Since late 2008 it's been widely reported that insurance mergers and acquisitions have been down and out. The deal activity that did occur was led largely by a new group of independent agency and private equity-funded buyers that capitalized on opportunities traditional M&A heavyweights had to pass on.

However, optimistic reports from advisors began to surface as early as mid-2009, including a June report from Deloitte that reported "insurance M&A likely to increase in late 2009." Activity has increased in the second half of 2009, and deals are occurring in all buyer segments. Today, both the traditional buyers of agencies and the new group of buyers, including Marsh & McLennan Agency and a new set of private equity-backed firms, are looking for deals, albeit with a refined palette in search of quality.

Down, not out
According to Timothy Cunningham, principal of Chicago-based OPTIS Partners LLC, the pace of M&A activity is historically set by conventional buyers such as Arthur J. Gallagher & Co., Hub International and Brown & Brown Insurance. "When economic calamity partnered with the soft insurance market in 2008-2009, these buyers pulled back significantly," he said.

"The first seven months of 2009 are off 2008's pace by 43 percent, bringing the market barometer to 103 transactions," wrote Audra Szollosy, senior vice president at New York-based Hales & Company, in a September 2009 article. "By historical standards, Arthur J. Gallagher (8), Brown & Brown (5) and Hub International (5) typically lead the insurance brokerage category of most active acquirers. Making a splash this year and nuzzling in between Arthur J. Gallagher and Brown & Brown with six deals year-to-date is ... Ascension Insurance."

Despite the weak economy, Ascension Insurance is one of the fastest-growing U.S. insurance brokers. Backed by private equity investors Parthenon Capital and Century Capital, Ascension's "buy and build" business strategy, which values local management and expertise, offers agencies the promise of support and capital with more autonomy than is historically the case with traditional buyers.

This year saw a rise in the "unconventional" buyer who was well capitalized, Cunningham said. "Ascension Insurance is a good example of this type of buyer. They went from $0 to $75 million and acquired 10 agencies since early 2008. In a market like this it's clear that Ascension is ready to execute their business plan."

Based in Kansas City, Mo., Ascension is ranked among the Top 35 largest agencies by revenue size, with more than 400 employees and 25 locations nationwide. The company expects to grow to $200 million in revenue over the next 5 years.

New teams in the game
Deal activity changed dramatically during 2009 as traditional buyers, including the historically active private equity firms and banks, sat on the sidelines, while regional independent agencies and a new group of private equity capitalized firms picked up the slack.

"Over the last decade, banks were the most active acquirer," said John Wepler, president, MarshBerry, Willoughby, Ohio. "Asset devaluation, nonperforming loans, increased capital requirements and higher required underwriting standards caused many banks to shift their focus to their core business. While a number of well-capitalized banks are committed to insurance, banks with a weak capital position have either been looking to sell their insurance subsidiary or are in hiatus mode with respect to acquiring." For example, BB&T acquired Oswald Trippe & Company in November of 2009, reinforcing its commitment to insurance despite a tough economy.

According to Wepler, during late 2008 and early 2009, many public broker buyers and national brokers promoted the fact that their pricing had come down given pressure from shareholders, the soft market, risk compression within their book of business, and challenging organic growth. "As a result, it is really no surprise that public broker and national broker deals were down sharply relative to other buyer segments," Wepler said.

The November acquisition of Insurance Alliance in Houston by Marsh & McLennan Agency represents the giant broker's first deal in the middle market. This deal is symbolic as it represents a new strategy for the world's largest insurance broker and new competition to buyers in search of deals.

While traditional buyers took a breather during early 2009, independent insurance agency buyers captured the flag on deal activity. This trend started in December 2008, with Leavitt Group's acquisition of Jenkins Insurance Group and Starkweather & Shepley's acquisition of Preston Agency. It continued in 2009 by independent agency buyers such as Cottingham & Butler, Seubert & Assocs., McNeary Inc., 53 Group Holdings, and York International Agency LLC.

Then there are the private equity funded buyers. "During 2009 many of them became tarnished in the eyes of investment bankers and sellers by promoting aggressiveness then delivering abusively subpar pricing or rewriting deals numerous times during due diligence," Wepler said. "While this may be prevalent, there are exceptions. Ascension Insurance treats acquisition targets as partners, has demonstrated to the market a proven willingness to reach strategic pricing, and is very fair during due diligence."

Ascension is not the only private equity firm that has recently closed deals. Other firms that have been active include Bearence Management Group and EPIC.

A new approach to valuation
"With less competition and a conservative approach, transaction values dropped in 2008-2009," Cunningham said. "In addition, deal structure changed, with greater emphasis on performance and value delivered in an earn-out."

Though the basics of agency valuation are the same--determining future cash flow and return to the buyer--how you arrive at these basics has changed. Although each transaction is different, performance-based valuations played a greater role this year. Insurance agencies that understand that achieving the maximum valuation is conditioned upon future performance have fared well.

All buys not created equal
The stagnation within the M&A market has run its course and industry insiders believe 2010 will show a marked increase in activity. Traditional buyers have returned to the market, banks committed to insurance are again active, and independent agencies and private equity firms with capital are in the hunt. Quality, however, has become a prerequisite.

"Buyers have become much more selective than in past cycles," Wepler said. "The level of forensics on due diligence by buyers has never been higher. And buyers today are much less interested in an average agency and far more interested in those that can drive sustainable, profitable, organic growth. All deals are not equal in the eyes of the buyers, and a market premium is reserved for those agencies that perform."

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