All the right moves

The year 2003 saw a number of high-profile acquisitions, leaving no doubt that consolidation is taking place throughout the broking industry.

This year, with regulation by the Financial Services Authority drawing closer, many predict this consolidation will rapidly gather pace.

Nigel Frudd, head of financial services at Beachcroft Wansbroughs, believes that as general insurance brokers become regulated by the FSA, costs will rise in a market where margins are already slim. This will force people into mergers and acquisitions or out of business completely.

Frudd believes the insurance market will probably see two bursts of acquisition activity - firstly in 2004 from brokers that decline to be regulated, and secondly in 2005-6 when the true extent of the regulatory burden becomes apparent.

He says: "Beachcroft Wansbroughs is hearing a lot from the market with many brokers looking to either buy or sell. There is a parallel with independent financial advisers on the life and pension side where regulation pushed up costs. This in part led to contraction in the market."

Acquisition boom

Chris Blackham, chairman of Layton Blackham, also believes regulation will accelerate the already booming acquisition market. He says: "Any brokers that have shareholders in their 50s or 60s are prime potential sellers as they are now at a major crossroads. Do they do battle with the FSA and face an uncertain future that will require change and investment or do they bank their money while they are ahead?"

Sarah Wilson, director of high-street firms at the FSA, agrees that consolidation will continue apace next year but claims that regulation will not be the root cause. She told delegates at last year's Chartered Insurance Institute conference that the FSA has no intention of reducing consumers' access to insurance.

The FSA predicts 12,900 general insurance brokers will apply for authorisation and 400 request variations of permission. It originally estimated that it would vary permission or authorise 29,000 firms in total, but has since shrunk this estimate to 25,000 firms. Wilson stated: "Though regulation will undoubtedly play a part in consolidation during the next couple of years, to put all consolidation down to regulation is to misunderstand."

Eric Galbraith, chief executive of the British Insurance Brokers' Association, shares Wilson's views. However, he is concerned that the majority of the 4500 firms that have already registered to apply for authorisation are mortgage intermediaries. He urges general insurance brokers to act now.

Oliver Laughton-Scott, managing principle of IMAS, says age and business prospects will continue to dominate brokers' decisions to call it a day.

He argues that acquisition activity in 2003 has been relatively subdued but that this will change in 2004.

He says: "Brokers have enjoyed two years of significant growth but are likely to see revenues flatten in 2004. This may persuade many that have been putting it off that the time is right to sell."

Laughton-Scott adds: "The strong profits of recent years have provided the resources to snap up smaller local competitors. There will be strong demand for small and medium-sized operations as the quoted brokers are back in the market to buy, on a selective basis, and others have raised money to become consolidators."

Gary Dixon, managing director of Compliance Solutions, points out that it may be too early to say what effect FSA regulation will have on consolidation.

He points out: "Most brokers are waiting to see if FSA compliance will be something that they can deal with. In mid-2005, we will see a real swing upwards in value and sensible brokers will wait."

Market scaremongering

"The market is still very fluid and people are changing their minds on a daily basis. There are scaremongers predicting the worst and there are those that are confident in their business and are likely to acquire," Dixon adds.

Whatever the reasons, it is undeniable that acquisition has been taking place. Super-provincials backed by venture capital are now entering the market. Oval, for example, backed by £15m, bought RP Hodson and hopes to bring together enough regional commercial brokers to become one of the UK's top-10 intermediaries. More established companies are also continuing to acquire brokers, including Country Mutual Insurance Brokers, Folgate and Towergate.

Woodstock Insurance Brokers recently purchased three brokers, General Insurance Services, Frames Insurance Services, and AD Bailey & Co. It has made eight acquisitions since its formation in 2002.

This is just the beginning, according to Tony Simper, managing director of WIB. He says: "I don't expect good multiples to hold much beyond the first quarter as buyers become more selective and sellers more numerous. We expect to make up to 12 reasonable-sized acquisitions next year."

