While they are still a long way short of the pre-crisis peak levels, insurance M&A deal volumes and values have increased steadily over the last four years. In 2012, for example, deals came in 15% up on the previous year and 2013 looks set to continue the trend, with the value of deals done in the first half of the year more than double that in 2012 (see Figure 1).
Figure 1: Europe, Middle East and Africa (EMEA) insurance M&A trends. Source: Mergermarket data.
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Further signs of renewed confidence among senior deal makers have recently emerged in a Towers Watson/Mergermarket report (Surviving the perfect storm: The outlook for insurance M&A in EMEA), which found that seven out of 10 insurance executives with M&A responsibilities expect to be buyers in the next three years, compared to just four out of 10 who have completed a transaction over the last three years. Overall, nearly 80% of the survey respondents said they expected an increase in M&A activity in the insurance sector over the next one to three years.
Is this good news for insurers with spare cash and capital? Many of whom may have seen their growth and diversification plans stalled by poor underlying economic conditions in recent years, making organic growth difficult.
The answer isn’t entirely straightforward. Accompanying the optimism about the macro-environment, early indicators of a shift away from a market of distressed sales and opportunistic value purchases are showing through. Notably, only 20% of the executives polled expect their businesses to make a divestment in the next three years, down from the 34% who said they had completed such a transaction in the last three years.
Could this be an early sign of increased competition for assets and the market starting to turn in favour of sellers once more?
Figure 2, below, shows Towers Watson’s M&A Differential, indexing (-1,1) the relative proportion of those seeking acquisitions to those seeking divestments. Where in the last three years there has been a rough equilibrium of buyers and sellers, the next three years shows demand may far outstrip supply, which if realised, will result in a strong seller’s market.
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Figure 2: Index of relative proportion of buyers to sellers. Source: Analysis based on Towers Watson/Mergermarket survey.
Fertile ground
After all, much of what makes insurance fertile ground for M&A has changed little during the economic slowdown.
– Growth. There remains a healthy crop of multinational and regional players with growth ambitions. In the life insurance sector, there are still many relatively large markets with limited product penetration, while certain distribution channels, such as bancassurance, have seen healthy growth in selected markets.
– Consolidation. Despite its maturity, the insurance sector across EMEA remains fragmented. Even in the concentrated UK market, there are a number of small and medium-sized businesses that could be likely takeover targets. Across Europe, and in particular in Central and Eastern Europe (CEE), the need for significant consolidation is evident in the industry’s search for economies of scale from the large number of deals in the years leading up to the financial crisis. In part, CEE’s attractiveness is already reflected in the more recent levels of deal making – in the first half of 2013 the region accounted for 26% of EMEA deals by value and 17% by volume, up from 6% and 14% respectively in 2012.
– Regulation. Even after the November 2013 announcement of a compromise deal on the tri-partite Omnibus II agreement that underpins Solvency II, the global and regional regulatory and legal landscapes are still in a state of flux. Notably, the ongoing discussions around the next wave of International Financial Reporting Standards looks likely to ensure that this remains the case for some time to come, making certain types of business relatively more or less attractive to individual firms, especially as they seek to capitalise on potential diversification benefits and capital management strategies.
Understandably, however, confidence to pursue the available opportunities has been in short supply among all but the most committed or experienced acquirers. Pricing gap expectations between buyers and sellers have also remained an obstacle.
Emerging priorities
Executives describing themselves as potential buyers are, unsurprisingly, open to opportunistic acquisitions at the right price, despite some of these concerns persisting, with survey respondents still rating the volatile economic environment as the main potential impediment to future deals. Attractive prices and financing costs, however, are rated bottom amongst the expected drivers of deals in the next three years.
Instead, the report shows deal makers rate economies of scale, geographic or sector expansion and the difficulties of achieving organic growth in established markets as the main catalysts for deals (see Figure 3). Among life insurance companies in particular, the need to pursue economies of scale is the most significant factor behind M&A interest. This may also explain the significant number of companies that say they are considering external capital raising options, although it is not clear that this would be used explicitly to fund new acquisitions or for other purposes.
