The European Union M&A market may be muted but it's still creating interest, says Maria Kielmas

"2004 may prove to have been the end of the recent good times enjoyed by the general insurance industry." This was one of the conclusions reached by management consultants PricewaterhouseCoopers in a recent survey of merger and acquisition (M&A) activity in the European Union financial services market. Softening rates and an increasing regulatory burden are poised to propel insurers, reinsurers and other financial service providers into cost cutting and consolidating head office operations, says Damian Guly, head of the financial services deal team at PwC.

In a trend that has emerged over the past year, the major insurers are looking to establish corporate partnerships with banking and other institutions. It is a trend driven from both sides, PwC concludes, with banks not prepared to take on the underwriting risk and the insurers needing to expand their distribution channels. The view at PwC is that there will be "limited significant 'front page' non-life M&A". But EU M&A activity, especially between banks and insurers, is making the front pages nevertheless, albeit for different reasons.

From being a fashionable favourite in the later 1980s and early 1990s, bank/insurance mergers worldwide have received a more circumspect reception by both markets and shareholders after the difficulties confronted by Citigroup when it bought Travelers or when Allianz merged with Dresdner Bank. So when Bologna-based insurer Unipol Compagnia Assicuratrice launched a bid for the Rome-based Banca Nazionale del Lavoro (BNL), which in July this year effectively foiled an earlier bid for BNL by Spain's Banco Bilbao Vizcaya Argentaria (BBVA), the European capital markets missed a collective heartbeat. "That offer is quite peculiar," says Antonello Aquino, insurance analyst at Standard & Poor's in Milan "We haven't seen an insurance company buy a bank of that size". BNL is four times the size of Unipol.

Italian affiliations

Unipol's action has also drawn some spiky comments from Prime Minister Silvio Berlusconi about the left-wing influences in the banking sector. Unipol was created as the insurer of industries and businesses in the co-operative sector and in the market's view is linked with left-wing parties. BNL is also regarded as affiliated with left-wing political parties. BNL's president, Luigi Abete, countered that "market enterprises are neither right- nor left-wing, the ultimate target is competitiveness and profit". But he later added, "outside of that businesses can be partisan."

The Unipol offer set in motion a series of events from which Italy is still reeling. Just days after Unipol launched its bid, another attempted takeover of an Italian bank by a foreign company, in this case ABN Amro's bid for Banco Ambroveneto, also collapsed. Some weeks later Italian newspapers published a transcript of telephone conversations between Italy's central bank governor, Antonio Fazio, and various Italian banking executives, where Fazio appeared less than neutral in his opinions of the foreign takeover offers. This prompted accusations from the foreign bidders that Italy's financial regulators are building protectionist fortresses around the sector in contravention of the EU internal market rules. The financial markets regulator Consob, and the central bank eventually approved the ABN Amro takeover of Ambroveneto, although by late October Unipol appeared confident of its own bid's success. Calls from government spokesmen for Fazio to resign have had little effect and some political observers in Italy believe he may well remain in his job, which he has for life, longer than his present government critics who face elections next year.

Regulatory issues

Nevertheless, Unipol's bid raises a further regulatory dilemma in Italy. Who will be the regulator of the new financial conglomerate, the central bank, or the insurance regulator, Isvap? "This is the question going round the market," observes Carlo Ferraresi, director responsible for insurance and banking at Deloitte Financial Advisory Services in Milan. Italy's insurance industry has never been viewed as a political matter in the way that the banking sector is, he continues. But the central bank's power to influence the fate of BNL could be curtailed with the implementation of the EU's Financial Conglomerates Directive, which came into force in January this year and which will add supplementary supervision of financial institutions. The idea of the directive is to ensure that the activities of larger financial groups do not seriously destabilise the financial system.

Maybe Unipol could manage to takeover BNL in the short-term, observes Ignazio Rocco di Torrepadula, vice president and director at the Boston Consulting Group in Milan. The idea of Unipol moving properly into the banking sector has been around for some years (Unipol has a small banking division but this is more of a treasury function). The fundamental issue, Rocco says, is that the company may face legal problems down the line such as provisions in its articles of association that could bar it from banking activity.

Rocco believes that the last few months of controversy about the function of the Italian central bank, which culminated in an approval of the first foreign banking takeover, has shown that the Italian financial market is much more open and that market forces do work. The insurance sector, for its part, has always been open to foreign mergers. But in Italy the top five insurers control about 80% of the market. These groups are now further consolidating their head office, IT and claims management structures, not just within Italy but also within Europe, in order to cut costs and address greater regulatory pressures. Part of this dynamic, he says, is Germany's Allianz's offer to buy up the portion of Riunione Adriatica di Sicurta (RAS), Italy's second insurer, which it does not hold. Allianz holds 55% of RAS at present.

Polish dispute

Market concentration also seems to be the order of the day in Poland. There is talk once more in governing circles of merging state-controlled insurer Powszechny Zaklad Ubezpieczen (PZU), which controls some 60% of the market, with the state-owned bank, PKO Bank Polski. When such a merger was mooted in the past, the regulatory authorities discounted it as contrary to Poland's banking and insurance regulations. But now this has become the strategy proposed by one part, the Law and Justice party (PiS), of a coalition that won in October's legislative elections. However, the incoming government will be split on the issue as the other coalition partner, the Civic Platform (PO), wants to speed up the country's much-stalled privatisation programme and sell off the financial institutions. But whatever the governing parties decide will be over-shadowed by a festering dispute between the Polish state and Amsterdam-based Eureko over the future of PZU.

