Expert Commentary

2012 Mergers and Acquisitions Valuation Outlook

This article is an update to my December 2010 article, Mergers and Acquisitions Market for Property and Casualty Insurers, which provides an overview of recent trends in the mergers and acquisitions (M&A) market for the property and casualty (P&C) insurance industry.

Valuation of Insurance Organizations
August 2012

The impact of recent industry trends and political and economic factors that might influence transaction activity and valuations in the P&C industry are discussed below.

Analysis of Multiples

Generally, an acquirer will examine the multiples of publicly traded companies operating in the same industry when determining a reasonable value of the potential target. Figure 1 highlights the trend in forward price-to-earnings (P/E) multiples of domestic, publicly traded companies operating in the P&C industry.

Average Forward P/E Multiples for Publicly Traded P&C Insurers

Furthermore, an acquirer also may analyze the multiples implied by transactions involving companies engaged in the same industry as the particular target. Figure 2, which compares the average implied P/E multiples using the latest 12 months' earnings, as forward earnings were not available, for transactions in the P&C industry from 2009 to 2011.

Implied P/E Multiples for Acquired P&C Insurers*

The recent upward movement in both the forward market multiples for public P&C companies and implied transaction multiples was likely influenced by several prominent industry trends as well as certain political and economic factors, as discussed below.

Overview of Industry Trends

Profitability improved in the first quarter of 2012, partially due to a marked decrease in catastrophe losses. From the first quarter of 2011, catastrophe losses for the P&C industry fell by $4.3 billion to approximately $200 million in the first quarter of 2012. Concurrently, net income rose by $2.3 billion over the first quarter of 2011 to $10.1 billion.1 With the improved profitability, P&C insurers have begun seeking to utilize excess capital to expand their enterprises and improve efficiencies. Many are targeting domestic and international expansion of core businesses, while also divesting noncore businesses. Furthermore, as a result of the improved conditions, distressed sales of businesses, while still driving deal activity, are becoming more limited to specific regions.2 Generally, increased profitability is a sign of improving health for the P&C industry.

Pricing of policies is another indicator of health in the industry and an important consideration in strategic planning of P&C insurers. A season or cycle of low prices is referred to as a soft market, whereas a time of high prices is referred to as a hard market. According to an industry analyst, "the Great Recession compounded the already-soft pricing cycle and hampered growth by hurting firms' investment returns." Hard pricing cycles generally are brought about by catastrophic losses and poor investment returns, as occurred in 2009 and 2010. However, due to the poor economy, firms were required to continue lowering prices to retain price-conscious consumers and businesses, thus perpetuating the soft market.3

Soft markets generally slow M&A activity, whereas hard markets generally accelerate activity. The trend of higher implied transaction multiples seems to indicate a willingness to pay more for historical earnings, generally an expectation of future improvement, which can signal a coming hard market.

As discussed above, improvements in profitability as well as hard market conditions tend to increase consolidation in the P&C industry. Expanding market share as well as providing a more comprehensive service offering can also be common motivations for consolidation. According to one report, "buyers are seeking strategic opportunities to acquire or consolidate companies, books of business, or underwriting teams with expertise in specialty business lines."4 P&C insurers led the total disclosed deal value of insurance M&A activity in 2011, with approximately 57 percent of the total disclosed deal value of $7.4 billion.5 Potential buyers are seeking to capitalize on the availability of targets to bolster their operations, and the recent soft market may have caused many companies to underperform, despite strong underlying characteristics, making them attractive acquisition targets.

According to Christopher Ezbiansky, head of M&A Advisory—Americas, GC Securities, "Over the past 18 months, acquirers have increased their focus on small to midsize specialty, niche businesses that can be easily integrated into larger platforms." Specifically, targets located in "unique market segments" or offering "specialized products" are the most sought after.6 Based on recent trends, the enhanced desire to expand operations appears to have had a positive impact on multiples in the P&C industry.

