Consolidation Continues: The Squeezing of Wholesale Brokers
Wholesale insurance brokers have been selling off their businesses and it’s not because they are all ready to retire.
As in the retail agency segment, consolidation among wholesale brokerages is being driven by buyers with plenty of money to spend, the fast pace of technological changes and aging owners.
But more wholesalers are also deciding to sell as retail agencies continue to cut back on the number of wholesalers they call upon and independent wholesalers come to fear they will be squeezed out by larger brokers if they don’t become part of larger organizations.
“It’s a very competitive and acquisitive time in our history,” says Tim Turner, chairman and CEO, R-T Specialty, whose parent organization, Ryan Specialty Group (RSG), has been one of the most active buyers of wholesale brokerages in recent years. In 2017, RSG acquired six specialty insurance organizations worldwide and began 2018 with another U.S.-based acquisition.
Turner sees no end in sight to the trend. “There’s a record number of intermediaries that are considering selling and there is an all-time-record number of buyers,” Turner said. “Those two things tell us that you will continue to see a record number of acquisitions in this space.”
Why Buy? Why Sell?
Historically, challenges with succession planning can drive owners to sell, but that’s not the only reason they are selling, Turner said.
He believes change is part of what’s driving M&A activity for intermediaries — change in their roles with their retail agency customers and the growing sophistication of the distribution system and the industry overall.
“Retailers are buying differently today from intermediaries,” Turner said. They are buying from larger platforms because it’s more efficient and makes more financial sense. It’s not just better compensation, either. It’s more efficient for retailers to use fewer intermediaries.
The biggest retailers –Marsh, Aon and Willis– began downsizing the number of wholesalers they use years ago. This trend has since trickled down through the top 100 agencies and is expected to keep going, Turner said.
“The consolidation of the use of intermediaries is heavily concentrated with the top 100 where it’s been happening every day for four to five years,” he said. “We believe the same trend will migrate into tier two and tier three retail agencies for the same reasons. It’s just going to take a little longer.”
R-T Specialty’s most recent acquisition, agrees.
The space available in the market for privately owned, independent wholesalers is getting tighter and tighter, said Edward Berliner, CEO and managing partner of Kerwick & Curran Inc. (K&C), a wholesale brokerage with offices in Tarrytown and Melville, N.Y., that became part of R-T Specialty in January 2018.
“At first it was just the top tier brokers that sent out requests for proposals (RFPs) and consolidated the number of wholesalers they allowed their brokers to do business with,” Berliner said. That sometimes meant consolidating the use of wholesalers from as many as 50 to 100 to just three or four.
When those firms demonstrated that the consolidation led to efficiency and better profit margins, the next tier of brokers followed suit. “Slowly, but surely, it’s getting harder and harder” for local and regional wholesalers to compete as the RFP mentality has spread, Berliner said.
Burbank, Calif-based Monarch E&S Insurance Services, a full-service MGA and wholesale brokerage that has been around since 1986, is another formerly independent wholesale brokerage that sold to a larger and highly acquisitive organization.
In September 2017, Specialty Program Group, a wholly-owned subsidiary Hub International Limited (HUB), announced that it had acquired Monarch E&S.
Derek Borisoff, CEO of Monarch E&S, started running the firm in 1994 and assumed majority ownership in 2001. He said that despite continuous growth and the firm coming off a “record year,” he decided to sell when he recognized the need to become part of a larger team to continue to grow and better serve his retail agent customers.
“The easiest thing in the world would have been to do exactly what we were doing,” he said. “We were having a record year. We have had several years in a row where we’ve had nice steady growth.”
Borisoff told Insurance Journal last September that the consolidation taking place in the industry influenced his decision to sell.
“I could see in the future how we could possibly get forced out of relationships with some of our carriers and forced out of relationships with some of our retail customers,” he said. “There’s massive consolidation both on the retail side and on the E&S side.”
Unlike at many insurance firms, internal perpetuation issues didn’t play a part in Borisoff’s decision to sell. His sons Devon and Spencer work at Monarch and are expected to continue working there.
“I have two sons in the industry and we have a great management team,” he said. “It might have been the easiest thing (to perpetuate internally) but that probably could be the most-risky thing for Monarch, for our people, looking forward. That was certainly a big part of my decision-making process.”
Borisoff said Monarch E&S had been approached by many buyers over the past few years. “Probably about two years ago, I started thinking that we certainly need to be part of a bigger team. That’s why we chose to do what we did,” he said. “As you look forward into the landscape of our industry, you’ve got to be part of a bigger team.”
The decision to sell, or perpetuate internally, is never easy for any owner, Borisoff said. But he believes it’s a decision every independently-owned firm, whether it’s a retail agency or an E&S operation, is going to have to make.
