Gallagher Sees No Benefit From Fee Scandal

The bid-rigging scandal that has rocked the commercial insurance industry and its largest competitor, Marsh, has not benefited middle-market broker Arthur J. Gallagher with significant new business, but Marsh buyers are investigating alternatives, the firm revealed.

J. Patrick Gallagher, president and chief executive officer of the Itasca, Ill.-based broker, said the firm has not picked up new business as a result of the contingency fee and bid-rigging scandal, stemming from allegations by New York Attorney General Eliot Spitzer and others. He added that middle-market customers are not showing much concern over the issue.

Speaking during an analyst’s conference call to discuss the firm’s fourth-quarter and year-end results for 2004, he said the firm has received a lot of invitations from prospective clients, but it has not translated into many new accounts. “We have been invited to an awful lot of request-for-proposal presentations, which at this point has not generated any new, significant organic growth,” he said.

“There’s an awful lot of looking going on some kicking the tires here and there,” said Mr. Gallagher, but the brokerage has not picked up the large accounts that are the mainstay of Marsh, Aon and Willis, he added.

“Just last week we had seven people on an airplane, from various offices, coming together a solid team making a presentation across the entire spectrum of a client’s account, and they told us they were very, very impressed,” he said. “They were so impressed that we are not actually going to get any of their account.”

He said the firm’s main business continues to be the middle market. With the recruitment of new people, and the existing sales team, “organic growth opportunities should be very, very good.”

For the fourth quarter, Gallagher reported that revenues increased 6 percent ($21.4 million) to $386.9 million. Net income was off slightly, dropping from $49.2 million, or 53 cents a share in 2003, to $49.1 million, or 52 cents a share.

For the year, net income rose 29 percent ($42.3 million) to $188.5 million translating into $1.99 (up from $1.57) a share. Revenues rose 17 percent ($216.5 million) to $1.48 billion.

Gallagher said part of its revenue stream in the fourth quarter included $8.2 million in contingent commissions, which the company said it will no longer accept as of this year. However, carriers are under contract to pay the balance of the 2004 commissions due to the firm this year.

Mr. Gallagher said carriers plan to live up to these agreements, some saying they would pay the commissions during the first quarter, while others are holding the monies in escrow accounts. The firm pulled in more than $30 million in contingent commissions during 2004, executives said.

The commissions are not a revenue stream the company depends on, Mr. Gallagher noted. However, he said, carriers recognize this is income the broker should receive for its efforts, and after “the dust settles and the regulations become clear,” the carriers will find suitable avenues to compensate brokers, which could include increased commission percentages.

Mr. Gallagher said he sees a future trend where large accounts will look to break up their accounts among brokerage houses.

On legal issues, an internal investigation revealed no abusive practices related to contingency fees, although the broker still continues to cooperate with investigators and regulators in 15 states and is the defendant in eight private lawsuits related to the issue.

While not having a figure for the year, Mr. Gallagher indicated that regulatory and legal costs are taking a bite out of revenues. He said compliance with Sarbanes-Oxley financial disclosure rules has cost $6 million, while dealing with all the legal and regulatory issues in the fourth quarter came to approximately $2 million.

Gallagher also revealed that it is in the middle of a suit over its synthetic fuel business where Headwaters Corp., an alternative fuels company, based in South Jordan, Utah, is seeking $140 million in damages from the broker.

Douglas K. Howell, vice president and chief financial officer, said the suit involves allegations that Gallagher’s synthetic fuel division used Headwaters’ patented chemical techniques. He said Gallagher denies the allegations and was surprised by the amount Headwaters is seeking. Gallagher has filed a counter claim of $71 million. The case is going to trial soon and a result is expected next month.

Earlier, the company declared a quarterly cash dividend of 28 cents per share of common stock payable on April 15 to shareholders of record as of March 31.

Reproduced from National Underwriter Edition, January 27, 2005. Copyright 2005 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.