Regional Brokerages Not Immune To Slump

August 21, 2008

For regional brokers, a saving grace has been diversification.

Large regional insurance brokers won’t be immune from the cyclical downturn hitting many sectors of the insurance industry. Although geographic and product-line diversification will offer some protection from the insurance slump and a few brokers report success in negotiating higher commission rates, some experts predict the slump is here and that it will stay for a while.

“In August 2007, it was like somebody flipped a switch,” said Martin P. Hughes, chairman and chief executive of Chicago-based HUB International Ltd., who recently participated in a Standard & Poor’s Ratings Services panel discussion, “Market Challenges Faced By Regional Brokers,” at the Standard & Poor’s Insurance Conference in New York. “It will go well into 2010 before we see any relief,” he said.

In addition to Hughes, John Howard, president and chief executive of the wholesale insurance broker Crump Group Inc., and Michael J. Sicard, chairman, president, and chief executive of USI Holdings Corp., discussed how the down cycle, mergers and acquisitions, private-equity interests, and the fallout from the 2004 contingent commission scandal will affect regional brokerages.

Overall, the regional brokerages carry an average credit rating of ‘B’, according to panel moderator Michael Gross, a Standard & Poor’s director.

Although rate declines increased in severity in the last two quarters of 2007 – Howard said Crump’s rates had dropped 15 percent in some lines since then – all three panelists agreed that a saving grace for each of them has been diversification.

“Personal lines are less volatile,” Howard noted, “and are down 3 percent to 4 percent.” He said the company was protected to a degree because roughly one-third of its business is in Canada, where market conditions are better.

Their companies have all benefited from sizable businesses in the employee benefits market. “It offers some insulation against the soft cycle,” said Sicard of USI.

Further industry consolidation is possible, according to these executives. HUB has made 175 acquisitions in the past seven years and could be making more. Hughes said the prime criteria HUB uses in identifying acquisitions are, “Does it improve our footprint? And primarily, is this going to build margin?” He sees “tremendous opportunities” to make acquisitions in Canada.

While organic growth will retain its importance in the coming year, Howard added that Crump will look opportunistically at further acquisitions, while being aware of the integration risks. “You’re buying people and relationships and not much else,” he said.

These brokers have become acquisition targets themselves, as private equity owners have taken stakes in them. From an operational standpoint, they say their experiences have generally proven positive. “The benefit is eliminating the distraction of being a public company,” said Howard. “We’ve seen significant improvement without those distractions.”

Sicard agreed, saying, “It gives us the unique ability to do some things without focusing on monthly or quarterly reviews. You can have a longer time frame.”

HUB’s Hughes had a similar take on his private equity investors: “They have left us alone. But they’ve asked us to look at the business in a different way.”

The brokerages are working hard to control payroll and other expenses. On the revenue side, correctly managed contingent commissions are still important. Hughes said they account for about 7 percent of revenues and 25 percent of cash earnings at HUB. However, given prior investigations, maintaining integrity is a major focus.

Despite the slump, these smaller brokerages said they need to maintain competitiveness, especially in their bread-and-butter middle market segments.

“We have to get our names more well known, beyond the investment and insurance companies,” said Hughes, who noted that the insurance industry scandals of 2004 had caused the entire sector to look inward. “Any breach of integrity is intolerable. We’ll fire people.”

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