2017 saw several hundred insurance transactions, with more than 100 private equity investments. These include mega deals like Caisse and KKR’s $4.3 billion deal for Onex’s USI Insurance business and smaller transactions by any number of other firms. It is clear that private equity firms have an appetite for growing their insurance portfolios. And the market is still ripe with targets.
Choosing a balance sheet or net income play
Carriers always impress with their high revenue and potential for generating outsized net investment income. However, these balance sheet heavy companies have significant regulatory overhead and large capital requirements, factors compounded by the challenges of the current low interest rate environment. While some PE firms will choose to enter this section of the market, it requires specialist knowledge to navigate properly.
On the other hand, brokers and agencies, essentially commission-driven sales organizations, are comparatively light on regulation, have limited capital requirements, and can grow through merger quickly. They parallel other sales driven organizations that PE firms are generally more familiar with. Given this, agencies and brokers should be the most active sub-segment for investment activity in 2018. With add-on acquisitions providing a clear path to growth, mid-size companies will look to private equity to fuel growth on their platforms.
Laying the foundations of a good platform
Many investors will be looking for a “platform play”, a company they can use as a basis to expand geographically and then add on other acquisitions as multiples generally increase as revenue increases. The following three items are key to success for a strong platform play:
- A differentiated sales approach: Brokers and agencies rarely have an exclusive arrangement with a carrier. As such, they compete with others offering exactly the same product at the same price point. Differentiation in sales tools, supporting technology, or analytics is often the key to winning and retaining clients.
- A single agency management system: With many targets already being a combination of firms, finding one that has already invested in consolidating most of its acquisitions onto a single sales platform provides a solid basis for further growth without incurring substantial cost up front.
- A clear integration strategy: In order to execute a series of acquisitions quickly and also realize synergies, the platform should have a clear plan for integrating infrastructure, key systems (e.g., AMS, GL, CRM, HRIS), and client facing reporting.
While system consolidation and integration plans are relatively easy to assess, differentiation is complex and challenging. Many companies claim that a particular technology is a differentiator, and assessing the validity of that statement is not simple. Technology can help boost retention, improve sales win rates, or reduce operations and back office costs. Here are a few things to look for when trying to determine the level of differentiation:
- Strong win rates: With pricing being relatively standard, the levers for the sales team are often better targeting and improved pitch decks. If a company has technology that helps improve win rates, you should see junior sales staff with win rates that are only slightly lower than more senior producers. A sales team like this will have lower SG&A costs, excluding commissions.
- High retention rates: Strong sales is not as beneficial as it could be if the retention rate is low. Technology that helps with retention should be evidenced by 90-95% renewal rates, with no significant drop in Year-1 renewals.
- Impactful analytics: Fee-based services can account for up to 50% of revenue at the largest brokers. Analytics can be monetized, if they are advanced enough. Whether assessing population health for an employee benefits company or identifying behaviors that drive up risk, impactful analytics enable clients to get informed and take control. You can determine the value of analytics by looking at client retention rates and fees for advisory services.
Maximizing the return on investment
Every private equity firm carefully assesses ROI. Within the lens of brokers and agencies, the best focus area is on how an increased dollar of spend (technology, staff, or commissions) translates to increased revenue. By identifying the levers at play, assessing the points of differentiation, ensuring that those differentiating areas provide real results, and investing further, PE firms can improve their long-term performance.
However, firms should be careful of the cost of failing to integrate fully and quickly. With agencies often being family owned or closely held and grown within a single generation, the supporting technology and infrastructure can be messy. Buyers should have a clearly defined target operating model and aggressively move acquired businesses onto those platforms. Often, these are best in class systems like Vertafore Sagitta, Applied Epic, Salesforce, and Vertafore BenefitPoint. Sometimes they are custom platforms built on top of Dynamics CRM or Salesforce. And while standardization onto these best in class platforms may reduce claims of differentiation, it may not reduce or impact actual differentiation as perceived by the market.
When integrating add-on acquisitions, buyers should move to integration infrastructure shortly after close, and migrate CRM, AMS, GL, and HRIS within 90 days (with leading companies doing it in as little as 45 days). Any remaining applications should be aggressively migrated as soon as possible thereafter to control costs and maximize process efficiency.
Choosing the best opportunity
With so many agencies and brokers, choosing the right acquisition can be complex. After passing initial financial filters, using the technology and differentiation filters above can help narrow the field to viable candidates to build a platform play. By refining the integration model and aggressively pursuing an acquisition strategy, PE firms should continue to be able to make a strong return in the insurance sector for the foreseeable future.