Covid-19 to drive down US broker M&A volume but valuations largely unaffected

The number of US broker mergers and acquisitions is expected to fall by almost two-thirds owing to the impact of Covid-19, and while the pandemic has not done much to suppress valuations at this stage, a second wave could have a major impact, according to participants on a Target Markets-hosted webinar.

Deal activity in the US broker space has “been on a fast tear” over the last five years, said Kevin Donoghue, managing director of insurance-focused M&A advisory firm Mystic Capital Advisors Group.

He pointed to figures from S&P Global Market Intelligence that show US broker M&A deals steadily increased from 424 in 2015 to 732 in 2018. But, after falling slightly to 710 in 2019, Donoghue and his colleagues at Mystic anticipate a drastic drop-off in deals to just 250 this year, down almost 65 percent.

Coming into 2020, the expectation was that M&A activity in the US broker space would continue to be at high levels.

However, Bob Kimmel, CEO of MGA and program manager platform K2 Insurance Services, said “transactions have been pulled” in light of Covid-19.

“Very few transactions are coming to market, however we do see a few [confidential information memorandums (CIMs)] coming into the market,” Kimmel added.

Matt Sackett, CEO of Doxa Insurance Holdings, said that, from a seller’s standpoint, deals “all paused…for about 60 days” while Covid-19’s impact was assessed.

However, like Kimmel, Sackett said he is now beginning to see an increase in CIMs – the documents created by M&A advisory firms or investment bankers in sell-side engagements.

“Obviously Covid was quite the slam in the road for all moving vehicles,” said Donoghue.

“The deal flow since the Covid shutdown and today has declined precipitously” 

Kevin Donoghue, Mystic Capital Advisors Group

Deals that were in the process of being completed when the pandemic and associated lockdown hit have been completed, or are on their way to being completed, said Donoghue.

But, Donoghue said, “the deal flow since the Covid shutdown and today has declined precipitously”.

“We think we’ll see a massive decline for the year,” he added.

For now though, Donoghue said there are still some deals in the market, although the overall number has declined considerably.

Kimmel said K2 is still looking to complete transactions. At the end of May, the company completed its previously announced acquisition of London-based MGA Pioneer Underwriters.

“People still remain positive in looking to do deals,” he said.

Sackett said his firm has also been on M&A transactions during the pandemic.

“We did close two deals prior to Covid, and we’re in the midst of closing our third deal this year. We also remain an active acquirer in this space,” he said.

Acquiring entire businesses may be difficult at present, and so Kimmel said an alternative for K2 was bringing in teams of underwriters.

“Historically K2 has done about 19/20 deals, and 10 have been start-ups,” he said. That involved finding underwriting teams at insurance companies, building MGAs and systems around them and then securing capacity to write business.

Kimmel said K2 has already started two new programs this year, and more are in the pipeline.

Valuations not dropping

For the time being, valuations have, for the most part, remained steady, with only those directly impacted by Covid-19 affected at this stage. However, a second wave of Covid-19 infections would lead to more widespread reductions in valuations.

Traditionally valuations have been based on a multiple of trailing or future Ebitda – usually two to three years and also a further look-forward, Kimmel said.

“That’s still the method,” said Kimmel, and even with the impact of Covid-19, he does not think valuations have changed much for the businesses his company has looked at, although “obviously the Ebitda component might be affected”.

“We’ve seen a resurgence of Covid in certain states and if winter comes and Covid comes back and we all have to go back home, I think valuations will be impacted greatly” 

Bob Kimmel, K2 Insurance Services

As Doxa’s Sackett explained, companies that have been hit hard by Covid-19 – those with big entertainment, sports or hospitality books for example – may temporarily halt potential sales and wait for the economy to improve to benefit from the associated uplift in projected Ebitda.

For those not affected by the lockdown, Sackett said transactions “are moving forward pretty well”.

“With regards to valuations, it’s business as usual for those not directly impacted [by Covid-19],” he said.

A second wave of Covid-19 would have a significant impact on valuations, however.

“We’ve seen a resurgence of Covid in certain states and if winter comes and Covid comes back and we all have to go back home, I think valuations will be impacted greatly. We’re not viewing things that way, but it could certainly happen,” said Kimmel.