Financing the UK insurance market

    Author: Seb Kafetz, Relationship Director
    Publication date: 19.08.2010

    Financing continues to be available to the UK insurance market, despite the continued turbulent economic environment that shows no signs of respite.

    Clear evidence of the availability of financing at the larger end of the spectrum has been seen through the support that was available for Prudential’s $35bn deal to buy AIA as well as the £5bn speculative bid by RSA for the general insurance assets of Aviva. Whilst the first of these deals collapsed and the second continues to play out, what is key is that both UK institutions were able to secure fully underwritten bids, largely away from the public eye prior to taking the deals to market. As is usual with these large financings, a small amount of key relationship banks were committed to act as equity underwriters, in turn managing to syndicate some of this equity underwriting risk to a large number of international banks. At the same time, global investors including pension funds, investment trusts and life insurers were lining up to take up the equity offering, demonstrating buoyancy once more in the sector and an appetite from both the Banks and investors to support large equity underwritings.

    Whilst these deals would ultimately have been funded from the capital markets, funding has also been made available from Banks to UK underwriters, demonstrated by a plethora of deals including Bupa securing a £900m bank facility and Hiscox a $750m facility in the first half of 2010. In the last 12 months, the number of banks who have traditionally provided finance to this sector have declined, largely driven by many European Banks focusing credit on their home markets. However, there continues to be the capacity to fund the market demand. General lending parameters to underwriters have tightened but continue to be attractive. Guidelines take into account leverage on the balance sheet, which is typically under 35% in order to satisfy rating agency requirements, repayment terms, with 3-year tenure the current norm and exposure to catastrophe risk, with a loss to the balance sheet from a natural catastrophe expected to be less than 20% of net tangible assets. Interest margins peaked in 2009, doubling in many cases but have since come in by at least 0.5% over the last year which has led to increased financing activity. Whilst the majority of financing activity at the present time is either refinancing existing deals or providing capital that could support increased underwriting in the event of a hardening market, a further requirement could be driven by the low equity valuations in the sector, which will result in some public firms assessing the potential to delist and go private. A common way to do this is through a management buyout backed by private equity and bank financing. The current bid by Apollo for Brit Insurance is an example of this. In these scenarios, financing is likely to initially be provided primarily in cash and equity, following which the company would look to undergo a financial restructure by raising debt at the holding company and down streaming to the subsidiary entities.

    Within the broking sector there have been less deals in the UK primarily due to the fact that the majority of participants continue to have significant headroom in deals put together over the last few years, however AON’s $4.9bn US deal with Hewitt associates and Cooper Gay’s merger with Swett and Crawford demonstrate that deals continue to abound in this sector. Historically, the global brokers have used equity financing, bond issuance and bank financing for acquisitions whilst the remainder of the broking sector has been reliant on either Bank financing or the private placement of debt with investment or hedge funds. More recently there has also been evidence of insurers providing funds for acquisitions through the provision of debt to key broking partners. In the run up to the financial crisis in 2007 a number of large banking facilities were provided to brokers on lenient terms, to act as war chests for consolidation. Whilst there has been some utilisation of these sources of funding, this has been slower than anticipated as a result of a decline in the pace of smaller acquisitions and the inability of any of the consolidators to create a sizeable merger. In addition, reducing commissions driven by lower insured requirements from recession stricken clients has created pressure on banking covenants. This, in turn, has resulted in a number of these deals going through a restructuring process which has tightened up the required approvals for acquisition led deals. Whilst it is likely that there will be some further deals, it is also expected that many of the mid-market brokers will be starting to turn their attention to providing some liquidity for their capital providers, who predominantly consist of management alongside private equity. One way to do this would be through company flotations, however the history of brokers on the stock market has been chequered over the last ten years and the market remains a hostile place for new issues. Given that growth for many broking firms remains flat, and this coupled with a presumed discount for financial stocks, using an IPO for liquidity or for increased financing looks very difficult at the present time. Given the above, it is likely that this will itself be an impetus for corporate activity as firms sell subsidiaries, look for new private owners, merge with each other or sell to larger trade buyers in order to achieve their desired aims.

    Source:This article was first published in the Post Magazine.

2/24/2018 10:20:57 PM