EXPECT MORE MERGERS WITH THE SOFT MARKET
Independent Agent Magazine, December 2004
As premiums rates have either stabilized or declined across many lines, insurance brokers have come to rely extensively on acquisitions to prop up their revenues and earnings. The composite percentage of overall organic growth for the three months ending June 30, 2004 was less than 44%, according to an analysis by WFG Capital Advisors of the press releases and SEC filings of the largest brokers nationwide. In turn, this indicates that over 56% of the selected brokers’ composite growth rate came through acquisitions.
To accurately gauge how a company is growing revenues internally, excluding the effect of acquisitions and currency fluctuations, organic revenue growth is used as a benchmark. Individual company and composite results clearly show there has been a downward trend in organic growth during 2003 and the first half of 2004. The soft market has clearly made its presence known during the second quarter with three companies reporting negative organic growth rates. With declining organic growth rates, companies who are active acquirers will rely increasingly more on acquisitions to reach targets set internally and by Wall Street analysts.
The aggressive acquisition strategy employed by many of the leading brokers is used as a way to offset negative organic growth trends. The softening insurance market presents a headwind to insurance broker’s results – they can’t realistically expect organic growth rates to be as high as in the past when the hard market was in effect. To meet Wall Street’s targets, acquisitions are playing a larger role in hitting those expectations. Insurance brokers may have become victims of their own successes as a result of the growth they achieved in the past. As many of these brokers get larger, their own size can become a detriment in terms of the impact that an acquisition can have on their results. These companies will have to make more acquisitions, increase the average size of agency acquired, or do a combination of both to maintain their overall revenue growth rates. An example of a company that is on pace to doing more transactions is Brown & Brown, which has completed 21 acquisitions already through July of this year compared to 23 for all of 2003. Hub International’s acquisition of Talbot Financial Corporation, which generates approximately $100 million in revenues, is an example of a company making larger sized acquisitions.
The change in the insurance marketplace also has an effect on the remaining independent agencies and brokers. It has been noted by some of the publicly traded companies that the softening market could provide an impetus to agency owners and principals to more seriously consider selling their firms to a larger partner. Privately held agencies and brokerages previously could afford to go with the flow of a hard market and see their revenues and income rise accordingly. Now that the tide has turned, these same agencies have to seriously consider their fates in a softer market.
The soft market may actually hasten the consolidation trend currently occurring in the industry. Announcements made during conference calls and within earnings releases by several companies under WFG Capital Advisors’ coverage state that their pipelines remain full with potential acquisition candidates. The soft market is, in effect, pushing many independent agencies and brokers into the arms of some of these active acquirers. A secondary influence on the consolidation trend is the presidential election, which may provide another incentive for agency owners to sell and take advantage of the current capital gains tax rate. These factors combined should make for a busy second half of the year for merger and acquisition activity.
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