In a tough transactional environment, where are the green shoots? Looking forward
Looking ahead to the rest of 2023 and into 2024, economic forecasts suggest the continuation of significant challenges to dealmaking in the (re)insurance industry, according to Debevoise & Plimpton’s Clare Swirski, Ben Lyon and Laura Jackson.
Hopes of a swift end to wide-ranging inflationary pressures and the Russia/Ukraine conflict appear to be limited. While some central bankers hint at easing interest rate rises, borrowing costs are expected to remain relatively high for some time. Despite this, we see strong potential for (re)insurance transactional activity, particularly in the P&C spaces.
Intermediary M&A
M&A in the broking and MGA spaces is likely to remain a prominent feature of (re)insurance dealmaking. Again, private equity firms in particular have plenty of incentives to remain engaged in the market. The UK and European markets remain relatively fragmented, which presents continued opportunities for consolidation and efficiencies. Hardening premiums will continue to increase commission returns, which will serve to increase the attraction of these cash-generative businesses.
Sell-side incentives are also likely to drive this trend. While intermediary valuations have been particularly high, the prospect of decreasing valuations resulting from challenging economic conditions may prompt owners to sell while terms remain favourable.
The prospect of joining larger broker and MGA networks and scaling up is also attractive.
Legacy
P&C legacy transactions were another strong feature of the 2022 transaction picture, as runoff divestment became firmly established as a worthwhile commercial strategy. Hardening rates and high levels of economic uncertainty suggest this will continue, particularly at Lloyd’s, as legacy syndicates managed by the likes of Catalina, Compre and RiverStone dominate the market.
Reinsurance – alternative capital and structures
Reinsurance rates continue to harden across business lines, which we expect will have the effect of attracting alternative forms of capital, particularly in specialist lines. There is likely to be an increase in the frequency of sidecars taking advantage of third-party capital.
As firms seek to navigate macroeconomic headwinds, we may also see more structural innovations of the sort introduced by Fidelis with its new MGU sitting separately from the rest of the group. This would allow each separated entity to focus on its core functions and specialisms.
Challenges – economic
None of this is to say that headwinds do not exist. Valuations of insurers, intermediaries and legacy books could soften, as coverage demand faces inflationary pressures, with underwriting profitability and potential capacity negatively affected.
Rising claims inflation and frequency (e.g., from nat cat events and the continued effects of the war in Ukraine) suggest increasing loss burdens. Reinsurance premiums look set to increase further, which adds another layer to (re)insurers’ concerns by raising bottom lines.
Challenges – regulatory
Not unusually, there are also plenty of regulatory uncertainties which could give dealmakers pause as they wait to see the lie of the land. The UK and EU each have Solvency II reviews well underway, which actuaries will keep a close eye on, and potential acquirers of distressed (re)insurers will be keenly interested in the Prudential Regulation Authority’s consultation on insurers in financial difficulties and HM Treasury’s Insurer Resolution Regime.
The enhanced regulatory focus on private equity firms that we saw from the European Insurance and Occupational Pensions Authority and the National Association of Insurance Commissioners in 2022 may continue through this year, especially in respect of those private equity firms with large insurance business portfolios. A particular focus is likely to be whether private equity firms end up on the Internationally Active Insurance Groups list.
The efforts towards regulatory alignment between the US, EU and UK on one side, and Bermuda on the other, is likely to continue. In February 2023, the Bermuda Monetary Authority (BMA) published a consultation paper on targeted enhancements to regulatory and supervisory regimes for commercial insurers.
The enhanced regulatory regime and reporting requirements include increased investment reporting as well as changes to the standard discount curve and risk margin for (re)insurance groups. There will also be targeted changes to the supervisory review process to ensure good governance and risk management practices among (re)insurers. The BMA is expected to release a second consultation paper in Q3 2023 before the changes are brought into legislation (which is expected at the beginning of 2024).
Rather than closing off deal activity, we expect that dealmakers will seek to change focus and capitalise amidst the uncertainty.