Arthur J Gallagher's ratings affirmed following transaction announcement

Following  Arthur J Gallagher’s (AJG’s) announcement of its intent to acquire certain brokerage operations from  Willis Towers Watson,  S&P Global Ratings affirmed its existing 'BBB' long-term counterparty ratings on  AJG and revised its outlook to positive. At the same time, it assigned its 'BBB' issue-level ratings to its proposed senior debt issuance.

AJG recently announced that it would acquire certain brokerage operations from WTW for approximately $3.5 billion. The deal is expected to close in the second half of 2021.

S&P said: “We believe AJG will be able to absorb WTW without significant changes to its financial position. We are affirming our rating on AJG because we expect the company to maintain its current level of financial risk given our expectation for AJG's plan of finance. We also believe AJG can non-disruptively absorb the acquired business, which is composed of Willis Re, UK specialty, as well as mainland Europe and North American retail operations.

“We continue to expect AJG to pursue ongoing tuck-in deals as part of its growth strategy. We expect deal financing to consist of new debt and equity along with balance sheet cash, resulting in no underlying change to prospective credit metrics through the rating outlook horizon relative to our existing and updated financial forecast. On a normalized basis, we're factoring in approximately $1.25 billion and $360 million of deal-specific revenue and adjusted EBITDA enhancement (around 20 percent of AJG's year-end 2020 totals per our calculations), respectively.”

S&P added that it believes a stronger international presence could boost AJG's competitive position over time.

“We believe AJG benefits from a well-established domestic and international market presence, along with meaningful scale, scope, and diversity across various subsectors that position it above most direct middle-market competitors,” it said. “While the company has been growing its international operations and risk management capabilities, it currently has a high concentration in the highly fragmented North American middle-market brokerage sector relative to peers, which include brokers with a more diversified and robust global market presence. We currently assess AJG's competitive position at the upper range of satisfactory and believe a more well-established and diversified international presence relative to higher-rated peers could lead to a stronger competitive position over time.”

It said that its positive outlook reflects the potential for incremental credit profile improvement within 24 months associated with the integration of the acquired Willis operations combined with sustained underlying growth and operating performance stability.

“If properly integrated, we'd expect AJG to reflect a more diversified profile with revenue approaching $8.5 billion within 24 months and EBITDA margin stability at the 28 percent-30 percent level, resulting in pro-forma (PF) adjusted financial leverage and EBITDA coverage remaining around 2.4x-2.6x and above 8.0x, respectively,” said S&P.

“We could raise our ratings within 24 months if the Willis transaction operations were to be integrated non-disruptively with operating performance at the enterprise level in line with our expectations. Under these circumstances, we would likely reflect the benefit of enhanced operational scale, product and geographic diversity via a strengthened assessment of AJG's competitive position and business risk profile. This also assumes PF adjusted financial leverage remaining around 2.4x-2.6x.”

It added that it does not expect to lower its ratings within 24 months, but it could revise its outlook to stable if post-deal execution were to be viewed as disruptive to enterprise operations (likely contributing to weaker credit metrics relative to expectation) or if financial policy were to become more aggressive.

“We believe that such a development could limit the benefits to AJG's competitive position,” said S&P. “Our downside scenario reflects limited contribution from the transaction assets with a combination of moderate business risk erosion and PF adjusted financial leverage and EBITDA interest coverage migrating toward 3.0x and below 8.0x.”

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