Aon/Willis Towers Watson: Divestitures’ Impact Divides Deal Critics as DOJ Weighs Proposal

Published on May 13, 2021

Opponents of Aon’s (AON) proposed Willis Towers Watson (WLTW) acquisition and other industry participants are divided over whether the insurance brokerages’ divestiture plan would address enforcers’ antitrust concerns with the $30 billion deal, sources familiar with the matter said.

One reinsurance industry participant critical of the original deal told The Capitol Forum that Aon’s $3.6 billion plan to divest insurance and reinsurance broking assets to rival Arthur J. Gallagher (AJG) is “quite a good outcome,” and positions Gallagher to effectively restore competition.

But other deal opponents and industry participants said the divestitures are wholly inadequate and would still leave corporate clients with fewer broking options post merger. Some critics have said the merger’s harm to these large clients can’t be remedied, particularly when it comes to facultative reinsurance broking, and that DOJ should sue to block it full stop.

Facultative reinsurance covers one or more specific, often complex, risks to which insurers and large companies are exposed. The other type of reinsurance—treaty—extends to all the clients’ risks.

For months, enforcers reviewing the transaction have expressed concerns about large corporate customers being worse off if Aon went through with the Willis transaction as originally proposed.

The enforcers will weigh the clashing industry views about the Aon divestiture proposal, unveiled Wednesday, before deciding how they’ll proceed.

The European Commission didn’t buy the opponents’ arguments: European competition chief Margrethe Vestager is said to be on board with the proposed remedies, paving the way for EC clearance without a Statement of Objections.

That now positions DOJ as the deal’s most significant remaining antitrust hurdle, although the Australian and New Zealand competition agencies have also voiced strong reservations about the tie-up.

After Wednesday’s announcement, DOJ staff was tight-lipped, simply pledging to those privy to the review that it will closely analyze the agreement between Aon and Gallagher before deciding how to proceed, a source familiar with the matter said.

The department’s poker-faced response keeps its options open. President Joe Biden hasn’t nominated someone to head DOJ’s antitrust division, likely leaving the decision on Aon/Willis to Acting Assistant Attorney General Richard Powers.

Anticipating the additional time enforcers will take to scrutinize the divestiture proposal, Aon, which as recently as last week said that it expected to close the deal by June 30, on Wednesday extended the expected closing timeline to the third quarter.

Spokespeople for Aon, Willis and DOJ declined to comment.

Unfixable? Through the remedy proposal, Aon will divest a bevy of assets to Gallagher, including Willis’ insurance broking teams in space and aerospace, as well as insurance broking operations in France, Spain, Germany, the Netherlands and Bermuda.

In addition to some accounts overseen by Willis’ San Francisco and Houston offices, Aon would divest broking services for financial instruments exchange (Finex), and property and casualty insurance in continental Europe, the UK, Brazil, Hong Kong and the U.S.

These services are focused on multinational companies based in Germany, France, Spain and the Netherlands. Gallagher would take over managing Finex accounts for multinational companies headquartered in the UK.

The package’s focus on European customers could be because Gallagher is strongest in the U.S. In fact, Gallagher’s U.S. retail brokerage revenue is larger than Willis’, according to an industry publication’s ranking.

Most of Gallagher’s revenue, though, is generated from mid-tier customers while Willis focuses on larger companies.

For almost half a year before Aon and Gallagher reached their agreement, some deal opponents have told DOJ and the commission that the deal was essentially unfixable, as it would shrink from three to two the number of companies that serve these large insurance broking customers.

The large customer segment is “definitely a big issue,” said a former Willis Towers Watson executive not involved in the DOJ discussions. “To be able to secure fully coordinated risk transfer brokerage, claims coordination and local service in multiple countries, my global clientele at Willis could realistically only go to Aon or Marsh [& McLennan] for a comparative level of services.”

Aon’s divestiture proposal hasn’t changed the opponents’ view that Gallagher won’t replace Willis as a strong option for multinational insurance broking customers.

The package also doesn’t address Aon’s and Willis’ overlapping health benefits consulting, private retiree health exchange and pension actuarial services businesses in the U.S., the opponents said.

Facultative reinsurance. Deal opponents said that the remedy proposal won’t restore competition even in the area in which it seemingly resolves the merging parties’ entire overlap—reinsurance broking.

Through the proposed divestiture, Gallagher would take over Willis Re, the company’s treaty reinsurance unit.

Gallagher will also acquire Willis’ “cedent” facultative broking business, which works with insurers to spread a specific risk to reinsurers. For example, an insurer that’s writing a policy covering a company’s 10 locations could use the facultative broker to offload the risk for one location that faces outsize earthquake exposure.

Aon would retain the facultative reinsurance business that typically caters to insurers looking to unload risk onto a panel of other insurers.

The divestiture package falls short on mitigating the harm to the reinsurance broking market, opponents said, because Aon would keep the all-important “placing brokers” who facilitate the original insurance coverage for corporate customers.