“For me, I saw a need to be part of a bigger team, so we could better serve our retail agent customers. Provide them with more products, have more clout with our existing carriers. Give us enough clout and backing so we can keep bringing in useful carriers to our retail agents. That’s a decision each of my peers will have to make on their own, in whatever timing fits their schedule and fits their needs.”
Borisoff has no regrets. The time had come. “And I’m very happy we made that decision,” he said.
The same drivers of consolidation apply to all sections of the insurance distribution chain — wholesalers, retailers, managing general underwriters, and managing general agencies, according to Timothy J. Cunningham, managing director of OPTIS Partners, an investment banking and financial consulting firm specializing in the insurance industry.
“The dynamics are not terribly different — it’s just that we see fewer transactions on the wholesale side and a lot more on the retail side but that’s the result of just numbers,” he says, noting that the retail segment has far more businesses than the wholesale channel.
Cunningham says that throughout the industry there is a robust pipeline of potential sellers due to demographics.
“Some 30 to 40 percent of privately-owned firms are owned by baby boomers so they are 60-to-65-year-olds looking for an exit,” Cunningham said. “If they haven’t prepared to perpetuate internally their only alternative is to sell.”
Another driver – well capitalized buyers, largely driven by private equity backed firms, Cunningham said.
“The valuations that private equity backed firms and other firms can pay versus what owners can get if they sell the firm internally is fairly significant,” Cunningham said. That is adding to the trend of selling to bigger firms. “Even if a seller group might contemplate an internal transaction (internal perpetuation), they are finding they can get 25-30-40 percent more in the open market, so they are going with the open market (buyer).”
Agency consolidation that has been going on for years accelerated last year and is not expected to slow this year.
According to Optis Partners’ “Agent and Broker 2017 Mergers & Acquisition Update” released this month, there were a whopping 604 reported agency and brokerage transactions in the United States and Canada last year. That was a sizable 31 percent increase over the 461 agent and broker deals in 2016.
While the majority of those transactions involved retail agencies, 34 deals were wholesale brokerage firms, according to Cunningham’s research. (See chart, page 24)
It seems nearly everyone is interested in buying or selling, but the cost to acquire has made it difficult for some potential buyers.
“We are interested in acquisitions and make them every year, but we haven’t made a lot because it’s counter-intuitive to us,” said Alan Kaufman, chairman, president and CEO of H.W. Kaufman Group, which operates Burns & Wilcox, an independent wholesale insurance broker and underwriting manager.
Kaufman cites the high prices as one reason his firm has been slow to acquire recently. Burns & Wilcox has emphasized organic growth and internal development of talent over acquisition growth.
“That’s been our biggest engine for growth as opposed to acquisitions,” said Kaufman.
“Fortunately, as a private company we have the luxury of doing it that way, which in some cases may not be fast enough if you were owned by private equity or public companies.”
Kaufman said his firm is on the hunt for the right-fit acquisition all the time and he’s confident Burns & Wilcox will make more acquisitions in 2018 than in 2017.
“Our acquisition strategy first starts with talent and second with culture,” Kaufman said. “We are not going to make an acquisition that can’t be integrated successfully, even though it might have a nice boost in profits for a period of time, but in the long run would not be successful.”
His confidence in future M&As that fit well with that strategy also stems from current financial market dynamics heading into 2018. He doesn’t see the current pricing craze continuing.
“I think acquisition pricing has peaked, while the amount of firms looking for acquisitions has decreased,” he said. “There are fewer people out there looking for acquisitions but there’s still a big demand of (sellers).”
Like Turner and Borisoff, Kaufman believes there is more behind the merger frenzy than the aging of baby boomer owners.
“Our industry, similar to the retail industry, is highly fragmented,” Kaufman said. “There are a lot of good companies that have been successful but the cost of doing business has significantly increased and will continue to increase.”
That rising cost to operate wholesale firms is driving a need to sell, he said. “There is a shortage of talent, so you are paying a lot more for talent.” Retention of talent is difficult, too, while returns on investment are low because insurance premiums have remained very low. Add to that the skyrocketing cost of technology, and it makes a tough climate to operate, he said.
“Everyone wants to produce and provide services faster, so technology costs are going up, margins or profit are going down. I think it’s forcing companies to have to throw in the towel,” he said. “The only way to survive is to sell.”
Kaufman sees more opportunity ahead to buy other wholesale-only focused firms due to changing financial market conditions. “The cost of money is still very low, so you have a lot of capital out there, but that’s changing. That’s why I think the market has peaked,” he said. Interest rates are going up, and the cost of money for acquisitions and returns will be reevaluated. “The market will change,” he said. As that happens, money will not be such a “free fall” for the insurance world.
“There has been plenty of money out there jumping into the insurance world because there are so few places to place money but that’s changing now.”