In its latest briefing on the global reinsurance market, rating agency A.M. Best warns that reinsurers risk having M&A decisions made for them, as the intensely competitive reinsurance market drives strategies making mergers increasingly likely.
The wave of mergers and acquisitions in the global reinsurance industry is just beginning, A.M. Best believes, as the desire to effect a deal “reflects reinsurance companies’ desire for scale to maintain relevance amid challenging market conditions.”
However size alone is not always the answer A.M. Best says, reflecting the opinion that relevance is about more than just scale alone. Scale is no substitute for “overall discipline, conscientious and proactive risk management, underwriting, and focus on emerging risks that could impact the company’s financial strength,” A.M. Best explains.
Underwriting discipline and the ability to anticipate potential market risks enables reinsurers to remain prosperous and to keep ahead of market conditions, the rating agency notes. Which means that those getting embroiled in potentially challenging mergers need to ensure they do not get distracted by the process and overhead M&A can bring.
Best highlights the thought that it may be better for reinsurers that are challenged by market competition to decide their own futures, rather than having the competitive market drive their strategic decision-making for them.
Those reinsurance companies that are reluctant to accept that they may need to add scale in order to survive, could find that decision being made for them resulting in ending up on the wrong end of a deal or being forced to accept terms which may have been more attractive had they initiated the process themselves.
However, “Growing for the sake of garnering market share, or for the sake of simply getting bigger, can lead to disastrous outcomes when the wind blows and the earth shakes,” A.M. Best warns.
But not doing anything could be just as bad, Best explains; “That said, not realizing
or accepting that the market is becoming more challenging and ignoring the need to find suitable alternatives in order to remain relevant in the market for customers, brokers and investors could turn into a less than ideal situation for some.”
Recent deals have been driven by the quest for scale, diversification across product lines and the desire to become more efficient through expense savings, Best says. Whether savings actually materialise remains to be seen, the rating agency warns.
A.M. Best believes we may have seen the end of the monoline, the reinsurance only or the property catastrophe specialists, strategies that the rating agency feels will likely be a thing of the past as they face the greatest competitive pressures.
In the past it was felt that catastrophe models put the floor under pricing for the property catastrophe reinsurance market, but now A.M. Best notes, it is the players with the appetite and ability to price business more aggressively than traditional reinsurers that have the edge.
On top of this cedents are looking to larger partners, that can support them across multiple lines of their business. The need to have a wide product offering and a strong presence in the market is therefore becoming increasingly key for reinsurance firms, driving the M&A trend.
“Reinsurers need to be able to maneuver through market cycles by having the ability to move in and out of various business classes and geographies as market conditions dictate. Market players that accept this new stage of the cycle will have a first mover advantage for possible suitable alternatives that will allow for the development of more efficient, focused, and diversified companies,” A.M. Best explains.
Those companies with global reach and well-diversified books of business will likely see the majority of deals in the market, while those less relevant may have to ride out the market cycle in the hope of an upturn in future.
The reinsurance market is awash with record-breaking levels of capital, both traditional from well-capitalised reinsurers and third-party from insurance-linked securities (ILS) players and other institutional investors seeking to access reinsurance linked returns.
This glut of capital is currently fighting over a diminishing pool of premiums, as cedents rationalise their buying and changing buying strategies also affect the market. Companies need to accept the requirement to adapt to the new marketplace reality, with difficult decisions required and in some cases accepting that going it alone is no longer a viable option.
Looking ahead, A.M. Best expects that the M&A wave will continue through 2015, particularly as competition intensifies and returns continue to decline. Further margin compression is anticipated as third-party capital continues to eat into the available pool of premiums growing its share of the market.
With returns on equity expected to fall, combined ratios expected to rise, available opportunities shrinking, competition from lower-cost ILS capital growing, there seem few options for the most pressured reinsurers.
“Companies with limited market reach and fewer lines of business are more likely to seek potential merger partners as expected weaker market conditions continue to develop over the next few quarters,” A.M. Best’s report closes.
Having your strategic decisions made for you, or becoming driven by market trends as you constantly fight to remain relevant, could put reinsurers in a weaker position when it comes to negotiating M&A deals. It’s not a comfortable position to find yourself in and taking the lead, even if that equals putting yourself up for sale, may be preferable to becoming a target with no choice in your future.
Subscribe for free and receive weekly Artemis email updates
Sign up for our regular free email newsletter and ensure you never miss any of the news from Artemis.