Private Equity and Insurance Partnering Again

Private equity activity in the U.S. insurance sector has always been robust with investment reaching $132 billion by the end of 2022, according to AM Best. However, there was often a lingering lack of trust from sellers, concerned about what would happen to the business they had built. Despite that, activity continued for decades until recent economic factors caused a decline in M&A activity, most pronounced in 2023.

As we enter 2024, things have noticeably changed. Even with M&A in the insurance sector down overall, business pressures including capacity constraints, the need for new technology and operational support have made partnering with private equity a more desirable option. Agency owners realize the need to innovate and, as a result, more opportunities are emerging with PE sponsors that have these capabilities and can partner effectively with agency owners.

How Did We Get Here?

For many insurance agency owners who had withstood the challenges of COVID, private equity investment—usually in the form of joining a private equity backed aggregator—was the light at the end of the tunnel. Unfortunately, as debt got more expensive and economic uncertainty loomed, both the number of buyers and valuations being offered quickly declined. For those unwilling to sell for less due to what they believed to be temporary market conditions, the decision to wait became a more common choice.

According to research from Optis Partners, insurance M&A was down 24% in the first half of 2023 from the same period the year prior, marking the lowest H1 deal volume since 2020. Things got even worse in the second half with a 34% year-over-year decline in Q3 deal volume.

These circumstances may have been less of a factor for some of the large, often publicly-listed strategic buyers, but these buyers narrowed their focus to preserve their cash and available debt to use towards larger acquisitions, often focusing on top 100 agencies. All of this left many mid-sized and lower middle-market firms on the sidelines.

As a result, potential sellers spent the past year waiting in vain for the economic outlook to improve. All the while, pressures on their businesses continued to mount. The last two years saw increased constraints in getting appointments with carriers for many small agencies. The significant hardening of the market, with pricing going up as increasing losses drive premiums higher, has rates rising meaningfully and some carriers exiting lines of business altogether. In addition, competition for talent and difficulty in generating a consistent flow of new business leads have contributed to the hardship.

The New Normal

But all is not lost. Interpreting the drop in M&A volume as a sign that there is no longer any seller appetite, or that joining a larger platform has become less attractive, would be inaccurate. In reality, today we see growing interest among small and mid-sized insurance agency owners in partnering with a private equity firm, and there is a new wave of aggregators taking advantage.

Interpreting the drop in M&A volume as a sign that there is no longer any seller appetite, or that joining a larger platform has become less attractive, would be inaccurate. In reality, today we see growing interest among small and mid-sized insurance agency owners in partnering with a private equity firm, and there is a new wave of aggregators taking advantage.

There has also been a big change in how generational succession factors into dealmaking. Over the past 20-to-30 years, it was common for small insurance business owners to pass down their business to the next generation of the family. The younger generation often grew up in the business, so they had firsthand knowledge and experience of the overall operation.

With a cultural shift away from kids taking over the family business, many small insurance business owners lack natural successors. The older generation has fewer opportunities these days to hand the business down, and even long-term senior employees may not have the entrepreneurial instincts, capital or will to take over. This provides the opportunity for private equity firms to partner with insurance businesses and map out a longer-term growth plan while the original owner stays in a prominent role and moves toward retirement.

Combined with these factors are a few big changes in agency owners’ perspective about M&A overall and the prospect of partnering with private equity that we believe will lead to a marked uptick in insurance M&A in 2024.

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First, the desire for new capital without any changes to the business has largely disappeared. In fact, the pendulum has swung the other way, in which owners realize that change is necessary to drive sustained growth. More sellers are embracing this change because they value additional resources to help with leads, hiring, training and other parts of their business if they truly want to capture the opportunity.

Second, there is an increased need for technological resources. Many smaller brokers feel left out and that they can’t compete because they don’t have the same technology, which has become table stakes, as the larger competitors. New, leading-edge sales and marketing technologies that allow agencies access to more data and that give them greater ability to analyze that data are critical. When a small or mid-sized agency can identify specialists by business sector or other demographics and can leverage data sources to quickly identify relevant prospects, they even the playing field.

Other means of supporting growth include the blocking and tackling of effective implementation of agency management and customer support systems. For individual smaller agencies, implementing these technologies are effectively out of reach because of limited time and resources. But as part of a platform, these systems can be effectively put in place as the group shares its expertise and resources amongst a number of member agencies. Private equity firms can drive this type of technology transformation, especially with older businesses.

Third is a recognition of the need to professionalize the business. Many agencies are run by entrepreneurial leaders with outstanding technical and sales abilities, but they are limited by time and management priorities to a size that they can manage effectively by themselves. However, at this stage of maturity, new skills and more diverse experiences are required to enable the business to continue to grow beyond these limits. Private equity-backed platforms are created with the ability to scale continued growth by institutionalizing change as an upfront component of the business, including recruiting new talent, assessing areas for operational improvement, and driving needed enhancements to systems and processes throughout the organization.

Finally, there is greater interest in expanding agencies’ offering. Without access to a range of carrier options, this issue drives the need for small insurance agencies to partner with a larger platform and gain access to new opportunities to write specialty lines of business for their customers. In addition, the platform brings not just the opportunity through carrier relationships, but also access to producers with knowledge of specialisms to execute immediately.

An ancillary benefit to small and mid-sized agencies partnering with private equity is that the infusion of capital, business resources, and energy can provide a significant boost to recruiting the next generation of leaders to the business. Insurance has been an aging business for some time now, but it does not have to submit to this trend. New technology and other innovations are having a positive impact and improving perceptions, but agencies cannot be complacent. A private equity firm can help develop and implement unique and interesting ways to attract young talent, such as offering ownership and building platforms with a clear focus on employee success.

With these dynamics in the sector, you can see why there is a real desire for private equity firms to build, and for insurance agency owners to join, strong, sustainable platforms. However, this doesn’t mean that the need for trust has gone by the wayside. Aligning on areas of enhancement of the business and strategic vision are critical to creating a strong partnership with greater certainty between insurance business owners and a private equity firm sponsor. When that trust is achieved, the resulting partnership can smooth the path for both organic and M&A driven growth.

John Block is Co-founder and CEO of Unity Partners.

Middle Market Growth is produced by the Association for Corporate Growth. To learn more about the organization and how to become a member, visit www.acg.org.