Economic Factors

Over the past several years, the economy has fluctuated between growth and recession, with a slight economic recovery that slowed in the second half of 2011 and added to uncertainty. Much speculation remains surrounding the outcome of the U.S. presidential election, as well as the resolution of the European debt crisis. As such, the economy has remained stagnant, and buyers of insurance products and services continue to be negatively affected by the volatile economic conditions that have also affected the P&C insurance industry.7

Due to instability in the capital markets, risk and capital management have become more difficult. Furthermore, premium rate adequacies as well as loss reserves have declined over the past several years. For P&C insurers to maintain operations, a flexible, strategic management approach might be necessary to combat the fluid economic environment.8 M&A activity may react quickly to signs of economic improvement, as well-managed P&C insurers will seek to deploy capital and increase market share that was previously lost.

Political Factors

Uncertainty for P&C insurers continues related to legislation and federal regulation. One concern is potential change in the capital adequacy requirements, which generally prompts strong reactions in the industry, as they affect an insurer's ability to write policies. This factor is expected to become increasingly important during 2012 as state regulators continue to evaluate capital levels to determine the appropriate requirements.9 Furthermore, uncertainty surrounding the impact of the Patient Protection and Affordable Care Act will continue to affect consumers. Many consumers may choose to delay major purchasing decisions, such as P&C insurance, until more clarity arises after the next U.S. presidential election.

Additionally, the Economic Growth and Tax Relief Reconciliation Act of 2001 and the Jobs and Growth Tax Relief Reconciliation Act of 2003 enacted under President George W. Bush are set to expire in December 2012.10 Generally, P&C insurers benefit from expanding consumer disposable income, as consumers may more often choose to purchase items that must be insured, such as houses and vehicles. As such, uncertainty surrounding future disposable income has a dampening effect on the P&C insurance industry.


Premium growth is not expected to increase significantly during 2012, which would have a negative effect on profitability.11 As mentioned above, premium growth has been dampened by soft market conditions persisting over the past several years. Uncertain economic recovery may create a complicated operating environment for the management teams of P&C insurers, specifically decisions related to "pricing and reserving."12 As mentioned above, maintaining a flexible enterprise may be necessary to take advantage of any improvements in market conditions.

Also, difficult macroeconomic conditions as well as an uncertain governance and compliance agenda may continue to dampen M&A activity in the P&C insurance industry. While new risk management requirements have yet to be implemented, it is anticipated that these requirements will shape risk and capital management strategy going forward.13 Also, investment yields are expected to remain low, reducing return on equity to similar levels that preceded the last hard market.14

Overall, while the external factors affecting the P&C insurance industry remain mostly negative, the enhanced profitability as well as increased valuation multiples placed on P&C insurers reflect positively for M&A activity in the industry. Improvements in macroeconomic conditions or reduced regulatory uncertainty could prompt more M&A activity in the P&C insurance industry.

1"P&C Insurers Breathe Sigh of Relief After A Profitable Q1," Mark Ruquet, PropertyCasualty360, July 28, 2012.

2"The insurance industry in 2012," PriceWaterhouseCoopers, 12.

3"Property, Casualty and Direct Insurance in the US," IBISWorld, July 2012.

4"Balancing uncertainty and opportunity 2012 US financial services M&A insights," PriceWaterhouseCoopers, March 2012, 18.

5"Balancing uncertainty and opportunity 2012 US financial services M&A insights," PriceWaterhouseCoopers, March 2012, 19.

6"Merger, Acquisition Activity Remains Muted in 3Q," GC Securities, November 23, 2011.

7"Global insurance markets outlook for 2012 – US property-casualty insurance outlook," Ernst & Young.

8"Global insurance markets outlook for 2012 – US property-casualty insurance outlook," Ernst & Young.

9"Property, Casualty and Direct Insurance in the US," IBISWorld, July 2012.

10"U.S. tax cut votes prelude to bigger 'fiscal cliff' fight," Kim Dixon and Donna Smith, Chicago Tribune, July 23, 2012.

11"Global insurance markets outlook for 2012 – US property-casualty insurance outlook," Ernst & Young.

12"Property-Casualty Forecast & Analysis," Conning Research, January 23, 2012.

13"Global insurance markets outlook for 2012 – US property-casualty insurance outlook," Ernst & Young.

14"Property-Casualty Forecast & Analysis," Conning Research, January 23, 2012.

Opinions expressed in Expert Commentary articles are those of the author and are not necessarily held by the author's employer or IRMI. Expert Commentary articles and other IRMI Online content do not purport to provide legal, accounting, or other professional advice or opinion. If such advice is needed, consult with your attorney, accountant, or other qualified adviser.

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