These brokers, who possess intimate knowledge of the customers’ businesses, risk profiles and policies, are integral to the facultative reinsurance broking process; their absence from the divested Willis business would weaken it, the opponents said.

Insurance industry sources told The Capitol Forum that deal opponents had a point.

The problem would be especially noticeable to large clients, an industry insider said.

“A large commercial account probably has more of a relationship with a broker” than a smaller company, the industry insider said. “It could be more of a concern” to those large commercial clients if that broker wasn’t part of the company delivering facultative reinsurance.

This might be especially true if the information the broker knows about the customer is sensitive, according to a 2019 report by the UK’s Financial Conduct Authority (FCA).

“A need for client confidentiality may prevent reinsurance being placed through alternative brokers,” the report said.

In addition, some brokers might even require the customer to use their firm’s reinsurance services.

Cost is also a potential factor. Using the same brokerage for both insurance broking and facultative reinsurance could result in efficiencies that “could be reflected in a lower broking commission or better speed or quality of placement,” the report said.

This scenario isn’t just speculation. Out of 6,200 reinsurance placements the FC examined, 3,800, or 65%, stayed with the original broker’s firm, according to 2016 figures.

Although the same brokerage often handles both the original insurance and facultative reinsurance placement, the two services aren’t totally tied at the hip, said the one-time deal critic who views the Gallagher package as resolving his firm’s concerns.

Placing brokers lack their facultative counterparts’ in-depth knowledge of reinsurance, the industry participant said. Even if the client sticks with the same firm, it’s likely to be dealing primarily with the reinsurance brokers and not with the placing broker.

The industry participant acknowledged that a majority of cedent facultative reinsurance business stays with the placing broker’s firm, but the minority that doesn’t—a third or more—is considerable. That should mean that the divestiture, which both bulks up Gallagher in insurance broking and gives it a large reinsurance presence, should position the firm to compete effectively in facultative reinsurance broking, the person aid.

Placing brokers wield less influence with treaty services because it’s more common in that reinsurance market for rival firms’ brokers to facilitate the original coverage, industry sources said.

Gallagher. Deal opponents are giving short shrift to Gallagher, said the industry participant. The Rolling Meadows, Illinois-based company is already strong competitor, particularly in the U.S. middle market and in specialty insurance brokerage services, the industry participant said.

Gallagher, which generated $5.1 billion in brokerage revenue last year, is large enough to acquire and integrate the divested assets, which would largely elevate the company to Willis’ level in broking services, the industry participant said.

The brokerage has bought hundreds of companies over the past 20 years, and the Willis divestitures would accelerate Gallagher’s evolution into a global player, the former Willis executive said.

The aggressive acquisition strategy has forced Gallagher to become adept at researching the companies it’s buying. That means the company almost certainly assessed its ability to retain most of Willis’ facultative reinsurance broking business before signing the agreement with Aon.

Despite operating a relatively small reinsurance business now, the company’s Gallagher Re segment already works with large insurers, and is positioned to offer competitive direct retail and wholesale broking services, the industry participant said.

Well-entrenched in London, Gallagher would become a significant presence in continental Europe through the divested assets, the industry participant said. That’s important, as Europe, which is seen as difficult to enter organically, was a key area of weakness for the brokerage.

With the Willis assets, Gallagher would become the world’s No. 3 reinsurance broker with a presence in 25 countries and 2,300 additional employees, CEO J. Patrick Gallagher said on a Wednesday conference call with financial analysts. The company would fold most of Willis Re and the facultative business into Gallagher Re, he said.

A new No. 3. Deal critics, however, said that Gallagher is too small to successfully integrate all of the Willis divestitures and become a true alternative to Aon and Marsh in reinsurance and insurance broking.

In addition to the facultative reinsurance issue, deal opponents have told DOJ that any proposed remedy would fail to put an acquirer on an equal footing with post-merger Aon and Marsh when it comes to data, actuarial capacity and other capabilities.

Deal opponents have also said that Gallagher lacks true global reach—whereas the Big Three each have global networks of wholly-owned offices, Gallagher doesn’t. The proposed remedy, although it would strengthen Gallagher in Europe, still won’t give the company a global office presence.

Global reach is important, industry sources have told The Capitol Forum. The Big Three brokers through their offices around the world can offer multinational clients better local institutional knowledge, continuity and coordination than can brokers like Gallagher who seek to cover global risks through affiliate networks.

The Australian Competition and Consumer Commission (ACCC) in a February 18 statement of issues on the deal identified this question as a key concern.

“The smaller international brokers do not operate in as many jurisdictions as the three large brokers. Large customers indicated that the broker alliance model was not substitutable for the one-stop-shop offering of Aon, WTW and Marsh,” the commission said.

Gallagher will have to work quickly to convince insurers and large corporate customers that it can become the market’s new No. 3, and effectively replace Willis Towers Watson.

That’s because now “multinational firms that are doing business in 10 or more countries can’t go to anybody but the Big Three for enterprise-wide advice and service,” the former Willis executive said.