catastrophe losses of 2011 have begun to place pressure on some (re)insurers. Should additional weather and seismic activity continue at the same rate during 2012, the tipping point from an industry earnings event to an industry capital event could be reached, and sizable ROE denigration would likely cause rates to increase. Low investment yields and loss cost inflation could further hasten a hardening of the market, which would likely change insurers’ focus from one primarily on growth via acquisition to more balanced growth organically and via acquisitions. A perceived market hardening would also likely lead to increased ROE expectations and thereby increase valuation levels for publicly traded companies. Improving market fundamentals and valuation levels may result in more M&A activity.
Macroeconomic Uncertainty - Growth through acquisition is difficult in an environment in which stock, credit and sovereign markets are in turmoil. However, we believe conditions are in place for M&A to reassert its fundamental purpose: for strong corporate performers to match acquisitions to their long-term strategic objectives and to drive out weak and inefficient players.
Solvency II - European financial services companies will continue to analyze strategic options for insurance operations in the face of the coming regulatory changes. In particular, the focus will likely be on non-core (re)insurance operations and alternative M&A transactions to clean up balance sheets, for example, the use of run-off sales.
Reserve Pressures - Guy Carpenter’s analysis of the US reserving cycle over the past 30 years suggests the tide may be turning, and a period of reserve shortfalls looms. This, combined with potential inflationary pressures in some markets, weak investment returns and, in Europe, higher reserving charges from Solvency II, could culminate in a challenging cyclical phase that may serve as a catalyst for increased M&A activity.
Private Equity - Many private equity funds made investments into insurance underwriting businesses prior to the financial crisis. The thesis was often premised on investing at book value and exiting at some future date at a multiple much larger than book value. While valuations are off the lows seen in 2009, we have not yet returned to the historical price to book levels seen in the past. As private equity funds’ portfolios mature and age, pressure is beginning to build to develop exit strategies. Increased transaction activity around private equity-held insurance assets is therefore likely to occur.
M&A Outlook for 2012
The unknown factor hanging over the industry is whether the large amount of catastrophe activity seen in 2011 will continue into 2012. Given this uncertainty, combined with the market volatility seen in the second half of 2011, Guy Carpenter expects the pace of deals in early 2012 to remain muted.
We believe that during the coming year, the focus of M&A activity will continue to be on small and mid-sized deals. We also expect specialty operations possessing niche underwriting expertise and high barriers to entry, be they underwriters or managing general agents/underwriters, will continue to appeal to a broad cross-section of the insurance marketplace as organic profitable top-line growth continues to be challenged. While there will likely be limited deals in the USD1 billion to USD3 billion range, we remain somewhat skeptical about the prospects of many mega-deals occurring in the next 12 months.
*Securities or investments, as applicable, are offered in the United States through GC Securities, a division of MMC Securities Corp., a US registered broker-dealer and member FINRA/SIPC. Main Office: 1166 Avenue of the Americas, New York, NY 10036. Phone: (212) 345-5000. Securities or investments, as applicable, are offered in the European Union by GC Securities, a division of MMC Securities (Europe) Ltd., which is authorized and regulated by the Financial Services Authority. Reinsurance products are placed through qualified affiliates of Guy Carpenter & Company, LLC. MMC Securities Corp., MMC Securities (Europe) Ltd. and Guy Carpenter & Company, LLC are affiliates owned by Marsh & McLennan Companies. This communication is not intended as an offer to sell or a solicitation of any offer to buy any security, financial instrument, reinsurance or insurance product. Cory Anger and Chi Hum are registered representatives of MMC Securities Corp.