AGENCY CONSOLIDATION PICKING UP SPEED
National Underwriter - Property & Casualty Edition, July 2004
A 2004 midyear review of announced agency consolidation statistics indicates that the pace has increased markedly over prior periods. Through June 30, 2004 announced agency transactions totaled 117, representing 64 percent of the total announced deals reported for 2003.
It remains clear that this accelerated pace of consolidation should continue into the foreseeable future. To put the pace of agency acquisition into perspective, a straight line projection of 2004 announced transactions would result in a total of 234 transactions representing a 29 percent increase over the 182 announced in 2003. This projected transaction total is higher than any other period dating back prior to 2000.
 Banks continue as one of the leading agency and brokerage acquirers, accounting for 26 of the 117 announced transactions for the first six months of 2004. However, it is important to note that this trend appears to be slowing.
During calendar-year 2003, banks accounted for about 30 percent of all agency purchases. The 26 announced deals through mid 2004 indicate a continuing decline, representing only 22 percent of the total.
Many speculate that banks have saturated their footprints and are becoming much more selective or completely shying away from the prospect of owned insurance operations. This merely represents stabilization of one segment as many insurance carriers are beginning to express greater interest in acquiring and owning insurance distribution, representing a slight shift in the mix of active buyers.
Career insurance brokers continue to acquire at a fever pitch, representing 64 announced deals, or 55 percent of 2004 total agency acquisitions versus 46 percent for 2003. As the major commercial insurance markets continue to experience rate stabilization, leading firms struggle to meet shareholder demands of growth by maintaining status quo. This has caused many leading brokers to more aggressively deploy capital to acquire a portion of their growth which supplements revenue and earnings.
This acquisition trend is expected to continue while the cost of capital remains low, and while the product rate environment points toward softening.
Other acquirers, mainly made up of niche markets, carriers and financial services companies, continued to make an impact on agency acquisitions through midyear, representing approximately 23 percent of announced deals. Niche market distribution continues to be a hot commodity as financial services firms and carriers are actively seeking out product distribution and underwriting channels to supplement their growth.
Likewise, private equity groups are also emerging as a leading acquirer type as such groups look to assemble and build formidable national platforms.
In total, as some banks and financial institutions retrench and take inventory of their insurance programs, new acquirers have begun to emerge to team with the career brokers to increase the demand for insurance platforms. Expectation remains that this pace will continue until there is a landmark legislative change, or a macro industry event reshapes product rates.
To better understand the accelerated pace of agency acquisitions, we must take a closer look at four key areas that are occurring within the market:
Rate softening.
The softening product market serves as a dual-edged sword in many respects.
As leading public company brokers struggle to sustain organic growth, they become forced to aggressively supplement declining or lost revenue with that which is acquired. The primary indication of this is clearly represented by the impact that leading brokers have had on agency consolidation through six months of 2004. Even Marsh & McLennan has begun to emerge as an acquirer, while the giant was able to shy away from acquisition activities during the height of the hard market.
The second side of the sword lies in the impact that the softening market has on the privately held brokers. As the large, well-capitalized public companies emerge and battle for middle-market clients, privately held firms struggle to compete and retain many clients.
This results in many firms reassessing the competitive landscape while trying to prognosticate how long it will be until rates begin to increase. Many have opted to at least explore the prospect of joining a larger organization in order to preserve their infrastructures and to monetize their investments in the business.
An analysis of the top-eight leading brokers indicates that as of the quarter ending March 2004, the composite organic (non-acquired) growth was a mere 5.8 percent versus 13.9 percent for the same period in 2003. This data highlights the fact that the leading brokerage segment is slipping in its ability to contend with rate stabilization and further exacerbates the need of members of that segment to continue to demonstrate growth through acquisition.
Long-term capital gains tax.
The reduction in the long-term capital gains tax rate has caused many privately held agency owners to pause and reflect on their futures. Owners are assessing the potential impact of the 15 percent capital gains tax rate and contemplating their strategies as this opportunity may not remain for an extended period.
Many who otherwise would have delayed succession-planning strategies for another five years are acting now, as they see the value of this rare opportunity of such low rates and are not taking the risk of any legislative changes. As the presidential election appears on the horizon, many believe that this window of opportunity could be swiftly closed.
Intensified competition.
As mega-brokers aggressively pursue middle-market clients, competition remains incredibly stiff. The large international firms with countless resources, markets and services are now vigorously contending to establish a larger middle-market share that was once left to the smaller firms.
This competitive onslaught has severely crippled many niche and middle-market privately held firms who for decades enjoyed their position in the market. The result has caused many privately held agencies to reassess their positions with many opting to join forces with the larger, super-regional and national firms.
Benefits targets.
The acquisition of benefits brokers represents the newest craze among consolidators. As benefit costs continue to rise, commissioned brokers can receive revenue "lift" and enjoy significant growth, similar to the property-casualty firms during the height of the hard market.
The leading consolidators, who are scrambling to seize growth segments, are now keenly focused on trying to establish greater market penetration in this product area. Likewise, many banks that have invested in their commercial insurance platforms are now looking to further extend cross-selling opportunities by broadening insurance expertise within their institutions.
Because the benefits market is largely regional, this leaves an incredibly fragmented market, which is made up of a larger number of smaller operations. As the market shifts more aggressively into this segment, it is likely to expect that consolidators will need to conduct a greater number of smaller acquisitions in order to create critical mass.
Without a marked change in course of the product pricing cycle, agency consolidation is expected to continue at an even more accelerated pace throughout the next twelve months.
As larger brokers vie to sustain growth, they are in a position to deploy capital to buy their top line. Inevitably this leaves the smaller firms to face the prospect of joining the larger public environment, or to patiently wait out the market cycle.
Many smaller and midsize firms that resolved to ride out the cycle have opted to work smarter and are re-evaluating their loss-leading products, markets and regions in an attempt to gain greater efficiencies within their businesses.
Carriers have begun to re-emerge as consolidators as many of them are looking at alternative ways to distribute their proprietary products as well as looking at benefits of owning their distribution system in some measure.
Very interesting times are ahead for the insurance distribution system.
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