Bid competition

Woodstock will have to compete with Cox Insurance for bids, a rather bigger broker also aiming at personal lines acquisitions. The high-street broking arm of Cox Insurance, insure-shop, purchased K&M Lee Insurance and Warnell Insurance Brokers, in Essex, increasing its network to 22 branches.

Cox Insurance also acquired personal lines specialist Bennetts for £4.5m (including the assumption of £2.8m debt). Cox claims it is now the sixth largest high-street broking operation in the UK.

Commercial property broker Ascent, formed following the merger of Thames Insurance Brokers and the in-house insurance department of Prudential Property Investment Managers, has placed more than £15bn worth of property risks. Ascent hopes to purchase commercial property brokers and teams, and plans to more than double its turnover in the next three years.

Andrew Hearn, managing director of Ascent, says: "Ascent will rapidly build upon its existing base and capitalise on the expected consolidation within the insurance market by acquisition, merger and organic growth."

Smart and Cook's latest purchase is the general insurance arm of Adams Financial Services, in Lincolnshire. The firm has made more than two-dozen acquisitions in the past 12 years. Jardine Lloyd Thompson is also on an acquisition drive and aims to double its presence in Scotland.

Laughton-Scott says small brokers will not be the only victims of consolidation, however. He predicts that large brokers will follow Bob Beckett's lead and exit the market in 2004. He says: "There are more than 20 UK brokers, with income between £10m and £50m, which have unresolved longer-term ownership issues. So we can expect deals driven by internal shareholder pressure."

Blackham predicts that the top-50 brokers will remain unchanged. He states: "The makeup of the top 50 UK brokers is unlikely to change substantially although one or two larger provincial brokers could leap into it as they begin to spend their venture capital cash."

Frudd believes that consolidation could start to escalate during 2004, with broker acquisitions starting to take place Europe-wide. For example, Willis recently acquired Italian reinsurance broking giant Ital Re as part of its drive to build a reinsurance presence in Southern Europe.

Group director of communications at Willis Nicholas Jones confirms Willis has a presence in around 80 countries and continues to grow globally.

In the long term, Blackham believes the acquisition market must slow down, driving prices down. He says: "General insurance broking is possibly now at a peak. As interest rates rise and insurance rates soften margins will tighten and once acquisitive brokers will need to retrench and consolidate the businesses they have bought and pay off monies owed."

Brokers are looking for new ways to raise funds in order to pay for these ambitious acquisition targets. The Community Broking Group aims to step up its acquisition drive after raising £800,000 by floating on the Alternative Investment Market. CBG plans to double its £12m premium income by the end of 2004, purchasing SME commercial business where the major shareholder has an active role.

David Worsley, chairman of CBG, says the capital for this initial public offering was predominantly sourced from four London-based institutional investors, and an additional £400,000 was raised locally.

Worsley says: "We also considered insurer capital to back us up but we already had significant funding from North-west venture capital firm Texas Holdings. It was eventually agreed between ourselves and Texas that a flotation would be the best option."

Paul Ruocco, managing partner at TMG Corporate Finance, urges caution, warning brokers to consider acquisition carefully before jumping on the bandwagon.

Ruocco says: "A potential target should have a stable, high-quality and well-balanced client base, plus a set of key employees who will stay with the business. It is vital that the acquirer takes note of how important vendors are to the business. There is always the danger that when they exit clients will migrate with them."

Brokers also need to make sure they achieve a good match, he says, and ask whether the target will add value to their business, fit in culturally or bring desirable new business. Ruocco says: "Quite often brokers will look for businesses that are mature in their region, but if they are looking to achieve growth it is often better to target operations that are relatively small."

Consolidation is all about size, skills and efficiencies, according to Frudd. He says that although broker numbers are likely to fall, there will also be number of new entrants with management buyouts and new start-ups.

Tom Noyce, managing director of Noyce Insurance Solutions, agrees. He says that far from signaling the end of the smaller broker, consolidation will encourage new brokers to set up. "The consolidation at the top will create a vacuum that will be filled by smaller brokers popping up at the bottom. You need to start with a book of business but lot of brokers are selling up and there are opportunities."