More dealmaking seen as likely in insurance
Expect the consolidation trend to continue in the insurance industry in the coming years.
That's the view of experts from EY, the global professional-services firm, who see the drivers of the combinations that have swept the industry as being very much intact.
EY staged a “M&A roadshow” on the island, featuring three of its consolidation experts for different parts of the world.
Richard Battersby, EY's UK head of insurance transaction advisory, Martin Spit, US head of insurance transaction advisory, and Steven Napier, head of BBC (Bahamas, Bermuda, British Virgin Islands and Cayman Islands) valuation and modelling, took part, meeting a string of clients on the island. They found that interest in dealmaking is still strong.
In an interview, Mr Battersby said: “One of the key drivers is the challenge of how to grow your business.
“Growth is difficult in the current rating and macroeconomic environment. One of the few ways to grow is through acquisition or consolidation.”
Management of the operational cost base was another major consideration among those looking for deals, as well as optimisation of capital, he added.
“It could be a matter of putting some of their book of business into run-off and selling and using that released capital to acquire and grow, for example,” Mr Battersby said. “We're seeing that on a global basis.
“Also Solvency II was a catalyst for that sort of activity. Companies are beginning to make more strategic decisions around how capital is allocated.”
The uncertainty generated by the Brexit saga has been both a stimulant and an inhibitor of dealmaking activity, Mr Battersby said.
“A hard Brexit remains on the table and as long as that remains, the general approach is to have a plan that can accommodate a hard Brexit,” he said.
“So there has been a lot of establishing entities in various territories to enable business to carry on. That's caused an element of transactional activity.”
However, the lack of clarity on the Brexit outcome may have contributed to a “bit of a slowdown on large-scale M&A”, he added.
“Talking to private-equity clients, their pipeline of potential deals is slimmer now than it would have been 12 or six months ago,” Mr Battersby said, adding that the uncertainty surrounding Brexit may be a factor in that.
A Brexit deal “could put a stop to buyers sitting on their hands”, he added.
Mr Spit said fears of an economic downturn and insurer stock prices that are high, relative to book value, may be having a dampening effect on M&A.
“We're not quite sure when a recession will come, but at least from a US perspective, we're pretty sure that a recession will come,” Mr Spit said.
“That may have an impact on the volume as well as the type of M&A activity that you would see.
“However, the insurance industry is a little bit different from many other sectors, in that there's a lot of long-term patient capital in there.
“Right now we have clients who are not bidding because the valuations are very, very high and they may return to the market if the pricing eases a little bit.”
In 2018, by far the largest deal in Bermuda was Axa's $15.3 billion buyout of XL Group.
David Brown, senior partner at EY Bermuda and regional insurance leader, said he would not be surprised to see another “mega deal” in 2019.
One area of uncertainty for Bermuda's business environment stems from the European Union placing the island on its list of noncooperative jurisdictions for tax purposes. Mr Brown is hopeful that the situation will be temporary.
“Obviously, it is important that Bermuda come off the list,” Mr Brown said. “It's not only important as it relates to companies and their operations, but also companies looking to form here in Bermuda.
“Companies do look at a number of factors when they're choosing a destination. We think Bermuda is a great place to start a business and that the regulatory environment here is strong.”
Private-equity firms have found insurance an attractive sector in which to invest. Apollo Global Management, for example, a New York-based firm with around $280 billion of assets under management, owns about 10 per cent of Bermudian life reinsurer Athene Holdings. In February this year, it also completed the $2.6 billion acquisition of Bermudian insurer and reinsurer Aspen Insurance Holdings.
Mr Napier said there was a diversification aspect to private-equity firms' interest. “These are assets they're putting on their balance sheet, which is different from the private-equity model,” Mr Napier said. “They are often regarded as the smartest people in the room and they think this is the place to be.”
Mr Battersby added: “There is a view that insurance is countercyclical, relative to the other sectors they invest in. In times of economic distress, while insurance may suffer a bit, it may not suffer as much as consumer discretionary or retail sectors, for example.”
Mr Spit said two particular segments of insurance were attracting increasing interest from private-equity: life reinsurers and brokers.
“Fixed annuities carry a predictable long-term cashflow. From a private-equity perspective, that's an interesting way of taking capital and turning it into earnings,” Mr Spit said.
“On the distribution side, a lot of brokers have been turned into platforms to roll up more brokers.”
One of the most difficult aspects of M&A is the integration of two businesses after the deal is done.
Mr Spit said the bringing together of different corporate cultures was one of the most challenging aspects and that insurance companies had learnt with experience how to combine successfully.
“The vast majority of deals integrate quite well,” he said. “People in the industry now know how to avoid the biggest pitfalls.”