NEW YORK—The revelation that Willis Group Holdings Ltd. attempted to acquire its much larger rival Marsh & McLennan Cos. Inc. three months ago is generating mixed reaction from the insurance community.

While some say such a deal is possible, since it involved financing from private equity powerhouse Kohlberg Kravis Roberts & Co., others say regulators likely would not have approved such a merger considering that the combined brokerage would control an estimated 40% of the marketplace.

At the same time, MMC's rejection of Willis' offer did not surprise many observers, who say there may be more shareholder value and incentive in MMC building itself back up rather than selling at this time.

At least one analyst noted, though, that MMC management will be under more pressure now to turn things around since there is a bid on the table.

MMC continues to face challenges following New York Attorney General Eliot Spitzer's 2004 fraud and bid-rigging lawsuit against the company and the resulting $850 million settlement. While the company has instituted new management and a variety of business reforms and restructuring efforts over the past two years, it continues to face client retention issues, mixed financial results and a stock price that has not recovered from its drop after the Spitzer investigation.

Shares of MMC closed at $28.28 last Friday, compared with its 2004 high of $49.69.

In an apparent move to capitalize on MMC's challenges, Willis extended an informal offer to acquire the New York-based brokerage, a source familiar with the offer confirmed last week. The source would not say how much was offered, but a Citigroup analyst estimated that MMC could garner $33 a share in a takeover.

Based on that estimate and the more than 550 million outstanding shares of MMC common stock as of July 31, an all-cash deal could have been worth roughly $18.2 billion. If the offer included Willis stock and the assumption of debt, though, the purchase price could have been significantly lower.

The deal included financing from KKR, with which Willis has a longstanding relationship, the source said.

KKR purchased Willis in 1998 and took it private before raising $270 million in an initial public offering in 2001. KKR eventually sold its shares in Willis, although it still has a seat on Willis' board. Compared with its IPO share price of $13.50, Wills' shares have soared, closing at $37.55 on Friday.

After an exchange of letters between the companies, MMC rejected Willis' offer, the source said.

A spokesman for Willis said the brokerage does not comment on market speculation. An MMC spokeswoman declined to comment. A spokesman for KKR did not return phone calls.

More than five times larger than Willis, MMC reported $11.65 billion in total 2005 revenues and is the world's largest insurance brokerage with brokerage revenues of $10 billion. Willis, on the other hand, reported $2.27 billion in total revenues in 2005 and is the world's third-largest broker with $2.19 billion in brokerage revenues.

Despite the size difference, many observers say such a deal is credible.

"It is credible in the sense that Willis' management and KKR have a long history and a very successful history working together," said John L. Ward, chief executive officer of Cincinnati-based Cincinnatus Partners L.L.C., an advisory firm that specializes in the insurance industry. "I fully believe that KKR would have an interest in backing Willis and that Willis would have an interest in making an informal offer for Marsh," he said, noting that a potential MMC acquisition is not that large of a transaction for KKR.

"KKR is experienced in identifying and acquiring undervalued and/or troubled companies, fixing and flipping them," said Timothy J. Cunningham, a principal in the insurance brokerage advisory firm OPTIS Partners L.L.C. in Chicago. "Given KKR's prior history with Willis, its turnaround expertise and deep capital resources, and given Willis' skills on the distribution side, such a deal is very believable."

Cross-selling opportunities

The source close to the offer said that part of the motivation behind the bid was Willis' desire to capitalize on cross-selling opportunities it saw within MMC's various operating units, including Putnam Investments and Mercer Human Resource Consulting. Cross-selling is a key feature of Willis' sales culture that Chairman and Chief Executive Officer Joe Plumeri implemented when he joined the brokerage six years ago.

While MMC's turnaround plan under its new management also calls for a more integrated and seamless structure within the organization, analysts have questioned whether MMC's operating units would perform better and be worth more as stand-alone companies.

Michael G. Cherkasky, president and CEO of MMC, rejected such an idea during MMC's second-quarter analysts call in August, saying "it's too early in the recovery process for us to discount what we think are the substantial advantages of being one company."

MMC announced a month later that it was exploring alternatives for Boston-based Putnam (BI, Sept. 25). That move followed earlier divestitures of other noncore units within MMC, including its wholesale unit Crump Group Inc. and its majority interest in claims management firm Sedgwick CMS.

Observers said they were not surprised that MMC rejected Willis' offer.

"Marsh has been through a lot in the last couple of years. But their problems are largely behind them at this point, although challenges remain," Mr. Ward said. "From Marsh's point of view, there's a lot of upside to continuing to tackle the problems and build the franchise back up."

MMC divesting some of its noncore operations "is a much more likely outcome from this than a re-up of the Willis/Marsh discussion," he said.

Keith F. Walsh, an analyst with Citigroup Research in New York, noted in a report last week that while he deems such a merger as "credible," he does not believe MMC's management "is interested in a near-term combination, as they view margin issues as fixable."

"From MMC's point of view, my guess is that the approach was viewed as neither timely nor appropriate," said John Wicher of San Francisco-based John Wicher & Associates Inc., which provides consulting and investment banking advisory services to the insurance industry. "MMC has spent its time in the penalty box, dusted itself off, seems focused on executing its plan for a proper value proposition with its customers and markets, while selling assets that are not strategic priorities. There's never any certainty, but the shareholder may be better served by staying on the MMC pony as compared to selling as full value might not be realized for another six to eight quarters."

Other observers point out that a combined firm would hold an estimated 40% market share and, even if the deal were made, it likely would have found an unfavorable reaction from regulators and the marketplace.

"You put that much power in terms of market share in the hands of one brokerage firm, I think it's just going to raise regulatory eyebrows...especially in the wake of the Spitzer investigations," said a spokesman for the Property Casualty Insurers Assn. of America in Des Plaines, Ill.

"We believe the Federal Trade Commission, customers and property casualty companies would have a problem with this proposed merger," Credit Suisse analysts wrote in a report last week.

"It would have been a difficult transaction to have sold to the marketplace and the regulatory community," said Mr. Ward.

Other analysts, citing MMC's current position, did not rule out an acquisition in the future.

"I don't think it's unlikely," said Gretchen Roetzer, a credit analyst with Fitch Ratings in Chicago. "One thing we know for sure it that Marsh has been looking for options, including Putnam and whatever else is on their list," she said. "Things need to be improved upon (at Marsh). How do you get there? This may be a reasonable way to do it--maybe not the best way, but it is one way."

MMC's board could change its view on selling the firm, noted Cliff Gallant, an equity analyst with Keefe, Bruyette & Woods in New York, who issued a report last week discussing the potential for a combined brokerage he called "The Marsh Willis Cos." "The benefit to selling is that you'd realize some immediate value" while giving up some of the long-term potential, he said.

"It depends on how things go over the next year," Mr. Gallant said. If management cannot realize value, the board might feel like it needs to go in another direction.

"Knowing there's a bid out there, I think it does put pressure on the current team to do something," he said.

In his report, Mr. Gallant envisioned a deal scenario where MMC shareholders would receive 0.47 shares of Marsh Willis stock for each MMC share, plus $12.50 in cash, while Willis shareholders would receive 1.0 share of the combined brokerage's stock for each Willis share. KKR would pay $4 billion in cash for 19% ownership of Marsh Willis, which would assume all debt.