The Deal: M&A for insurers Waits for Fewer Catastrophes

NEW YORK (The Deal) -- Dealmaking in the insurance sector remains anemic but bankers are pointing to signs of an uptick.

An average deal value of $1.43 billion in the U.S. property and casualty insurance sector for the year to date lags the six-year average of $5.36 billion since 2006 before the credit crisis, according to financial data provider SNL Financial LC, while deal numbers at 27 are below an average of 33 over the same period.

Uncertainty over the economic outlook and an unwillingness to realize a fall in book values has caused dealmakers to sit on their hands.

But bankers point to the prospect of rising interest rates and the ongoing soft premium cycle as potential deal triggers. A soft market refers to one where stiff competition and excess capital make it difficult to push through premium increases. "In a softer insurance market M&A can be the catalyst to get scale, take out costs and increase geographic reach," Macquarie Capital managing director Dan Miller said. "A soft market can drive the M&A needle if organic growth isn't a lever."

Deloitte Consulting actuarial, risk and analytics global practice leader David Foley notes that many buyers cannot meet the price expectations of sellers, which have suffered falls in book value. But he says potential buyers may increase their pricing in the absence of a bad catastrophe year. "You may now see more companies use excess capital to make acquisitions," he says.

The last major catastrophe year was in 2011 when the Japanese tsunami and the subsequent damage to the country's Fukushima Daiichi nuclear power plant, U.S. tornadoes and Hurricane Irene, Australia's Queensland flooding and the New Zealand earthquake enabled insurers to bolster premium pricing. That meant a "hard market," which is traditionally linked to less deal activity as organic growth is easier to come by. Some pundits say the sector has not been in a soft market for a sufficiently long period to trigger further consolidation. Factors such as rising bond yields -- which depress the return on insurers' investment portfolios -- could also see them pursue other growth strategies.

Some companies are vocal about their appetite for deals. Insurer and reinsurer ACE Group ( ACE) CEO Evan Greenberg told investors during an earnings call in April that they were better off for the insurer's decision to spend $4.6 billion on takeovers in the past five years rather than buying back stock. Greenberg noted the internal rate of return on the deals completed from 2008 to 2012 was 17% as against 11%, which he claimed was the rate of return a similar amount of share repurchases would have generated.

Property and casualty player White Mountains Insurance ( WTM) has also been acquisitive, scooping up smaller runoff subsidiaries from larger players, including its acquisition of American Fuji Fire and Marine Insurance in April and the takeover of other small entities from American International Group ( AIG) along with the purchase of Empire Insurance Co. from Leucadia ( LUK). Bankers say ongoing deal activity is most likely to be concentrated among insurers between $50 million to less than $1 billion in size.

Meanwhile, reinsurers -- the insurers to insurance companies -- are also positioned with excess capital. "M&A in the reinsurance sector is going to increase in the next 18 months," Foley said. Miller agrees but notes the challenge of combining large and complex entities in the sector. Other bankers are more circumspect, noting the sector largely consolidated after the catastrophes of 2011 but do not rule out the prospect of more activity.

This month RenaissanceRe Holdings ( RNR) sold its U.S.-based weather and related risk management unit to MunichRe Group for an undisclosed price, while Validus Holdings ( VR) has been an active acquirer, most recently buying Flagstone Reinsurance Holdings SA for $623 million last November after losing a drawn-out fight to acquire Transatlantic Holdings. Banks are also entering the arena, with Goldman, Sachs ( GS) in May selling the majority stake in its reinsurance business to high-net-worth clients and institutions for an undisclosed price as it bolsters its capital position to meet new regulatory requirements.

-- Written by Jane Searle in New York

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