Figure 3 – Perceived drivers of deals in the EMEA insurance sector. Source: Towers Watson/Mergermarket report.
What and where?
Also enlightening is where respondents expect these deals to be done. With the Towers Watson/Mergermarket report including companies that are not only based in Europe, but those that have significant European operations, many firms display a regional ‘home bias’ for where they are likely to target their M&A activity. However, there is universal agreement that the Asia Pacific region provides the most attractive opportunities over the next three years (see Figure 4).
Despite the fact that Western Europe was rated bottom of the regional attractiveness league, more than half of respondents still say that Solvency II will promote acquisitions. This compares to the less than 10% of respondents who said that concerns about the regulatory environment had pushed them to undertake a significant M&A transaction in the past three years.
Respondents’ region Target region mean rating
Africa Asia Pacific CEE Latin America Middle East North America Western Europe
Americas 3.7 5.1 4.2 4.9 3.8 4.7 4.0
Asia Pacific 3.4 5.1 3.9 4.3 4.0 3.8 3.4
CEE 4.0 5.1 5.3 4.6 4.2 4.1 3.9
Middle East & Africa 4.9 5.2 4.1 4.6 4.1 3.8 3.6
Western Europe 3.7 4.9 4.2 4.5 3.8 3.6 3.8
Global mean 3.9 5.0 4.3 4.6 3.9 3.8 3.8
Figure 4 – How attractive are different regions rated for pursuing insurance acquisitions over the next three years? Source: Towers Watson/Mergermarket report.
In terms of lines of business, term life and critical illness portfolios are regarded as providing the most attractive M&A opportunities, followed closely by unit linked life and pensions products (see Figure 5). Traditional life and pensions books of business are also viewed favourably by over half the survey respondents, while interest drops off quite substantially for the annuities market. This is consistent with companies’ stated preference for capital-lite and risk products, though the relatively high proportion that appear attracted to traditional life (savings) and pensions may be more focussed on the long term pensions market, more so than participating or guaranteed savings-type business. The proportion attracted to annuity portfolios most probably reflects the specialist nature of this transaction market.
Figure 5: Which classes of life business are most attractive for M&A. Source: Towers Watson/Mergermarket report.
Growing competition
In whichever market, or wherever in the world, acquisition opportunities may appear, however, a change since the pre-crisis M&A activity is the likely line-up of potential bidders. Even allowing for the existence of the ‘home bias’ identified in the report, the nature of insurance investment is increasingly borderless.
From a European perspective, for example, nearly 50% of respondents expect that non-European insurance companies will play a major role in EMEA-based insurance M&A. As well as traditional interest from North America, the emergence of powerful Asian-based insurers looking to expand geographically and the growing private equity interest in the sector is expanding the field of interested parties. Some 45% of respondents expect private equity firms to be a driving force behind deal-making.
So, what are the likely outcomes of a raised level of competition for assets and the improving economic situation in some markets?
Touch of realism
One area where acquirers will almost inevitably have to reassess targets is return on capital. The report shows acquirers seeking a global average of15% return on capital, ranging from over 17% for acquisitions in the Middle East and Africa to 14% in Western Europe. Only a limited number of targets will likely generate such high returns. Especially when looking at consolidation in developed markets, returns of this level would appear to require large expense savings or other synergies to be delivered – which carry risks in themselves.
Figure 6: Targeted return on investment by geographic areas. Source: Towers Watson/Mergermarket report.
Realism on potential returns aside, there are a number of reasons to expect a real change in the European insurance market as the fallout from the credit crunch subsides. Recent deal and initial public offering (IPO) activity point to an M&A environment where acquisition-minded insurers should feel cautiously optimistic. However, even with a more positive outlook, acquirers need to rigorously manage all stages of the deal cycle, from strategy through implementation, in order to achieve long-term benefits from the combined organisation.
Or as one executive put it: "Beware the bad deals in the good market!"
Fergal O’Shea is the life insurance M&A leader for Towers Watson in EMEA.
