As the softened market environment continues to fuel merger & acquisition (M&A) activity in the global insurance and reinsurance sector, RBC Capital Markets (RBC) explores the appealing benefits a Lloyd’s participant offers potential suitors.
In a new equity research report, titled “Lloyd’s Insurers, Premium attraction – we expect M&A activity to continue,” premier investment bank RBC argues that Lloyd’s of London re/insurers will continue to be subject to bids, most notably firms that are trading at a discount to the sector.
“We expect that the Lloyd’s insurers will continue to be attractive bid targets for Bermuda based and other insurers looking for growth,” states the report.
Highlighting, among other reasons, the “significant balance sheet advantages” that merging/acquiring a Lloyd’s operation offers, which “would help to uplift the returns at a typical Bermuda based insurer.”
A host of M&A activity has swept through the space during the last 18 months, including the recent $6.4 billion counter-bid from Italian firm EXOR to purchase reinsurer PartnerRe.
And RBC predicts that companies that are searching for scale, growth and diversification will likely look to Lloyd’s players as potential targets, due to the market’s specialist and diversified franchise.
The study also notes that M&A activity purely for scale shouldn’t be the key driver, as maintaining relationships with brokers and clients remains equally as important.
A topic discussed recently by Artemis following Lancashire UK Ltd.’s Chief Executive Officer (CEO), Paul Gregory’s admission that “Relevance and scale should not be confused.”
Interestingly, RBC’s report identifies Lancashire, as well as Novae Group, as a company that is “most likely to receive bid approaches,” because they are “trading at a discount to the sector,” signalling that valuations will be a key, deciding factor in any M&A activity.
Expanding on this, RBC said; “The merger approaches that have crystallised in the first few months of 2015 in the Lloyd’s sector have been made to companies that had price to book ratings towards the lower end of the valuation range. We expect valuation to continue to play a key role in determining which companies receive approaches.”
Along with valuations, the report notes that entities looking to enter Lloyd’s through M&A will also be seeking several other benefits of the market, being; ‘Access to Lloyd’s,’ which is still a difficult market to enter, ‘Access to specialist business,’ ‘Possible cost cutting and synergies’ and ‘Lead positions.’
RBC expects that Bermudian, catastrophe focused re/insurers will be the most likely to seek for acquisition or partnership transactions, as the premium leverage gained via Lloyd’s can help to boost returns, particularly when compared to that of a typical Bermudian company.
The report states, “One of the least understood benefits of operating at Lloyd’s is the capital advantages that it brings to its participants.
“The Lloyd’s Central Fund allows players in the Lloyd’s market to write with less capital than they might otherwise require if they operated as a standalone company with a similar rating.”
With market pressures in the global reinsurance sector continuing to negatively impact primary lines, the coming months will likely reveal just how far the M&A trend will stretch.
RBC, like others in the space feels confident that further deals will occur as the harsh rate environment disrupts portfolios, but still remains optimistic on the sector.
The report concludes; “Outside of M&A, we remain positive on the sector. We expect the Lloyd’s insurers to continue to produce double digit ROEs, with strong yields and capital management actions to produce attractive total returns. We reiterate our preference in the sector for those companies with the greatest barriers to entry.”
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