Fitch Analyst

James Auden,

Fitch: stable outlook for broker industry in 2006

New York-Chicago-based Fitch Ratings is predicting stability and growth for the broker industry in 2006, while admitting that earnings will be down in 2005 because of litigation connected to New York Attorney General Eliot Spitzer’s investigation.

Fitch’s special report, “Insurance Broker Industry Outlook,” said that in addition to the contingent commission investigation, the insurance market generally turned less favorable in 2004 and that environment continued in 2005, affecting revenue growth and profit margins. However the outlook going forward is more positive.

“One key consideration in determining a better outlook for 2006 is that brokers have largely put the issues from recent investigations behind them,” said spokesperson James B. Auden, a Fitch Rating’s analyst based in the Chicago office. “We foresee organic growth, meaning that there will be a resurgence of new customer-based growth as brokers continue to put in place processes to eliminate any conflict of interest in their businesses.”

Litigation concerns remain

The Fitch Report did emphasize that the risk of losses from shareholder, class action and other lawsuits still clouds the future with some uncertainty, but the report said brokers will continue to struggle to restore profit margins to prior peak levels and to restore trust in the broker-customer relationship.

The report said that while Fitch does not expect any substantial new penalties or fines from regulatory or legal authorities, the settlements listed in the table (see table) have not completely closed the door on this issue. Based on information from Marsh & McLennan, more than 90 percent of its largest clients have agreed to its $850 million settlement with the state of New York, but some have opted to pursue other remedies.

Trends for 2006

Auden added that there will be a trend for the larger, publicly-traded brokers as well as banks, to acquire smaller and medium-sized firms in 2006. He said that one key factor contributing to Fitch’s more positive outlook for this year was Aon’s change in rating from negative to stable.

Of the top three brokers, number one Aon has been upgraded to BBB+ Stable, and Willis, number three, is now rated BBB, Stable. Marsh & McClennan, at number two, retains a negative rating.

“Marsh is the broker most severely impacted by the recent investigations and is still adapting to significant organizational and business practice changes, Auden said.

The report is divided into three segments: a discussion of Fitch’s rating outlook; overview of recent trends and events affecting the insurance broker market; and, an analysis of brokers operating performance and recent financial trends.

“Our rating outlook is stable based on our view that the larger brokers in our rating universe possess many characteristics that are consistent with the investment grade rating they been assigned,” Auden said.

Some of the strengths in the report include enduring franchises that are focused on meeting the demands of insurance purchasers for policy placement and risk management services, as well as insurers’ need for an effective product distribution source.

Additional strengths include reasonable financial leverage and strong cash flow characteristics derived from the transaction-oriented and non capital-intensive nature of the business, which promotes more flexible debt-servicing capability.

Auden added that Fitch expects net earnings to improve in 2006 due largely to fewer one time items and the benefits realized from expense initiatives, but that Fitch does not expect operating performance to reach levels attained at the height of the recent property/casualty pricing cycle in 2002-2003.

Topics New York Agencies