Consider how consolidation is changing the European re/insurance landscape.
The past decade has seen the European markets enter a new era, following deregulation, single market legislation and the introduction of the euro. Consolidation has figured prominently, although nothing close to the frenzied scrum of those early single market days. Barely a month goes by without a deal of headline proportions being negotiated or taking place. Just recently, for example, Germany's Allianz snapped up Dresdner Bank while SCOR has negotiated to buy fellow French reinsurer, Sorema, from mutual insurer, Groupama.
On the primary side, the persistent push for cross-border expansion, changing distribution channel, and shareholder pressure for ever-higher returns are all driving such activity. Remarks Christian Dinesen, director, financial services ratings, at Standard & Poor's, “an enhanced distribution channel, the ability to sell insurance in different ways, is certainly one factor. The Allianz/Dresdner deal is a good example of that. Cost is also an important issue. There are clearly a lot of insurers who see benefits from being larger, although I think it's fair to say that many of these benefits to date have been achieved on a national basis as opposed to cross-nationally. Another factor driving consolidation is diversification; non-life insurers, for example, who are looking to get into life.”
On the reinsurance side, while some of the same pressures apply, there is a ‘PacMan' theory going around which suggests that reinsurers must bulk up simply to offset client consolidation. Granted, sizeable companies can usually afford to take risks and make the investments required, but smaller companies still have their uses. The ‘big is better' ethos is not all there is to the European reinsurance market.
Mr Dinesen is quick to point out that size is not the sole criterion for survival. “The recognition that a small- to medium-sized reinsurer can have for doing something different is still important. Traditional, long-standing relationships often remain in place.”
That further consolidation will continue is not in doubt. Allianz, for one, has stated that the Dresdner deal will not stop it from making more acquisitions. Chief executive Henning Schulte-Noelle has gone on record stating that the company “will not sit back. We know what effort a merger of two organisations of this size costs, but we will be ready for action.”
Meanwhile, France's AXA group, which recently posted a 21.2% increase in net income to achieve an all-time high of E2.54bn, has made no secret of its plans to expand its presence in Germany and other European countries. Co-operation deals, as well as acquisitions, may well be on the agenda.
Such activity is not limited to the European continent, of course. Last year witnessed several acquisitions of US companies by European firms, particularly in the life and asset management sectors. In May, Allianz acquired a majority ownership in US investment manager PIMCO Advisors, followed in October with the acquisition of US asset manager Nicholas-Applegate. Meanwhile, SCOR bolstered its position in the US life reinsurance market via an agreement to acquire Bermuda-based Partner Re's life subsidiary, Partner Re Life. In addition, Dutch financial services and insurance giant ING Group acquired the financial services and international business of leading US health insurer Aetna. Such interest is set to continue.
US companies, on the other hand, have tended to be somewhat cautious in their approach to European investments. Last November, UK group CGNU announced the sale of its Lloyd's managing agency, Marlborough, to the Berkshire Hathaway Group. Prior to that, CGNU finally sold its US property/casualty business to Bermuda-based White Mountains Insurance Group in a deal worth $2.1bn and brokered by Berkshire Hathaway. Just recently, Chubb Corp made a bid for, but then did not complete its acquisition of, Lloyd's insurer Hiscox, though it maintains a major stake in the insurer. Bermuda-based XL Capital had better luck in acquiring Winterthur International, the international industrial insurance unit of Swiss insurance group, Winterthur. The acquisition expands XL's presence in Europe considerably.
The general consensus is that while continuing consolidation in the primary and reinsurance industries is expected, it cannot maintain the same pace of recent years simply because there are fewer obvious candidates left in the arena.
So where does all this leave European reinsurers? Will we reach a stage where the few remaining small-to medium-sized players are swallowed whole by the big boys? Mr Dinesen stands by his earlier point that such companies still have a role to play. “If you're not the biggest, you must be either better or offer an alternative. You must play on your strengths, focus on your customers and understand what it is they want. Then you can certainly have a future.”
Robert Lippincott, chairman and ceo of AXA America Corporate Solutions, adds that “it is still possible to be a highly successful reinsurer within a specific territorial niche – provided your capital providers are prepared to accept that you will be more profitable some years than others.” He does stress, however, that this is becoming increasingly difficult to do without attracting the attentions of global players looking to assimilate such activities within their portfolios.
The growing needs of ever-larger primary insurers have not cut smaller reinsurers out of the picture. As Mr Dinesen points out, “there is no question that there are buyers who like to have a large number of reinsurers to talk to. It is still a relationship business.”
Now that the market is hardening, relationships are going to prove vitally important and the more the better. After one of the most severe periods of soft market conditions ever experienced, the corner has finally been turned in Europe, with rates, terms and conditions improving significantly in many classes. While it was increasingly looking like a thing of the past, underwriting discipline now has made a welcome comeback. European reinsurers, in particular, have made it clear that they are focusing on underwriting profitability once again.
It is a little early to break open the champagne, however. While Mr Dinesen regards this development as light at the end of the tunnel, S&P still maintains a negative outlook on the European reinsurance sector.
“The market certainly improved at the end of 2000 renewals, but it has not been dramatic and has not been across the board. The question now is whether this will continue at the end of this year in order to return to profitable levels. There is no guarantee that we will see more upturn at the next renewals.”
For all the ‘talking up' that has been taking place in reinsurance circles, Mr Dinesen feels that the recovery in reinsurance premiums will be hampered by such factors as the availability of alternative risk financing mechanisms, plentiful reinsurance capacity (including for large property risks and higher concentrations) and the increased use of proportional covers which reflect underlying insurance rates.
The combination of a hardening market and the consolidation process of recent years is going to prove an interesting scenario. Will larger primary entities flex their considerable financial muscles when faced with increased rates? Larger companies can, after all, retain more risk and buy less reinsurance if they wish. (So far, the soft market has largely mitigated against this.) As bigger buyers, they can also get economies of scale out of the reinsurance market.
“I think it is likely that the hardening of the market is going to make the buyers focus more on this,” says Mr Dinesen. “It is possible that because some of them have more buying power and more risk retention capability, reinsurers are going to be slightly hesitant about imposing the sort of increases that they might have done if they had been dealing with five smaller companies. It is a little early yet to tell exactly what is going to happen.”
Another factor of a consolidating primary sector is the renewed demand for strong balance sheets and financial strength ratings. To date, this ‘flight to quality' has proved beneficial to the reinsurance market as a whole, by weeding out the weaker players. Some observers envisage a day when, bearing in mind the large aggregate sums involved, only triple A-rated reinsurers will be acceptable.
Drive for market variety
Continuing primary consolidation may reduce demand for reinsurance, but the increasingly complex needs of larger consolidated organisations are driving market innovation. In line with the increasing depth of quantitative and qualititative analysis, new risk transfer products and solutions are being developed. Most are customised to clients' needs. However, do ever-larger reinsurers have the strategic and operational agility to capitalise on opportunities? Absolutely. Just look at Swiss Re's recent product and knowledge fair held in Zurich which highlighted an enormous array of state-of-the-art skills. In addition, Swiss Re New Markets has made a major impact in recent years. As Mr Dinesen points out, some of the most creative people in the business are running the mega-reinsurers.
Whatever happens come the next renewals, one thing is for certain. However much the European markets have transformed during the last decade, the next few years will be a time of astonishing change and energy. Mega or minnow, reinsurers will have their work cut out. To quote Charles Darwin from his Origin of Species: “It is not the strongest of the species that survives, nor is it the most intelligent, but the one most responsive to change.”