Zurich’s Farmers Group Seeks More Fee Income Via Acquisition of 3 Brokers for $760M

Zurich Insurance Group announced that its subsidiary, Farmers Group Inc. (FGI), has agreed to acquire three insurance brokers of the Farmers Exchanges for US$760 million. The deal also includes the Farmers Exchanges’ flood program servicing arm.

The wholesale brokerages – Kraft Lake Insurance Agency, Western Star Insurance Services and Farmers General Insurance Agency – will enable the Farmers Exchanges “to create a more attractive customer proposition with a broader and more compelling range of products and services which are expected to improve customer retention and new customer acquisition,” Zurich said in its Q3 results announcement.

Regarding the flood program being acquired, Zurich representatives explained in an email that the Farmers Exchanges’ participation in the program allows agents to sell flood insurance without the risk of loss exposure because it is 100% reinsured by the federal government. The Exchanges earn a fee for selling and servicing flood insurance with policyholders.

“These are businesses that place risks with other insurance companies for which the exchanges receive commission. We will acquire these businesses, and we’ll receive this commission in future. That will increase the proportion of Zurich’s earnings that are attributable to fee income, which is a feature that we particularly like,” according to Chief Financial Officer George Quinn during a recent media call to discuss results.

The wholesale brokerages also offer alternative insurance options for the more than 7 million quotes from the Farmers Exchanges that are currently not taken up by customers, Zurich indicated.

(Zurich has no ownership interest in the Farmers Exchanges, which comprise three policyholder-owned reciprocal insurers – Farmers Insurance Exchange, Fire Insurance Exchange, and Truck Insurance Exchange. FGI provides certain non-claims services and ancillary services to the Farmers Exchanges as its attorney-in-fact and receives fees for its services.)

Components of Brokerage Deal

Quinn explained that there are two key components to the transaction. First, there are the existing brokerage businesses that place risks with other third-party insurers – risks that are outside the Farmers Exchanges’ risk appetite and that Zurich will not underwrite in the future.

Examples of these risks could be high nat-cat exposed business such as coastal home or specialist motor business, Quinn said.

“As you can imagine, there’s quite a bit of demand for that type of coverage. It’s got a risk profile that would be inconsistent with the Farmers Exchanges’ ambitions for cat exposure,” he said during an analysts’ call to discuss Q3 results.

“But there are obviously a number of specialist insurers that have got appetite for this and will pay … the businesses that we’ve acquired for originating this for them.”

That brokerage business has been around for a long time and has been growing rapidly over the past three years, the Zurich representatives said.

“We expect it to continue to grow rapidly and of course that’s important to support the purchase price that we’re paying,” Quinn said during the media briefing.

A further fee income stream will come from something new that the Farmers Exchanges trialed this year: business that enables the brokerages to make an offer to a third-party insurer if the customer doesn’t accept a Farmers Exchange quote — an arrangement that provides the Exchanges and brokers with commissions.

“Those trials look good, they look interesting. For us, that’s a harder part of the business to value and we’ve agreed with the Exchanges that in the event that things don’t turn out as we would expect at this stage, we have the potential to claw back some part of the purchase price,” he said.

“Having said that, the opportunity looks to us to be significant. It’s a new activity of the Exchanges and we think it’s interesting for us because of the fee income, but it’s particularly interesting for the Exchanges because of the benefits that it would bring their agents.”

The deal includes established brokerage businesses at a multiple that is completely consistent with market transactions, he said. “The other one is newer, looks really interesting, but we have deal protection around that second piece.”

Quinn said the agreed purchase price represents approximately 18 times EBITDA for the existing business, an additional payment for the value of the tax attributes and a further payment related to the fee stream on the new alternative insurance options.

Ownership of the brokerages will ensure FGI maintains and broadens its position in supporting the Exchanges in meeting customers’ needs while generating an additional capital-light stream of earnings for FGI, Zurich said.

“Given our general affinity for fee-based businesses, it’s something we like. In terms of further transactions … if we could find ways to expand fee-based businesses, we would,” Quinn said during the analysts’ call.

Subject to regulatory approval, the transaction is expected to close towards the end of this year or early in 2024.

Quinn said that no agent salesforce is being acquired as part of the deal because the three wholesale brokerages work with existing exclusive agents.

For the first part of the deal (involving the placements outside of the Exchanges’ risk appetite), business flow comes from the exclusive agents to the broker and then on to a third-party insurer. The exclusive agents to the brokers also handle the business derived from quotes that Farmers’ customers do not accept but are offered to third-party insurers.

So there is “no agent gain, no agent loss as part of this,” Quinn said, noting that it creates a new commission stream for both the agents and for the wholesale businesses Zurich will acquire.

Regarding Zurich’s Q3 results, the insurer said property/casualty insurance revenue was up 9% on a reported basis over the same period last year, which was driven by strong growth in commercial and retail insurance, supported by rate increases of 6%. Gross written premiums grew 2% at the Farmers Exchanges, which continue to focus on improving underwriting performance.

In August, Farmers Insurance announced it was laying off approximately 2,400 employees – 11% of its workforce across all lines of business. The company said the moves were being made to better position itself for long-term profitability by creating a more streamlined organizational structure and a reduction in operational expenses.

The purchase of the brokerages is expected to have a positive impact on the Farmers Exchanges surplus ratio of 3 percentage points upon closing, while reducing Zurich’s SST (Swiss Solvency Test) ratio by 4 percentage points.