Seller’s Market

It is no secret that Intact Financial Corporation (IFC-T) is on the prowl for acquisition targets. Other large groups, recovering from the battering they took in 2008, are also on the hunt. There are two questions:

• Has the window for mergers and acquisitions (M&A) already closed for this part of the cycle?

• If not, can acquirers stomach the multiples vendors are demanding?

SHOULD I STAY OR SHOULD I GO NOW?

Insurers on the fence about selling their books in Canada are struggling with weighing the benefits of slogging through a tough market and making it to better times, or selling now while the going is good.

Mergers and acquisitions (M&As) typically happen either when targets are reasonably priced or acquirers have enough ammo. Right now, there are several well-armed groups but few reasonably priced prospects. Further, acquirers that have been traditionally less sensitive to the accretive-ness of their acquisitions are generally in poorer financial shape right now than those that are attentive to the multiples.

BOTTOMING OUT

Multiples will only come down if some insurers hit the wall and weaken to a degree that their owners will be willing to accept less for them. The most likely catalyst for this would be if the belated Ontario auto reforms fail in stabilizing that important market. In such an event, shareholders may finally throw in the towel.

Smaller tuck-in or bolt-on acquisitions, such asThe Co-operators takeover of the CUMIS Group Ltd. (driven mostly by the life/health side), or any acquisitions that result from the disintegration of the Kingsway Canada group, are always possible, as are international strategic M&As involving Canadian subsidiaries.

Also possible are acquisitions affecting commercial writers with the advent of the newly resurgent Fairfax or increased appetite from pension plans such as the Ontario Teachers Pension Plan (OTPP). The OTPP already owns GCAN and has recently announced its intent to acquire AIG’s mortgage insurer, AIG United Guaranteed Mortgage Insurance Company of Canada. Another possibility is a merger between mutuals. There have been a few such mergers among smaller farm mutuals in recent months but not yet between sizable companies.

Figure 1 below shows potential match-ups and their estimated combined market shares (the market shares are based on the entire market including Lloyd’s and government insurers). As you can see from the chart, potential blockbuster, market-changing deals are few and involve companies in the top left quadrant. We marked combinations that are not possible with a ‘NP’ but many other ones are extremely unlikely as well.

It is also important to remember that pro-forma additions of market shares rarely materialize after acquisitions, since competitors do their best to raid books of business and brokers are inclined to diversify their markets. Thus the combined shares shown in the table below should be viewed as ‘optimistic.’

We believe the window for meaningful stock company M&A is still open, but it won’t remain so for long — especially if managers believe that a hardening market and increased profitability will be coming in late 2010 or 2011, driving valuations out of reach.

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Excerpted from the Q3 2009 MSA/Baron Outlook Report released in January 2010. For more information, visit: www.msaresearch.com/outlook

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The window for meaningful stock company M&A is still open, but it won’t remain so for long.