March 27, 2014

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Perspectives on Current M&A Trends in P&C Insurance

It would be an understatement to say the demand for P&C brokerages has been strong over the past ten years. In fact one might describe the market as irrationally exuberant at times. Will this exuberance continue? It is my view that demand will remain robust but acquirers are going to start thinking very carefully about their expected return before entering into the bidding wars we have seen in the past.

We have all become familiar with the brokerage rule-of-thumb valuation multiples of say 3X Commission Revenue or 7X EBITDA. Assuming a typical commercial, personal and automobile lines mix and a reasonable expectation to retain most of the customers, acquirers can expect to recover their investment over 9 to 10 years on an after-tax basis. Asking an investor to wait this long for a pay-back is almost unheard of in any other industry. In most small to medium sized businesses a valuation of 3X to 4X EBITDA is common.

Let’s look at what has been driving the high valuations:

  • The key revenue drivers are in-elastic. That is, almost everyone requires insurance, so the demand will remain stable.
  • The industry is mature with little growth. In order to achieve significant growth you have to acquire competitors.
  • Cost are predictable. In most cases wage and premise costs account for over 80% of total expenses, therefore expense risk is low.
  • Financing is easily available. The Bank of Montreal and Domestic Insurers have been providing loans at low rates and patient terms.

If these conditions are still present, which I believe they are, then what would stand in the way of continued high or even higher prices? Here are a couple of ideas that might be worth exploring. First, large consolidators are becoming more disciplined in their approach to acquisitions. They understand the improvements they can make to a particular brokerage operation and will price their offer accordingly. Second, regional consolidators have stretched themselves as far as they want to go and they have become better negotiators. Finally, maybe the collective market feel the prices are just too high and they want a better return given the perceived risks.

In my work I have yet to see significant price declines. What I am observing is changes in the purchase process and the return of terms and conditions that previously were common. For example; future  contingent profit commission  revenue expectations are being lowered; business retention hold-backs are returning; purchasers are focusing on post acquisition cash flow in their pricing strategy; more potential purchasers are walking away from the table if faced with a bidding war or an unreasonable vendor; and finally, harder bargaining on the share purchase agreement representations and warranties.

Understanding current market conditions and the appetite for acquisitions has never been more important. Consolidators continue to show a high demand for commercial or specialized books of business, to  especially if they have good underwriting results. In the quest for growth large Canadian consolidators have also expanded by acquiring wealth management and employee benefits businesses. It remains to be seen if this trend will continue to grow.

A vendors best strategy to maximize the price of a brokerage is to run a well structured divestiture process. Generally the highest price will be achieved if there is competitive tension and deal momentum. While many purchasers claim they won’t get involved in a bidding war, they will participate in a well organized acquisition process that they perceive to be fair. There is no escaping the fact that selling one’s life work is stressful and emotional. You can increase your chances of success by being well prepared.

Are we at the top of a bull market? I say yes. Will prices decline? We will have to wait and see.

Mike Berris CA, CBV is the practice leader of Smythe Ratcliffe’s insurance advisory and valuation practice. Contact Mike at



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