Run-off M&A: Signs of a thriving market

A confluence of influences that have been gaining momentum for a number of years is combining to drive more insurers and reinsurers to consider run-off or the divestment of business as a viable strategic option. This, in turn, is leading to a rapid uptick in mergers and acquisitions (M&A) that have this as their driver.

Several factors are driving this change. In part, the 2008 financial crisis created a catalyst for change in the industry due to low interest rates and pressures from investors for returns. This forced more parent companies to look to retrench and, as a result, more re/insurers started to put blocks of business into run-off or look for exit strategies.

This trend was true in the US and in many areas of Europe as domestic carriers looked to reduce risks and focus on their core businesses and improve return on equity (RoE). Some of the bigger players have started to move business into run-off to help them achieve this.

Meanwhile, the dynamic in Europe has been further changed by the introduction of Solvency II. This has also resulted in insurers throughout Europe spending more time focusing on run-off business in order to restructure and optimise capital.

More focus on legacy

It appears quite likely that we are seeing only the beginning of the true implications of Solvency II on the market. As the framework becomes more embedded across the whole of Continental Europe it is expected to drive a continued focus on legacy portfolios.

Equally, it appears that, while some of the bigger and more sophisticated players factored Solvency II into their planning early and had established a strategic plan ahead of the legislation coming into force, many smaller players are still getting to grips with the full implications of the legislation.

Many experts predict that as more medium-sized and smaller insurers gain a full understanding of the implications of the regulation on their capital and the way different types of risk are weighted under the legislation, even higher levels of run-off could result in the coming years.

Equally, as the soft insurance market and the low interest rate environment show no signs of abating, these wider market dynamics are combining with the implications of Solvency II to force more companies to consider all strategic options, run-off coming into the mix more frequently in these strategic discussions.

Many believe that, as such, run-off is becoming a natural part of the insurance cycle. Life insurers increasingly understand that run-off is an area where costs can be controlled, operational efficiencies achieved and value extracted to recycle capital to support core business.

In turn, all this has created a vibrant and competitive market for specialist consolidators, which are also evolving and becoming more sophisticated as they improve their data systems, claims expertise and operational functions allowing them to acquire and manage new portfolios of business relatively quickly and easily.

This has also meant that the sector has attracted investment from far more sources, with private equity, banking and pension fund investors all getting involved.

More deals on the way

Deals taking place in the run-off sector now represent a bigger proportion of overall deals in the industry.

According to an April 2017 AM Best report, European Mergers and Acquisitions: Consolidation is the Trend, in the European insurance sector, M&A subsided in 2016 after having reached high levels over 2014 and 2015. Yet 6 percent of deals in 2016 represented run-off deals in some form and, if experts are correct, this percentage will increase in 2017.

In the real world, these market forces are driving more deals with significant transactions in this space hitting the headlines on almost a weekly basis and startups being formed with the sole purpose of buying and managing large portfolios of business in run off.

The best example of this was when, at the start of 2017, the largest ever startup re/insurer dedicated to run-off was formed on Bermuda with more than $500 million in capital.

Premia Holdings, a class 4 property/casualty reinsurer focused on providing run-off solutions, raised $510 million from founding investors including Kelso & Company, a private equity firm, its co-investors, and an affiliate of re/insurer Arch Capital Group.

Arch is also acting as a key strategic reinsurance partner, allowing Premia to compete on the largest global run-off transactions, the company said. The remainder of the capital comes from other institutional investors, the Premia management team and senior members of Arch.

The new company was founded and is led by reinsurance industry veteran Bill O’Farrell, the former chief reinsurance officer at Chubb (formerly ACE) who will serve as chief executive officer.

The company has said it will seek to insure, reinsure or acquire run-off portfolios and companies around the globe as it stressed, when it was launched, that a combination of new regulatory regimes including Solvency II and competitive market conditions have forced more companies than ever to seek more capital-efficient solutions for legacy business.

O’Farrell gives an interesting insight into where he sees opportunities and why in an interview first published in sister publication Bermuda:Re+ILS and re-published in this magazine, which can be found on page 20.

Another startup dedicated to run-off was formed in the US by London-based Pro Global Insurance Solutions, a consultancy and service provider focused on the global re/insurance industry.

ProTucket Insurance Company, a subsidiary of Pro Global Insurance Solutions, has been granted a licence from the state of Rhode Island.

The move has been made possible under new state legislation which will allow companies to transfer their insurance business in a way that is already allowed in countries such as the UK. Rhode Island’s Regulation 68 enables run-off portfolios of insurance contracts to be transferred from their current carrier into a protected cell within a Rhode Island domestic company.

Artur Niemczewski, CEO of Pro, said when the venture was launched that he estimates that the value of US books in run-off, which could benefit from the Rhode Island legislation, to be as much as $100 billion.

He stressed that the new legislation is expected to release billions in trapped capital and has the potential to improve the capital efficiency of the US insurance industry. Previously trapped capital can then be used elsewhere to enhance insurer solvency, policyholder service and product innovation, according to the company.

“Pro Global has more than 25 years of experience in managing run-off internationally and is extremely proud to continue its leading position within the legacy market. We are excited about the pipeline of business this could bring,” Niemczewski said.

The launch of such substantial startups is also adding to the view that run-off is no longer a side issue in the industry but increasingly part of mainstream corporate strategy.

“Over the next five to 10 years we expect this business transfer process to become a standard industry practice and believe that ProTucket will be pivotal in fostering a vibrant run-off market,” he said.

Finally, in April 2017, Bermuda-based Athene Holding has raised €2.2 billion common equity investment to support capital and reinsurance transactions in the German and European guaranteed life insurance run-off market.

The holding company of Athene’s German Group Companies, AGER Bermuda, described the deal as the largest ever dedicated equity capital commitment to European (excluding UK) run-off life insurance.

AGER said that its strategy is to provide assistance to existing insurers by allowing them to free up capital, management capacities and operating resources through the sale or reinsurance of legacy portfolios or companies.

“We see an unprecedented need in the German and broader European market for equity capital and reinsurance solutions to support run-off portfolios and closed block reinsurance transactions, particularly those with high guarantees,” said Deepak Rajan, executive vice president at AGER.

Business as usual

Europe could see an even greater normalisation of this sector. Some experts have predicted that the run-off market in Europe will hit new highs in 2017 with the value of deals potentially double that in 2016.

The idea that run-off is increasingly ‘business as usual’ is also borne out by the type of risks being transferred. While there remains plenty of focus on the traditional run-off liabilities such as asbestos, pollution and health hazard claims, insurers are also looking to transfer more recent books of business written in the last 10 years including motor, employers’ liability and medical malpractice. In the 10th edition of PwC’s Survey of Discontinued Insurance Business in Europe nearly 70 percent of respondents now classify business written since 2005 as run-off.

Arndt Gossmann, the former group CEO of run-off specialist DARAG, made that prediction late last year. He said many European insurers are now entering the run-off market at the same time meaning the market will see intense activity superseding the approximately €4.4 billion ($4.7 billion) of deals completed last year.

Gossmann said he expects the total volume of non-life run-off deals to reach €8 billion ($8.5 billion) within 2017, and to see the first €1 billion ($1.1 billion) run-off transaction that comes from the mid-market.

He said this activity would be driven by many big insurers implementing strategies and plans for transferring closed books of business in areas that will offer maximum capital relief, many of which would have been conceived before Solvency II was finalised.

He stated that he believes the mid-market will then follow and that more structured and bespoke solutions will start to emerge and be used by the market.