In August this year an international arbitration court sitting in London ruled that Poland was liable for breaches in its investment protection treaty with the Netherlands in a dispute over PZU privatisation. In a series of events that began in 1999, Eureko acquired a 31% stake in PZU and entered into a share purchase agreement with the Polish State Treasury for the acquisition of a further 20% of the company that would give the Dutch insurer control of the Polish company. The Polish state currently holds 55% of PZU. But in common with other privatisations in Poland at the time, the PZU sale became mired not only in political controversy about the size of foreign holdings in the Polish financial sector, but a seemingly endless stream of corruption allegations on the part of government officials and their cronies, some of which have ended up in the criminal courts.

Like other state-controlled companies, PZU has always been an important source of patronage for governments. But its executives have been embroiled in a succession of scandals concerning malversion of funds to offshore bank accounts. The company's former president, Wladyslaw Jamrozy was suspended in 2000 following accusations that he had agreed to assist Deutsche Bank in an (eventually) unsuccessful takeover. Deutsche Bank has always denied the accusation.

Policy shift

Eventually in April 2002, the Polish government formally changed its privatisation policy and declared it was essential that the state retain control over PZU. This led Eureko to file a claim in early 2000 for compensation under a Netherlands/Poland investment treaty. Following its August ruling in Eureko's favour, the arbitration tribunal has yet to calculate the amount of compensation the Polish state must pay. A Eureko spokeswoman in Amsterdam said that the company was confident that the award would be executed. But Eureko has no intention of selling its PZU stake. "We have strategic growth plans in eastern and central Europe," she added.

Kazimierz Marcinkiewicz, a PiS party leader who is expected to become Poland's new prime minister, said that he expects the dispute with Eureko to be settled by early 2007. But Marcinkiewicz is also in favour of a PKO/PZU merger. Capital markets analysts and legal experts in Poland are unwilling to speak on the record about the PZU case. But the market believes that the incoming government is likely to at least keep the present PZU management in place as the dispute unwinds. "This (arbitration court) judgement means there is a possibility of the new government losing money. So it will be reluctant to put its own people at the helm of the company," one Warsaw-based insurance consultant said.

The Eureka/PZU dispute has not halted another Dutch insurer, Aegon, from pursuing its own aim to become one of the leading players in the Polish market, although in this case in the pensions sector. The Polish social security system stipulates a mandatory second pillar, or supplementary, retirement cover, which many foreign companies have targeted as a growth sector. But the main issue in the Polish market, notes Krzysztof Stroinski, insurance analyst at management consultant Deloitte in Warsaw, is the uncertainty about the attractiveness of some savings products as well as the relatively low income of the population. "It still needs time before Poland can afford insurance at a European level," he says.

Bid for Skandia

But the growth potential for such products in the UK and Scandinavia triggered yet another high profile takeover bid, this time by Old Mutual, South Africa's biggest insurer whose head office is located in London. Old Mutual hopes to expand its international business through acquiring Skandia, half of whose earnings come from the British market.

Stockholm-based Skandia has been mired in a series of its own corporate scandals. The company registered losses at its now disposed US unit following a settlement with the Securities and Exchange Commission relating to alleged improper trading in mutual fund shares as well as losses at its UK division. In Sweden, a number of its former senior executives faced indictments for embezzlement of corporate funds. "It has definitely had its share of corporate scandals," observes Per Gronborg, insurance analyst at Alfred Berg Bank in Copenhagen. "But the sentiment in Swedish business is improving," he adds.

So in its eagerness to gain a strong foothold in the UK and Nordic markets through Skandia, Old Mutual has offered 3.78 times book value to Skandia shareholders. This compares with Allianz's offer in September this year of 2.72 times book value to RAS shareholders in Italy, which shareholders have accepted. Skandia's management recommended that shareholders reject the Old Mutual Offer. Gronborg says, "It's increasingly looking like a non-deal." But in contrast to earlier market sentiment when Old Mutual bid was seen as overpriced, Gronborg thinks that as of late October the deal was about 10% below Skandia's market value.

Lack of capital has prevented insurers from launching many cross-border bids over the past few years. Despite the high profile merger offers in various countries, Gronborg thinks this is not a real sign of life in the sector. "Balance sheets are still an issue," he says. But the regulatory and political knock-on effects of just this small number of deals will continue to generate much front-page interest.

- Maria Kielmas is a freelance journalist.



Commenting on the Old Mutual offer on 19 October, Lennart Jeansson, chairman of Skandia, said, "The Old Mutual offer is insufficient to compensate shareholders for surrendering control of a business with such compelling and attractive growth prospects to create shareholder value. We believe that Old Mutual's offer is inadequate and we advise shareholders to reject this offer and to support Skandia's management team in delivering their standalone plans."

Hans-Erik Andersson, president and CEO of Skandia, added, "I strongly believe that Skandia has tremendous opportunities to create value in the years to come. We have a highly attractive and well performing group of businesses operating in growing markets, we have the plans to improve performance further, and we have the management team and dedicated employees to deliver on these plans."