--Euclid Black, Black/White & Associates
How big is big enough? In today's frenetic business world, where mergers and acquisitions are taking place with abandon, there is apparently no answer to that question. Just when we think we've seen the last of the largest of the large mergers with the greatest of the great, another announcement hits the financial pages of yet two more Goliaths walking down the aisle.
It is estimated that, in 1998, there was more than $2.5 trillion in announced mergers worldwide. Can we expect more? Experts say yes, especially on the insurance side, although probably not on the scale of the Citicorp-Travelers merger. Further mergers will probably take place among smaller brokers and agencies, both wholesale and retail, seeking to find a place for themselves in an insurance world where the phrase "multiple distribution channels" is on the lips of most insurance company CEOs.
As far as MGAs are concerned, all this merger activity will probably affect them on three fronts: 1) the changing nature of their carriers and their distribution requirements as they intertwine with each other, possibly entering new marketing areas; 2) the changing nature of the MGA arena itself as mergers and acquisitions take place there; and 3) the changing nature and needs of buyers of insurance that the MGA must satisfy.
"Things are moving so fast that it has become a crazy market out there," says Euclid Black of the Oakland, California-based Black/White & Associates. "Some agency companies are going direct, by-passing the retail agent. Reinsurers are going direct. Competition is coming from all sides with banks entering into the picture and some individual investors. And we don't yet know what role the Internet is going to play in the competitive environment. The hard market is not going to return. We're going to have more of this and wholesalers who grow are going to have to look at mergers and/or acquisitions, depending upon what is right for them."
Similar sentiments were expressed recently regarding the changing marketplace at a special Roundtable hosted in New York by Global Reinsurance magazine of London. Dennis R. Connolly, managing director of J&H Marsh & McLennan, addressed the issue of merger mania and what it all means to the smaller business entrepreneur. "Speaking for a broker that has just merged twice in the past two years, I believe there will be more merger activity, although there is limited room for further mergers."
Brian S. Murphy, senior vice president, global catastrophe reinsurance manager, Zurich Reinsurance (North America), Inc., agreed. "There is potential for further consolidation but, also, when you consider that we are all re-examining the ways that we do business, we may see a situation where many of the current players may well be absorbed by other entities. No one has a crystal ball as to what the future looks like, but I think that in 5-10 years' time the way we conduct our business will change. However, for the producers of insurance, I believe there will always be room for the smaller guy, and each player will specialize in particular areas, perhaps more entrepreneurial than the larger traditional approach, to solve the client's needs."
Joseph Fedor, executive vice president and director of U.S. Re Corporation, said he believes that we've seen at the large level of the insurance side pretty much what consolidation will take place. He added, however: "I believe that the smaller brokers will probably start to align themselves on a more regional basis and become much more involved in terms of levels of services provided, not just be able to lower a price."
Therefore, the M&A activity we've already seen in the insurance business points to a market in a state of flux, especially in the area of distribution. Of necessity, carriers are keeping their options open in terms of channels of distribution. Where does that leave the MGA?
"As for the mergers that are taking place on the carrier end, these are people with cash, whether they be insurers, bankers or investors, and they are looking at the wholesale distribution market as one which itself will undergo consolidation," says Black. "The question is how. Remember,
the phrase merger and acquisition is really two separate words. For some, the right route will be merger, for others acquisition. Years ago, the traditional wholesaler was working in a specific geographical area and writing a variety of business. In more recent years, wholesalers have become more stratified, writing niche areas but horizontally, across state lines. We have bought books of business where we didn't acquire the corporation.
"We began doing that in 1992 when we purchased three blocks of business in California. We've done start-up operations, although that's a tough road to hoe. We're doing two acquisitions this year, one a flat-out acquisition and the other a merger. We have doubled the size of where we were two years ago, and we believe we will double again in the next two years," says Black.
Black's experience has been a profitable one, but other wholesalers might decide to become acquired by a larger entity rather than do the acquiring. "The hardest thing is to blend two businesses together and get one culture. Can the smaller, local guy survive? I think so. But there are perpetuation issues to be considered. Not too long ago, there were four or five wholesale markets while today there are more than 20. Years ago, the insurance marketplace was fairly predictable, and if you were taking in a couple of million in revenues, it wasn't too bad. But franchise value has decreased.
"I've seen agencies," continues Black, "where the principals are taking out 30% of revenues as compensation. There's no way to scale up an agency like that because most of the money is being taken out in compensation. There's no franchise value left to the business. At Black/White, we are taking out less than 7%, but still making more money because of increased revenues. And the business is growing."
Another investment that Black believes is important for the MGA in today's insurance environment is technology. "I've seen surveys that show the average wholesaler/company is spending about 2% of revenues on technology. We're spending 7%. If an agency has not been investing in new technology from the start, it's almost impossible to begin flat-footed," he says.
The buyer of insurance is also affected by merger mania. Last year, mergers were concentrated primarily in the telecommunications, banking and insurance industries. This year, experts predict there will be increasing merger activity among pharmaceutical firms, high-technology firms, the health care industry, utilities and energy. Many of the companies within these industries are clients of MGAs, and their activities in the M&A area are bound to have an impact on the MGA community.
Where it all will end is anybody's guess, but it is certain that MGAs that want to be a part of the new rapidly changing world will have to grow as well. *
©COPYRIGHT: The Rough Notes Magazine, 1999