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Acquiring minds

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Acquiring minds

Life/health insurers are expected to continue to lead the U.S. insurance industry in mergers and acquisitions, followed at a distance by property/casualty insurers, industry sources say.

Insurers that provide life/health products dominated the ranks of the Insurance Information Institute's list of the leading mergers and acquisitions reported in 2005 (see chart, page 10).

"I expect there will continue to be mergers in the life/health industry at a pretty steady pace for a while," said Steven Weisbart, an economist with the New York-based Insurance Information Institute.

Those insurers and any others that expect to assume a buyer's role in the future should take steps now to ensure that they perform adequate due diligence in assessing the merits of potential targets so they can avoid the pitfalls that cause deals to fail, according to spokesmen for insurers, consultants and a regulator.

To a strategic investor, mergers and acquisitions should be "simply a tool," said Shamir Bhattacharya, executive vp and chief operating officer with Allianz of America Corp. in Novato, Calif. His extensive experience in acquisitions and joint ventures stems from his previous work at Zurich Financial Services Group in the Americas, CIGNA Corp. and other insurers.

It's important to remember, though, that "a scalpel in the hands of a skilled surgeon can be lifesaving, and in the hands of a butcher, life taking," he said in an e-mail response to questions.

"Mergers and acquisitions are about increasing value for shareholders of all parties involved," Mr. Bhattacharya said. "If done right, mergers can be used to change an industry's competitive landscape," citing companies such as American International Group Inc., Microsoft Corp. and Cisco Systems Inc. that have engaged in frequent acquisitions.

True mergers are rare and occur when two or more entities decide that they would be valued higher if they combine, he said. "That happens when costs are reduced through consolidation and when core competencies, product and geographic mix are highly complimentary," he said.

"Acquisitions occur when the seller values the business differently than the buyer," he said. The seller may not see a future for the business, may lack core competencies to grow it or may no longer view the business as important to its strategy.

On the other hand, a buyer "may view the same business quite differently because it may have a different operating model, access to capital, global presence, unique distribution, complementary products, pricing advantages, cross-sell opportunities, economies of scale" and the need for critical mass, Mr. Bhattacharya said.

In addition, some buyers of life/health insurers seek geographical diversification for products, the III's Mr. Weisbart said.

While reasons behind mergers and acquisitions may vary, their general goal is to create a better alignment of business capabilities and corporate strengths, Mr. Weisbart said. "Companies shed businesses that they were not strong in...and acquire businesses that enable them to further their strengths," he said.

M&A Glass half-empty

Despite executives' efforts, several surveys during the past decade have shown that top executives rated their transactions as totally successful less than 50% of the time, said John O. Nigh, a managing principal of consultant Towers Perrin in New York who is responsible for Tillinghast's mergers, acquisitions and restructuring practice.

Mr. Bhattacharya is more pessimistic, believing that "two-thirds of mergers and acquisitions fail," in that the end results are less than strategists had anticipated or are disasters. "Whether M&A works or not depends on the effectiveness of the business and operating model of the buyer, the quality of its advisers and the breadth of quality experience of the team executing the deal," Mr. Bhattacharya said.

According to Tillinghast's 2003 research, leading reasons for the failure of life insurance-only deals are: not anticipating foreseeable events, paying too much for the acquisition, not achieving the synergies anticipated, general economic conditions or external events, and incompatible cultures.

Problems with "cultural conflicts and management in-fighting" were seen in the highly publicized mergers of Daimler-Benz A.G. and Chrysler Corp. as well as the merger of America Online and Time Warner Inc., Mr. Bhattacharya said. He said other reasons for failure include: a poorly thought through business and operating model, prolonged pricing battles fought in the public arena, the buyer not bringing any value-added capabilities to offset acquisition premiums, and regulatory and political risks.

360-degree perspective

From a regulator's perspective, "some recent acquisitions have suffered because of the inadequate due diligence in the areas of internal controls over policy and/or claims data systems which may include multiple legacy systems and databases," National Assn. of Insurance Commissioners President Alessandro Iuppa said in an e-mail response to questions.

"As regulators we have an opportunity to assess the transaction through the extensive review process to help ensure that current policyholders will not be negatively impacted as a result of the acquisition, whether it is decreased financial security (or) disruption of policyholder services," said Mr. Iuppa, Maine's superintendent of insurance. "We also are concerned about the nature and timeliness of communication with producers and policyholders," he said.

Mr. Nigh urged that executives considering mergers adopt "360-degree due diligence," which he defines as a comprehensive approach that engages the relevant disciplines in order to address all the key issues that are embedded in the target to be acquired.

"These disciplines include actuarial, legal, tax, accounting, underwriting, claims, investment banking, general management, information technology and human resources," Mr. Nigh wrote in an article that he co-authored with Marco Boschetti, a London-based Towers Perrin principal who leads the firm's HR Services Global Merger, Acquisition and Divestiture practice.

When buying a property/casualty insurer, a company needs to be wary of paying a low price for an inadequately reserved company and then having to contribute more cash to strengthen reserves later, which "could easily add up to a disaster," Mr. Bhattacharya said.

In addition, other strategies that P/C buyers use to protect themselves include reinsurance, commutations, reserve adequacy guarantees or a tailored insurance coverage from the seller, he said.

A Good Deal of Improvement

Recent research by London's Cass Business School in conjunction with Towers Perrin found that executives from insurance and other industries engaged in M&A activity had better deal governance, deal selection and a better focus on integration than previous research. As a result, "more M&A deals are now financially successful," the study concluded. It examined 218 deals that occurred in 1988, 1998 or 2004. It studied financial performance for six months before and after the deal closed.

While more M&A activity is expected among life insurers, the situation is different for property/casualty insurers.

Among P/C insurers, "there is no compelling reason to see an uptick" in mergers and acquisitions, said Robert P. Hartwig, senior vp and chief economist as well as the incoming president with the New York-based III.

During the past five years, there were few potential suitors for P/C insurers because prices were inadequate, companies were producing losses and were taking huge reserve charges, he said. In addition, catastrophe losses and investigations by attorneys general in a number of states raised questions about whether companies had outstanding liabilities.

Now, share prices are up for P/C insurers and they are generally are expanding, not consolidating, with new companies being formed, especially in Bermuda, Mr. Hartwig said.